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GST – Implications on Mergers and Acquisitions
Shrenik Shah and Khushbu Vora,
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GST impact on Financial Services
M. S. Mani, Senior Director, Deepak Agarwal, Director and Sagar Shah, Deputy Manager,
Introduction of Goods and Services Tax (‘GST’) in India is the most discussed topic today in every business meeting; not only in India, but globally as well. GST, an undisputed game changer for the Indian economy has been delayed over a decade now. However, the reaffirmation of the progress of GST by the Union Finance Minister in the Union Budget 2017 on 1 February 2017, signifies that GST may be implemented w.e.f. 1 July 2017. GST would subsume most of the indirect taxes in India and remove thetrade barriers caused by the State boundaries from an indirect tax perspective. Further, it would create a level playing field for the businesses across the country. It would also minimize thecomplexities existing in the present indirect taxlaws in terms of classification, valuation, rate of tax applicable, etc. It would also supplementthe ‘ease of doing business’ initiative of the Government. While GST will have an impact on the manufacturing sector, the impact of GST on the services sector would also be significant. Presently, while the service sector contributes more than half of the Indian GDP; Financial Services sectorcould be considered to be the backbone of the Indian economy. GSTmay not only enhance business opportunities but also lead to savings in the tax cost for the financial services sector. The following paragraphs discuss the impact of GST on the financial services sector at a broad level. Registration: The financial services sector have been complying with the obligations under the Finance Act, 1994 (i.e. service tax) by obtaining a centralized registration and local VAT laws with State specific registrations. The accounting, invoicing and maintenance of records have historically been carried out at a principal place of business on a PAN India basis (except for real estate). Centralized accounting led to ease in compliance and better process control from an indirect tax perspective. Absence of the concept of ‘centralized registration’ under GST may call for decentralization of registrations, processes, accounting and attached compliances forthe financial services sector (except real estate). This would not only call for revamp of the business and compliance processes, but also lead to substantial increase in compliance cost.Representations have been made to the Government for dispensing the need for obtaining State specific registrations and verdict on the same is awaited. Taxability: The definition of goods and services, as provided in the Revised Model GST law is unambiguous, thereby easing the categorization of a transaction into supply of goods or services. Further, Schedule II appended to the Revised Model CGST Act categorizes certainhitherto disputed transactions as deemed supply of goods or services. For instance, works contracts have been deemed as supply of services, whereas hire purchase transactions have been deemed to be supply of goods. It could thusbe reasonable to conclude that the goods vs. services war could come to end vis-à-vis transactions specified in Schedule II. While the earlier version of Model law covered securities under the definition of goods, the same has been excluded not only from the definition of goods, but also services. Consequently, trading in securities may not attract GST. However the same could lead toreduction in the credit pool. Further, the disputes regarding taxability of sale of repossessed assets by the banks and financial institutions has also been put to rest by broadening the definition of the term ‘business’ and shall attract GST. Moving on to the real estate sector, it could be agreed that the taxation of real estate sector in India has been the most litigated area in India. The dispute not only exists in the Service Tax domain, but also from a VAT perspective. Time and again the Constitutional validity of the tax sought to be levied on the real estate transactions has been tested at different levels of the judicial system. It may be wrong to say that GST would put an end to these disputes, however the disputes relating to classification (into goods and services) and valuation could be ruled out. This is in light of the fact that construction contracts would be considered as supply of service. It is also important to note that actionable claims have been considered as ‘goods’. Consequently, transactions in transferable development rights (‘TDRs’) could be regarded as supply of goods. However further clarity is expected on this aspect from the GST Council. Valuation / Rates: The financial services sector presently enjoys an alternate valuation mechanism for various products and service. For instance, a bank / authorized dealer engaged in money changing is entitled to pay Service Taxat a composite rate. Further, real estate developersare required to assess the value on which VAT shall be payable in accordance with state specific divergent laws. An insurance company engaged in life insurance business has an option to discharge Service Tax at a composite rate. The Model GST law is presently silent on any composite rates / alternate rates of GST. However, the same could be expected to be addressed in the final legislation. The composite rate or an abated value benefit that the real estate and the insurance sector presently enjoys could cease to exist under the GST regime. The GST Council is expected to discuss the rates of tax for supplies of services in its next meeting scheduled on 18 February 2017. Further, presently, there are special provisions for valuation of construction contracts for charging VAT as well as Service Tax. However, since the construction contracts are in the nature of works contract, the aggregate taxation base exceeds 100% of the contract price, thus leading to double taxation. With GST treating construction contracts as supply of service, double taxation issue could be ruled out. Place of Supply: The place of supply provisions