MM TAX CLUB

S.No

Issue

Clarification

1

2.

Whether   the   activity   of   providing personal guarantee by the Director of a   company   to   the   bank/   financial institutions  for  sanctioning  of  credit facilities to the said company without any consideration will be treated as a supply  of  service  or  not  and  whether the same will attract GST or not.

Whether   the   activity   of   providing corporate  guarantee  by  a  person  on behalf of another related person, or by the  holding  company for  sanction  of credit    facilities    to    its    subsidiary company,    to    the    bank/    financial institutions,  even  when  made  without any  consideration  will  be  treated  as  a taxable supply of service or not, and if taxable,  what  would  be  the  valuation of such supply of services.

As  per  Explanation  (a)  to  section  15  of CGST  Act,  the  director  and  the  company are to be treated as related persons. As per clause (c) of sub-section (1) of section 7 of the CGST Act, 2017, read with S. No. 2 of Schedule  I  of  CGST  Act,  supply  of  goods or    services    or    both    between    related persons,   when   made   in   the   course   or furtherance  of  business,  shall  be  treated  as supply even if made without consideration. Accordingly,   the   activity   of   providing personal  guarantee  by  the  Director  to  the banks/  financial  institutions  for  securing credit facilities for their companies is to be treated  as  a  supply  of  service,  even  when made without consideration.

Rule 28 of Central Goods and Services Tax Rules,   2017   (hereinafter   referred   to as“ CGST Rules”)  prescribes  the  method  for determining  the  value  of  the  supply  of goods  or  services  or  both  between  related parties,   other   than   where   the   supply   is made through an agent. In terms of Rule 28 of  CGST  Rules,  the taxablevalue  of  such supply  of  service  shall  be  the  open  market value of such supply. RBI  has  provided  guidelines  for  obtaining personal  guarantee  of  promoters,  directors and   other   managerial   personnel   of   the borrowing  concerns  vide  Para  2.2.9  of  its Circular  No.  RBI/2021-22/121  dated  9thNovember,   2021,   which   is   reproduced below:“2.2.9 Guidelines relating to obtaining of personal guarantees of promoters, directors,   other   managerial   personnel, and shareholders of borrowing concerns Banks  should  take  personal  guarantees  of promoters,   directors,   other   managerial

personnel  or  major  shareholders  for  the credit   facilities   granted   to   corporates, public  or  private,  only  when  absolutely warranted  after  a  careful  examination  of the circumstances of the  case and not as a matter  of  course.  In  order  to  identify  the circumstances  under  which  the  guarantee may  or  may  not  be  considered  necessary, banks  should  be  guided  by  the  following broad considerations:.......................C.  Worth  of  the  guarantors,  payment  of guarantee commission, etc Where  personal  guarantees  of  directors are warranted, they should bear reasonable   proportion   to   the   estimated worth   of   the   person. The   system   of obtaining  guarantees  should  not  be  used by   the   directors   and   other   managerial personnel as a source of income from the company. Banks    should    obtain    an undertaking from the borrowing company as    well    as    the    guarantors    that    no consideration whether by way of commission,  brokerage  fees  or  any  other form,  would  be  paid  by  the  former  or received    by    the    latter,    directly    or indirectly. This   requirement   should   be incorporated   in   the   bank's   terms   and conditions for sanctioning of credit limits. During the periodic inspections, the bank's inspectors should verify that this stipulation  has  been  complied  with. There may, however, be exceptional cases where payment     of     remuneration     may     be permitted e.g. where assisted concerns are not     doing     well     and     the     existing guarantors  are  no  longer  connected  with the management but continuance of their guarantees is considered essential because the new management's guarantee is    either    not    available    or    is    found inadequate........................”Accordingly,  as  per  mandate  provided  by

RBI  in  terms  of  Para  2.2.9  (C)  of  RBI’s Circular  No.  RBI/2021-22/121  dated  9thNovember,  2021,  no  consideration  by  way of commission, brokerage fees or any other form,  can  be  paid  to  the  director  by  the company,  directly  or  indirectly,  in  lieu  of providing  personal  guarantee  to  the  bank for borrowing credit limits. As such,  when no consideration  can  be  paid  for  the  said transaction  by  the  company  to  the  director in  any  form,  directly  or  indirectly,  as  per RBI  mandate,  there  is  no  question  of  such supply/    transaction    having    any    open market   value. Accordingly,   the   open market  value  of the  said  transaction/ supply   may   be   treated   as   zero and therefore,  taxable  value  of  such  supply may   be   treated   as   zero.   In   such   a scenario,   no   tax   is   payable   on   such supply  of  service  by  the  director  to  the company. There  may,  however,  be  cases  where  the director,  who  had  provided  the  guarantee, is     no     longer     connected     with     the management    but    continuance    of    his guarantee  is  considered  essential  because the  new  management's  guarantee  is  either not  available  or  is  found  inadequate,  or there may be other exceptional cases where the promoters,   existing   directors,   other managerial  personnel,  and  shareholders  of borrowing concerns are paid remuneration/ consideration  in  any  manner,  directly  or indirectly.  In  all  these  cases,  the  taxable value of such supply of service shall be the remuneration/   consideration   provided   to such  a  person/  guarantor  by  the  company, directly or indirectly

Where     the     corporate     guarantee     is provided  by  a  company  to  the  bank/financial institutions for providing credit facilities to the other  company,  where  both  the  companies are related, the activity is to be treated as a supply of   service   between   related   parties   as   per provisions  of  Schedule  I  of  CGST  Act,  even when made without any consideration.

Similarly,  where  the  corporate  guarantee is  provided  by  a  holding  company,  for  its subsidiary company, those two entities also fall under the category of ‘related persons’. Hence the  activity  of  providing  corporate  guarantee by  a  holding  company  to  the  bank/financial institutions  for  securing  credit  facilities  for  its subsidiary  company,  even  when  made  without any  consideration,  is  also  to  be  treated  as  a supply  of  service  by  holding  company  to  the subsidiary company, being a related person, as per provisions of Schedule I of CGST Act.

n respect of such supply of services by a person   to   another   related   person   or   by   a holding  company  to  a  subsidiary  company,  in form of providing corporate guarantee on their behalf   to   a   bank/   financial   institution,   the taxable value will be determined as per rule 28 of CGST Rules.

Considering     different     practices     being followed by the field formations and taxpayers in  determining  such  taxable  value,  in  order  to provide  uniformity  in  practices  and  ease of implementation,  sub-rule  (2)  has  been  inserted in  rule  28  of  CGST  Rules  vide Notification No. 52/2023 dated 26.10.2023, for determining the  taxable  value  of  such  supply  of  services between related persons in respect of providing corporate  guarantee.   Accordingly, consequent to  insertion  of  the  said  sub-rule  in  rule  28  of CGST  Rules, in  all  such  cases  of  supply  of services  by  a  related  person  to  another  person,

or   by   a   holding   company   to   a   subsidiary company,  in  the  form  of  providing  corporate guarantee on  their  behalf  to  a  bank/  financial institution,  the  taxable  value  of  such  supply  of services,  will  henceforth  be  determined  as  per the provisions of the sub-rule (2) of Rule 28 of CGST  Rules,  irrespective  of  whether  full  ITC is available to the recipient of services or not.

 It is clarified that the sub-rule (2) of Rule 28 shall  not  apply  in  respect  of  the  activity  of providing personal guarantee by the Director to the  banks/  financial  institutions  for  securing credit  facilities  for  their  companies  and  the same shall be valued in the manner provided in S. No. (1) above.