Recently the Supreme Court in the case of Edelweiss Financial Services Ltd.(the Edelweiss case) has held that service tax is not leviable on issuance of corporate guarantee by the parent company to subsidiaries in absence of any consideration. But does this give any relief to taxpayers under the GST laws? Maybe not.
Corporate guarantee is an arrangement within the group companies wherein an associate entity (usually the parent company) agrees to act as a guarantor for its group entity (subsidiary company) while securing finance/ loans/ debts from a financial institution. These arrangements are executed either without any consideration or with a nominal commission on the total loan amount.
Under the service tax regime, revenue authorities argued that issuance of corporate guarantee is a supply of taxable service categorised under “Business and Other Finance Services” or “Business Auxiliary Services” and accordingly, demanded service tax on the same. However, the Supreme Court in Edelweiss case concurred with the CESTAT judgment, and held that for any service to be taxable under service tax laws, there should be a flow of consideration. In the given case, Edelweiss did not receive any consideration against the corporate guarantee issued to its group companies. With this judgement, the industry has uttered a sigh of relief as this judgement has resolved a long-standing conflict on leviability of service tax on issuance of corporate guarantee.
The issue of whether the issuance of corporate guarantee is in itself a ‘service’ or not still remains unresolved.
The CESTAT, on many occasions, had delved into the issue of whether the activity of issuance of corporate guarantee qualifies as a ‘service’ or not under the service tax regime . In the case of Olam Agro, it has been held that the nature of the corporate guarantee and bank guarantee is same i.e., facilitation of the lending facilities. Thus, commission paid by the subsidiary entity to the parent entity against the issuance of corporate guarantee will be chargeable to service tax under the ‘Business Auxiliary Service’. On the other hand, CESTAT Chennai in the case of Sterlite Industries gave a contrary decision and held that a corporate guarantee is given by the corporate to cover their own exposures as a group or exposures of some related entity to their bank. For banks, providing guarantee is part of their regular course of business, and so the issuance of corporate guarantee is not liable to service tax.
Such contrary decisions by the Tribunals have created confusion on the issue of taxability of corporate guarantee. Even under the GST regime, till date, there is no clarity regarding taxability of corporate guarantee per se. ‘Service’, as defined under the GST laws means anything other than goods, money and securities. Although the definition of ‘Service’ is quite broad to cover anything and everything, it can be argued that a transaction of corporate guarantee is akin to quasi-capital or shareholder activity such as capital investment, buy-back of shares, venture capital etc., which are performed by the group entities to cover the financial exposure of the entity as a whole, and can be classified as transaction in money. Moreover, by taking guarantee for the financial well-being of its group company, it cannot be said that the parent company is rendering service to such group company. Accordingly, provision of corporate guarantee should be classified in the same manner as other capital investment activities.
Further, corporate guarantee is purely commercial in nature, issued for enhancement of gains for its group company and thus, the group as a whole. A guarantor does not arrange financing for the debtor, but merely executes a financial instrument in its favour. As a result of issuance of such corporate guarantee, no benefit as such accrues to the subsidiary company.
However, the CBIC vide Circular clarified that the service of issuance of guarantee by government to business entities including PSUs for consideration shall be taxable. Basis this, Revenue authorities might argue that the activity of issuance of corporate guarantee is a supply of service and hence, taxable under the GST law. In this regard, one more issue which needs to be addressed is regarding corporate guarantee being issued without consideration. Under the GST laws, transactions between related parties in the course or furtherance of business, even without consideration, is treated as ‘supply’ and liable to GST. It is pertinent to note that the decision of the Supreme Court in the Edelweiss case is based upon absence of consideration between the guarantor (parent company) and the borrower (subsidiary company). However, for related parties under GST law, presence or absence of consideration will not absolve liability of paying GST on part of the guarantor i.e. parent company.
There can be different arguments wrt taxability of corporate guarantee under GST. However, on plain and combined reading of relevant provisions, supply of corporate guarantee does qualify as supply of service under GST. The logic of absence of consideration may not be acceptable as provisions of Schedule I are apparent where consideration is not required in related party transactions. Thus, due to lack of clarity this issue may potentially serve as a landmine for potential litigation for corporates engaged in the practice of issuing corporate guarantees. In order to give some relief and to safeguard the spirit of ease of doing business, the government should come out with some clarifications.
Smita Singh is Partner and Megha Tewari is Sr. Principal Consultant at S&A Law Offices.
