Determination of value for transactions between the Related parties under GST Laws.
October, 18th 2016
Determination of value for transactions between the Related parties under GST Laws.
This article is in continuity of Author’s earlier articles in regard to transition of registration and input tax credit from present regime to GST regime. In the earlier articles, legal provisions in regard to transition of registration and closing balance of input tax credit from present regime to GST regime were discussed in detail and it was explained that registration as well as input tax credit will automatically be transferred to GST regime subject to certain conditions.
As a matter of principle, tax will be leviable under GST law at each stage of transaction at the prescribed rate. Tax will be leviable on the value of the transaction entered into between the parties. Section 15 of Model GST Lawprovides that for the purpose of levy of tax value of the transaction shall be accepted if the supplier and the recipient are not related and the price is the sole consideration. Accordingly, it is a condition for adopting the transaction value for the purpose of levy of tax that the parties should not be related to each other and the price should be the sole consideration, meaning thereby, the price should be determined as if they are the independent parties. The aforesaid condition obviously has been imposed to avoid under valuation of transactions between the parties who are related to each other.
The term “related person” has been defined under Model GST Law vide section 2(82) as under:
(a) They are officers or directors of one another's businesses;
(b) They are legally recognized partners in business;
(c) They are employer and employee;
(d) Any person directly or indirectly owns, controls or holds five per cent or more of the outstanding voting stock or shares of both of them;
(e) One of them directly or indirectly controls the other;
(f) Both of them are directly or indirectly controlled by a third person;
(g) Together they directly or indirectly control a third person; or
(h) They are members of the same family;
As per the above provision, the definition of related persons is very wide and extends to even the employer & employees, family members, etc.
In the aforesaid background and the provisions of Model GST Law, it is important to examine the provisions which will govern determination of transaction value in case the transactions are between the related parties. In this regard, Rule 3(4) of GST Valuation Rules provides that transaction value shall be accepted where the supplier and recipient are related parties, provided that the relationship has not influenced the price of the goods and service. Accordingly, in the circumstances where the relationship of the parties has not influenced the value, transaction value shall be accepted by the Officer. However, as per Rule 7, if the officer has any reason to doubt the truth and accuracy of the transaction, he may ask the supplier to furnish the details / information to justify the value. In case the officer is still in doubt, the transaction will be deemed to be transaction not as per the valuation principle and the assessing officer will determine the transaction value. Before rejecting any transaction value between the related parties, the officer shall, however, supply in writing the grounds for having doubt in regard to truth and accuracy of the value and also give proper and reasonable opportunity to the supplier to present his case. If after hearing the supplier, the officer is not satisfied, the officer shall determine the value after recording the reasons for the same. Under the GST valuation rules, there are set of rules which provide the manner of determining value of the transaction undertaken by the related parties. These rules are as under:
Comparative Method - Vide Rule 4, it has been stated that where the value determined is not the proper transaction value, the value shall be determined on the basis of transaction undertaken by such supplier with other customers of the goods / services of like kind and quality. However, in determining the value on the basis of comparison, certain adjustments are prescribed in Rule 4(2) which the officer shall consider while determining the transaction value. The adjustments prescribed includes difference in dates of supply, difference in commercial level and quantity level, difference in composition / quality and design between goods and services and difference in freight and insurance charges depending on place of supply. However, if the valuation is not determinable under Rule 4 then the officer will proceed to Rule 5 in determining the value which is called a computed value method.
Computed value method – Vide Rule 5 of the GST valuation rules, it is stated that in order to determine the transaction value various types of costs are added for providing goods / services. The cost towards design & brand of the goods are also added and the amount towards profit and general expense are also added to cost in order to determine the transaction value. Even if the value is not determinable under Rule 5 above, the officer will further proceed to Rule 6 which is residual method for calculating the value.
Residual Method - Vide Rule 6 of the GST Value Rules, the value shall be determined using reasonable means consistent with the principles and general provisions of these rules.
It is stated in this regard that vide the aforesaid rules of Model GST law, discretionary powers have been given to the officers to hold that transactions between the related parties are not at the appropriate price. In such a case, he can determine the value of the transactions as per rules mentioned above. These rules provide discretionary powers to the officers for determining the transaction value. Further there are certain terms used in the provisions like value is “significantly lower or higher”, “reason to doubt”, etc. which are vague and subject to litigation.
In these circumstances, it is stated that these discretionary powers will lead to litigation. It is also important in this regard to examine whether such powers were necessary to be provided under the law. As per GST law, tax will be leviable at the prescribed percentage at each of the stage of transaction. Accordingly, in case intervening transactions i.e. prior to the last transaction with the consumer, are between the related parties and assuming same are at value less than the reasonable value, the tax if charged at a lower value at the initial stage, same will be charged at the higher value at the second stage when the buyer will further sell the goods or will use for the manufacturing process or for providing any services, etc. In totality, there will be no tax impact on under valuation at initial stages of the transactions. There can be impact only if the final consumer is the related party and at that stage the transaction is on under valuation. Accordingly, instead of complicating the issue regarding transactions at every stages, the law ought to have provided that in case the final consumer is a related party to the supplier, the related rules discussed above regarding determination of value will be applicable.
In this regard, reference can be made to existing provisions of Excise & Customs laws. Presently, Section 4(1) of the Central Excise Act read with Rules 9 & 10 of the Central Excise Valuation Rules, 2000 deals with related party transactions. Similarly, Second 14 of Customs laws deal with related party transactions. Under both the above laws, if the transaction is undertaken between related parties and such relationship has influenced the transaction value, the officer may proceed with determination of correct transaction value. Under GST Laws, the Government has carried such kinds of provisions of Excise & Customs laws in regard to related party transactions. However, in applying such principles / provisions under GST laws, the Government has ignored that such provisions are not much relevant in GST law for the reason that under Excise & Customs laws, Cenvat of the duty paid at the manufacturing stage or at the stage of import into India, is not available to the dealer when the dealer is entering into next stage of transaction i.e. a manufacture entering in to trade stage or an importer entering into stage of manufacturing / trading. Therefore, if at any stage either at the time of import of goods or at the time of manufacturing goods, the price is influenced / undervalued due to relationship between the parties, there would a revenue loss. However, under GST law, since there is smooth flow of credit, there would not be any revenue loss even if any intervening transaction in the chain is undervalued unless it is a last sale i.e. the sale for consumption.
In the light of above discussion, it seems very unreasonable on the part of the Government to check each transaction undertaken by the related parties. The Government should have restricted the scope of such provisions to the transactions undertaken between the last seller and the consumer. These kinds of provisions are unnecessary complicating the GST law and will lead to litigations.