LEVY OF GST ON GUARANTEES

[Dr. Sanjiv Agarwal]

Taxability of corporate guarantee as a taxable supply under GST has been a contentious issue. Companies provide guarantees for loans taken by their subsidiaries to protect investments. Many times, directors of the company provide guarantee for loans in their personal capacity in normal course of business.

The Supreme Court, in a recent ruling under Service Tax law held that the issuance of a corporate guarantee in favour of a subsidiary company would not attract service tax in the absence of a consideration.

Under GST regime, however, under Schedule I of the Central Goods and Services Tax (CGST) Act, 2017, supply of goods or services among related persons in the course of or in furtherance of business without consideration qualifies as supply and hence attract GST.

Section 15 (5) of the CGST Act entrusts the Government with the power to notify the value of certain supplies. The concept of deemed valuation of 1 percent of value of guarantee also distorts the valuation principles as per prevailing law. This may also prove to be against actual commercial transaction in some cases. It also goes against OECD guidelines on shareholder related activities.

While corporate guarantee is given by a company / body corporate to secure any obligation on behalf of other entity, generally other entity in the same group of companies or by a holding company on behalf of any of its subsidiary or associate entity, personal guarantee is generally given by promoters - directors and / or directors of company to provide extra assurance to the lender to secure the financial or other obligations granted to the company.

GST Council Recommendations

GST Council in its 52^nd Council meeting held on 7^th October, 2023  clarified / recommended on taxation of guarantees given by corporates and directors in their individual capacity.

• Personal guarantees given by directors to banks / financial institutions for corporate borrowings on behalf of company

• Where company pays consideration to director in any form – directly or indirectly - to be taxed at open market value.
• Where no consideration is involved – value to be considered as zero and no tax payable

• Corporate guarantee on behalf of related parties / subsidiaries

• To be taxed on taxable value as per new Rule 28(2) in CGST Rules, 2017 @ equal to one percent of value of guarantee on actual consideration, whichever is higher, irrespective of whether full ITC is available to the recipient or net.
• To be taxed @18@GST

According to recommendations of GST Council, a parent company’s corporate guarantee to its subsidiary for bank loan shall attract 18 percent GST. However, there will be no GST levied if a director provides a personal guarantee for a loan from a bank or any financial institution or lender to his / her own company when there is no consideration flowing to him. When the personal guarantee is given by a director to company then the value of service will be deemed to be zero, hence no tax. When no consideration is paid by the company to the director in any form, directly or indirectly, for providing personal guarantee to the bank / financial institutions on its behalf, the open market value of the said transaction / supply may be treated as zero, and hence, no tax need to be paid. However, the taxable value of supply of corporate guarantee provided between related parties (parent company and subsidiary or associate or sister firm) will be deemed to be one percent of the amount or value of such guarantee offered, or the actual consideration, whichever is higher.

Gist of Taxability of Guarantees by Corporates / Directors

• Levy of GST @ 18%
• Both types of guarantees covered – personal / corporate
• Personal guarantees without any consideration – not taxable
• Personal guarantees backed by consideration from company-taxable.
• Apply to both- promoter - directors / other directors
• Corporate guarantee to be taxed whether with or without consideration
• Value of service to be higher of actual consideration or 1% of guarantee value- deemed valuation
• Change in Rules / Clarification to be notified

Applicability of Reverse Charge

According to section 9 (5) of CGST Act, 2017 reverse charge mechanism is applicable to certain cases where tax liability is to be discharged by the recipient of services. In terms of Notification No. 13/2017-CT(Rate) dated 28.06.2017, one such service is services of a director. Entry No. 6 states that following service shall be covered under reverse charge mechanism where-

• Service is supplied by a director of a company or a body corporate to the said company or the body corporate.
• Service provider is a director of company or a body corporate.
• Service receiver is the company or a body corporate located in the taxable territory.

Since the person gives his personal guarantee in his /her capacity as an individual director of that company and not in any other capacity, cases of giving personal guarantee to body corporate or company shall be covered under reverse charge mechanism. If such personal guarantee has been given in any capacity other than being a Director (e.g. manager, KMP or promoter – non-director), reverse charge mechanism may not be applicable.

Impact on business entities

The taxability of corporate guarantees would impact the corporate taxpayers and business entities as it would add to cost where input tax credit can not be availed. For individual directors giving personal guarantee, reverse charge mechanism would be applicable.  In cases where output supplies are not taxable or are exempt, it would simply add to cost and input tax credit accumulation where input tax credit can not be availed. The companies may also face issues in identifying related party and related party transactions.

Final word

In view of GST Council’s recommendations, corporate guarantees given in favour of related parties will be liable for 18 percent goods and service tax (GST) on 1 percent of the amount guaranteed or on the actual consideration, whichever is higher. However, personal guarantees offered by the promoters or directors of the company shall not attract tax. The move on implementation is expected to resolve conflicts on levying GST on personal and corporate guarantees between related parties.

While the issue of taxation of corporate guarantee is already under litigation and show cause notices are under different stages of adjudication, it is to be seen as to what would be the fate of such ongoing proceedings. Will this be applicable with retrospective effect or prospectively! Council’s recommendations are silent on this. However, in all fairness, it ought to be prospective only.