Indirect tax specialists are eagerly awaiting clarification regarding the imposition of GST on corporate guarantees provided by Indian companies on behalf of their subsidiaries, following a notification issued by the finance ministry in October.
The notification issued on October 26 clarified the valuation of transactions involving corporate guarantees where no financial consideration is involved.
This development follows a series of tax demand notices sent out by the Directorate General of Goods and Services Tax Intelligence (DGGI) last year to Indian companies concerning financial guarantees issued by them on behalf of their subsidiaries. Previously, companies were not subject to GST on corporate guarantees since typically no financial consideration was involved from the subsidiary.
However, tax authorities argued that providing such guarantees constitutes a taxable service under GST as it is undertaken by the parent company to enhance its returns on investment in the subsidiary.
Subsequently, the Central Board of Indirect Taxes and Customs (CBIC) clarified in October that for such guarantees, when the parent company receives no financial consideration, a notional value equivalent to 1% of the guaranteed sum would be assigned.
However, it remains unclear whether GST will be levied on the guarantees annually or for the entire duration of their effectiveness, experts pointed out.
‘Despite recent government clarifications, uncertainty persists regarding the timing and valuation of tax applicable to corporate guarantees, especially for long-term agreements,’ noted Saurabh Agarwal, Tax Partner at EY.
There is also confusion regarding the valuation of guarantees issued before the issuance of the finance ministry notification. GST was implemented in July 2017, while the notification was issued in October 2023. Tax experts are seeking clarity on the valuation of corporate guarantees during this interim period.
‘Valuation of Corporate Guarantee has been a consistent topic of debate since the implementation of GST,’ remarked Payal Thaker, Partner at BDO India.
‘Since 26 October 2023, amendments to the valuation provisions have brought clarity on this matter. However, the valuation of corporate guarantees issued before the amendment remains unclear as the amendment is prospective,’ she added. Ideally, the valuation provisions for related-party transactions existing prior to the amendment should apply to past corporate guarantees, she suggested.
Another area of confusion is whether a similar tax will be imposed on letters of comfort provided by companies on behalf of their subsidiaries. Unlike corporate guarantees, a letter of comfort is not legally enforceable. However, it is issued by a company to support the business of its subsidiary and may be viewed as a means to enhance returns on investment.
‘Since a letter of comfort from a reputable company can assist its subsidiary in securing a loan or obtaining favorable terms, tax authorities may consider it a service, similar to corporate guarantees, and impose GST on the consideration for providing such a letter,’ explained Ranjeet Mahtani, partner at Dhruva Advisors. ‘In my opinion, a letter of comfort does not constitute a supply, namely a service involving a commitment or assurance regarding repayment of borrowed funds, and therefore should not be subject to GST.’
The confusion arises because, under the GST regime, services provided to related parties for business advancement are considered supplies subject to taxation, even if no financial consideration is involved. This renders several common business practices subject to taxation depending on the interpretation of tax officers.
‘The ambiguity surrounding corporate guarantee GST creates unnecessary burdens for businesses,’ says a Vakilsearch GST expert. Seeking guidance from a qualified professional from Vakilsearch can help navigate GST related complexities and ensure compliance.
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