Introduction:
The Goods and Services Tax (GST) marks a pivotal transformation in the landscape of taxation, fundamentally altering the way taxes are assessed and collected. Enacted to establish a unified tax regime, GST consolidates a multitude of indirect taxes into a cohesive framework.
Delving into its intricacies, particularly concerning Related Party Transactions, holds paramount importance for businesses endeavouring to navigate the realms of regulatory compliance and financial prudence effectively.
GST implementation & Objectives:
Introduced in India in July 2017, GST amalgamates an array of levies such as Value Added Tax (VAT), Service Tax, and Excise Duty into a singular tax structure. This sweeping reform aimed at eradicating the cascading effect of multiple taxes, fostering the creation of a more integrated and harmonized national market.
For businesses, this monumental shift necessitated a comprehensive restructuring of their tax reporting and compliance apparatus, ushering in a new era of fiscal governance.
Definition and Scope of Related Party Transactions:
Related persons are defined u/s 2(84) of the GST Act which states that persons shall be deemed to be related if they fall under any of the categories below:
Officer or director of one business is the officer/ director of another business
Businesses legally recognized as partners
An employer and an employee
Any person who holds at least 25% of shares in another company, either directly or indirectly
One of them controls the other directly or indirectly
They are under common control or management
The entities together control another entity
The promoters or managerial persons are members of the same family
Persons include a legal person who can be individuals, HUF, a company, a firm, an LLP, a cooperative society, a body of individuals, a local authority, a government, or an artificial juridical person. It also includes entities incorporated outside India. Persons who are associated with one another’s business or are a sole agent or sole distributor or sole concessionaire shall be deemed to be related.
Taxation of Related Party Transactions:
In the realm of Related Party Transactions within the ambit of GST, precision is paramount. In accordance with GST regulations, a Related Party Transaction encompasses any exchange of goods or services between affiliated entities, encompassing entities subject to common control or those where familial ties influence management or ownership. The taxation of Related Party Transactions under GST is contingent upon the nature of the transaction and the relational dynamics between the involved entities.
Valuation & Documentation Challenges:
The GST implications concerning Related Party Transactions predominantly revolve around the valuation and documentation of these transactions. It is imperative that such transactions are valued at an 'Arm's Length Price' – a price reflective of what would be charged to an independent, unrelated entity under comparable circumstances. This framework ensures the equitable and market-driven valuation of transactions, thereby mitigating the risk of tax evasion through manipulative transfer pricing practices.
Even in the absence of tangible consideration, Schedule I of the GST Law mandates their taxation based on the open market value. This concept, while theoretically sound, introduces practical complexities. Determining the open market value for related party transactions is no simple feat. Subjectivity and potential disputes cloud the process.
Administrative Challenges for Businesses:
The imposition of GST on related party transactions introduces considerable administrative challenges for businesses. Key points include:
Meticulous Tracking and Documentation: Companies must diligently monitor and record all intra-group transactions to comply with GST regulations. This involves maintaining detailed records of transaction values, parties involved, and the nature of each transaction.
Administrative Burden: The need to comply with GST requirements for related party transactions significantly increases the administrative workload for businesses. Accurate reporting of these transactions in GST returns is essential to avoid penalties and ensure compliance.
GST Return Filing: Filing GST returns for related party transactions demands careful attention. Businesses must correctly classify these transactions and ensure precise reporting to meet regulatory standards.
Input Tax Credit (ITC) Challenges: Claiming ITC on related party transactions can be complex. Companies must reconcile their ITC claims with the transactions reported by their related parties to ensure accuracy and compliance.
Proposed Policy Actions:
To address the complexities associated with GST on related party transactions, policymakers can implement several measures aimed at creating a more efficient and transparent tax environment. Here are the proposed policy actions in detail:
Clearer Guidelines for Determining Open Market Value (OMV):
The process of determining the OMV of goods or services exchanged in related party transactions can be intricate and subjective. Providing clear and detailed guidelines for calculating OMV is crucial to reduce uncertainty and prevent disputes.
Policymakers should incorporate factors such as comparable market prices, industry benchmarks, and standardized valuation methods in their guidelines. This clarity will help businesses accurately determine OMV and ensure compliance.
Relaxation of Stringent Taxation Requirements:
In scenarios where no intense negotiation or profit-driven motives are involved, related party transactions should be considered tax-neutral. This approach would relieve businesses from the additional tax burdens associated with such transactions, thereby simplifying their operational processes.
This policy acknowledges that not all related party transactions are conducted with aggressive pricing or bargaining, and treating them as tax-neutral would better reflect the nature of these transactions.
Following are the special related party transactions that can be focussed on:
Intangible Assets and Intellectual Property Transfers: Transactions involving intangible assets like trademarks, patents, and copyrights between related parties are complex. Valuing these intangibles for GST purposes is difficult due to the lack of a clear market price.
Shared Services and Cost Allocations: When related entities share services or common expenses, such as centralized procurement, HR services, or IT support, the allocation of costs can be contentious. Authorities find it challenging to ensure that cost allocations reflect arm’s length principles.
Marketing and Promotional Expenses: Marketing and promotional activities conducted by one entity for the benefit of related entities can be problematic to value. Authorities struggle to decide how much of the expense should be subject to GST and how to determine the appropriate value.
Corporate guarantee: There have been several cases and conflicting rulings by tax authorities and appellate bodies regarding the GST treatment of corporate guarantees since 2017. The lack of consistent judicial interpretation adds to the uncertainty.
Some cases argue that corporate guarantees provided without consideration between related parties should not be taxed, while others maintain that they should be valued and taxed based on notional values.
Conclusion:
Navigating the GST landscape for related party transactions presents significant challenges for businesses due to complex valuation, documentation requirements, and administrative burdens. Addressing these challenges requires clearer guidelines, potential relaxation of stringent taxation requirements, and focused policy actions.
The GST council needs to adopt some of these measures which will not only simplify compliance but also foster a more transparent and efficient tax environment, ultimately benefiting the overall financial health and operational efficiency of businesses engaged in related party transactions.
Rajat Mohan
Executive Director MOORE Singhi