have been prescribed in the revised Model GST law. There are separate provisions for place of supply for banking sector, insurance sector as well as the real estate sector. In order to determine whether it is an inter-State supply liable to Integrated GST (‘IGST’) or an intra-state supply liable to Central GST (‘CGST’) /State GST(‘SGST’),the place of supply rules become relevant. As per the Model GST law, the place of supply for banking and other financial services where either the banks and financial institutions or the account holder is located outside India, is the location of the supplier of services. In all other cases, the place of supply is the location of the recipient of services on record of the banks / financial institutions.Determining place of supply for non-account linked services or account linked services (where supplier as well as recipient is in India) could lead to an anomaly since banks / financial institutions capture both, the correspondence address as well as the permanent address of the customer. Clarity would be required in this regards. The place of supply of insurance services provided to a registered person shall be the location of such person and to a person other than a registered person, shall be the location of the recipient of services on record of the supplier of services. However the aspect relating to location of the service provider i.e. sourcing branch, servicing branch or underwriting office, is a subject matter of interpretation. Further there would be issues where the service recipient changes his address in the middle of the year. The place of supply for the real estate sector has been provided to be the location of the immovable property. It has also been provided that services directly in relation to immovable property such as architects, interior decorators, engineers, etc. shall be the location at which the property is located. It is also provided that place of supply for service ancillary to the above main services would be the location of such property. Thus the provisions relating to determining place of supply for real estate sector are unambiguous as compared to the existing provisions. Input Tax credit: The introduction of GST is aimed at seamless availability of credit and avoiding cascading effect of taxes. GST couldachieve its purpose if there are minimum credit restrictions and minimum exemptions. Having said that, there are few supplies, on which GST is not leviable, such as trading in securities or transaction in money (except money-changing). Since the transactions of advancing loans and deposits, are in the nature of transaction in money and do not attract GST under the revised model GST Law, there would be corresponding restrictions on the input credits of the persons engaged in such financial transactions. Presently, the banks and other players in the financial services sector incur costs in terms of the VAT paid on the infrastructure and capital goods. Further, presently the banks have an option to reverse CENVAT Credit of upto 50% of the eligible CENVAT Credit availed. Though the provisions for input tax credit reversals weren’t a part of the earlier version of Model GST law, the revised Model law grants an option to the banks and financial institutions to avail only 50% of the eligible input tax credit. The said option shall be in lieu of the provisions requiring the registered taxable persons to restrict the input tax credit only attributable to its taxable supplies. The benefit that the banks and financial institutions could derive from this aspect would depend on whether they are allowed centralized registration under GST. In addition to this, the banks would also benefit as they would now be able to avail input tax credits of VAT paid. There are no specific input tax credit provisions for insurance companies and hence the same provisions as applicable to other taxable persons would be application to such entities. Further, presently CENVAT Credit in respect of Service Tax paid for construction is available to the persons engaged in construction activities. In this regard, it is relevant to note that the input tax credit for civil construction is permissible as per the Model GST law. Transitional Provisions: For successful implementation of a new law, the appropriate transitional provisions are of utmost importance to ensure smooth roll-over. With the transitional provisions being incorporated in the Model GST law itself, the smooth roll out of GST could be well expected. The Model GST law has envisagedall major transitional issues that could be faced by trade and commerce. To illustrate, the transitional provisions for long term construction contracts, as provided in the Model GST law clarifies that all goods and services supplied in pursuance of long term construction contracts after the date of implementation of GST would be chargeable to GST and not under the erstwhile laws. Further, the carry forward of the credits under respective Central and State laws into the GST regime with minimal conditions, is a welcome provision under GST. Thefinancial services sector shall be allowed to carry forward CENVAT Credit of Excise Duty on inputs and capital goods, Service Tax on input services and as well as VAT on goods. The credit would be allowed to carry forward into the GST regime only if the same was eligible under the respective erstwhile legislation as well as under the GST regime. The only anomaly that remains unaddressed is distribution of the brought forward credit in the GST regime into the CGST,SGST or IGST. Concluding thoughts: While few intricaciesdo exist in the Model GST law, it could very well be expected that substantial ones would be addressed while laying the blue-print of the draft GST law. The phrase ‘well-begun’ is half done would be apt for the introduction of GST as it would not only revolutionize the indirect taxation system in India, but pave a way for plethora of opportunities across the businesses in India. ******* Disclaimer: Above expressed are the personal views of the author, and the publisher or the author disclaim all, and any liability and responsibility, to any person on any action taken on reliance of it.