No GST is applicable for the services provided by the Director under personal guarantee and loan extensions for the Company

[CA Bimal Jain]

The Hon’ble Kerala High Court in the case of MANAPPURAM FINANCE LTD VERSUS THE UNION OF INDIA, THE CENTRAL BOARD OF EXCISE AND CUSTOMS NEW DELHI, THE ADDITIONAL DIRECTOR GENERAL, THE ADDITIONAL /JOINT COMMISSIONER OF CENTRAL TAX KOCHI, THE STATE OF KERALA THIRUVANANTHAPURAM - 2024 (10) TMI 943 - KERALA HIGH COURT wherein, M/s Manappuram Finance Ltd. (“the Petitioner”) was served the Show Cause Notice (“the Impugned SCN”) demanding the GST on the Reverse Charge Mechanism (“RCM”) for the services provided by the Managing Director concerning personal guarantee loans taken by the Petitioner and the GST payable for the services for extending the loans by the Petitioner to its subsidiary company.

Further, the Petitioner contended that, issues raised in the Impugned SCN had already addressed and clarified by the two circulars issued by the Central Board of Indirect Taxes and Customs (CBIC). However, as per the Circular No. 204/16/2023-GST dated October 27, 2023, no GST is payable for the services providing the personal guarantee loans by the Managing Director of the Petitioner. Further, as per the Circular No. 218/12/2024-GST dated June 26, 2024, GST is fully exempted for the services regarding the extension of loans in the case of related entities, in which the consideration is solely in the form of interest or discount.

Hence, the Hon’ble Kerala High Court, noted that the aforementioned Circulars issued by the CBIC are authoritative and must be adhered by the GST Authorities. Consequently, the Court quashed the Impugned SCN.

Our Comments:

The 52^nd meeting of the GST Council was held on October 07, 2023 made the clarification regarding the taxability of the personal guarantee. Further, the Central Board of Indirect Taxes and Customs (CBIC) issued the Circular No. 204/16/2023-GST dated October 27, 2023 which states that according to the Explanation (a) of the Section 15 of the Central Goods and Service Tax Act, 2017 (“the CGST Act”) the director and the company are to be treated as a related person. The supply of goods or services or both between related persons, when made in the course or furtherance of the business, should be treated as the supply even if made without consideration according to the Section 7(1)(c) of the CGST Act and the SI. No. 2 of the Schedule I of the CGST Act. Therefore, 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. Moreover, Rule 28 of the Central Goods and Service Tax Rules, 2017 (“the CGST Rules”) states the method for determining the value of supply of goods and services other than the supply is made through the agent. The taxable value of such supply of service will be treated as the open market value supply. Hence, the Reserve Bank of India (“RBI”), had issued the Circular No. RBI/2021-22/121 dated November 09, 2021 which stated that the Banks should take personal guarantee of promoters, directors, other managerial personnel or major shareholders or the credit facilities granted to corporate, public or private, only when absolutely warranted after a careful examination of the circumstances of the case and not as a matter of course.   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.

There shall be 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.  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.  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. Hence, no tax is payable on such supply of service by the director to the company.

After, the 53^rd meeting of the GST council held on June 22, 2024, the CBIC issued the Circular No. 218/12/2024-GST dated June 26, 2024, which had given the clarifications on the taxability of the transaction for providing a loan by an overseas affiliate to its Indian affiliate or a person to a related person that according to Section 7(c) of the CGST Act and Schedule I, any supply of goods or services between related persons, even without consideration, is considered a taxable supply under GST. Therefore, the provision of loans, credit, or advances by an entity to its related entity (whether overseas or domestic) is deemed as a supply under GST regulations. Further, the services involving the extensions of the deposits, loans, or advances where the consideration is represented by the way of interest or discount, are fully exempted under GST as per Entry 27(a) of Notification No.12/2017-Central Tax (Rate) dated June 28, 2017.

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