Interplay of Income Tax & GST

Table of Content

1. Background
2. Fake Invoices
4. Charitable Institutions
5. Healthcare Services
6. Shares and Securities
7. Search
8. Special Provisions in Income Tax & Impact on GST
9. Way Forward

1. Background

1.1 Constitution of India

• No tax shall be levied or collected except by the authority of law – Article 265
• Taxation includes the imposition of any tax or impost whether general or local or special and ‘tax’ shall be construed accordingly – Article 366(28)
• Tax on income includes a tax in the nature of an excess profits tax – Article 366(29)
• Taxes on income other than agricultural income – Entry 82, Union List, Seventh Schedule

1.2 Income Tax – Journey

• Indian Income Tax Act, 1922
• The Income Tax Act, 1961 was based on the recommendations of the Law Commission’s 12th Report, 1958 and the Direct Tax Administration Enquiry Committee’s Report, 1959
• Section 2(24) of the Income Tax Act, 1961 defines ‘income’ in an inclusive manner
• Concept of real income
  1. Real profits or gains that is to say on the basis of ordinary commercial principles on which actual profits are computed and the manner in which no commercial man would misunderstand – Sunil Siddharth Bhai vs. CIT 156 ITR 509 (SC).
  2. What income never accrued or was never received cannot be computed as capital gains under Section 48 of the I.T. Act 1961. The onus of establishing the conditions of taxability to be fulfilled is always on the Revenue – KP Varghese vs. ITO (1981) 131 ITR 497 (SC)

1.3 Constitution of India

• Under Article 246A, Parliament and the Legislature of every State has the power to make laws with respect to Goods and Services Tax imposed by the Union or by such State.
• Article 366(12A) defines ‘goods and services tax’ to mean any tax on the supply of goods or services or both except taxes on the supply of alcoholic liquor for human consumption.
• The CGST Act, IGST Act, State GST Act and UTGST Act all seek to levy GST on supplies of goods or services or both.

1.4 GST

• Section 7(1) defines ‘supply’ in an inclusive manner
• All forms of supply of goods or services or both such as sale, transfer, barter, exchange, license, rental, lease, disposal, made or agreed to be made for a consideration by a person in the course or furtherance of business
  1. Consideration
  2. In the course or furtherance of business
• Section 7(1)(c) considers certain activities specified in Schedule I made or agreed to be made without consideration as a supply
  • Supply of goods or services or both between related persons and distinct persons

1.5 Supply vs. Income

What constitutes supply need not constitute income

• • Stock transfer of goods between Chennai and Ahmedabad
  • Inter-unit billing within the company
  • Advances for services would be liable to GST
  • Related party transactions – open market value or cost plus 10%

IT assessment

• • Financial statements and GST returns need not match
  • GST returns and IT returns need not match
  • Audit observations inGSTR – 9C may not be conclusive
  • What is supply is not necessarily income

1.6 Income vs. Supply

What constitutes income need not constitute supply

• • Sale of land or building
  • Employee remuneration
  • High Sea Sales
  • Transfer of title to warehoused goods
  • Compensation need not necessarily be consideration for supply
  • Services where GST is payable by another person under reverse charge mechanism.

Number of services exempt through notifications in GST but liable to income tax

• • Healthcare services
  • Slump sale
  • Specific works contract services
  • Renting of residential dwelling for use as a residence
  • Transportation of goods by road (not being GTA)
  • Interest or discount arising out of extending of deposits, loans or advances

2. Fake Invoices

2.1 GST & Income Tax

• Invoice without any supply
• Unscrupulous methods to facilitate input tax credit
• When ITC is used to pay GST or ITC is obtained as a refund, there is revenue loss
• Action taken by GST authorities
  1. Statements are obtained from any of the players in the chain and based on these statements, the other entities are called upon to reverse the ITC with interest
  2. In some cases, statements are made to the effect that there are no actual sales
  3. Even though ITC is reversed, parties dispute on the ground that the statement was wrong and there was actual receipt of goods
  4. Cross examination not done in most of the cases

2.2 Statements & Cross Examination

• Adverse findings based on statements taken from others
• Assessee entitled to cross examination
  1. In the case of Shree Parvathi Metals vs. Union of India (2018) 11 GSTL 137 (Raj.), the issue was whether statement given by the foremen can be used against the appellant without affording the opportunity of cross examining, while holding disallowance of Cenvat credit. The Rajasthan High Court held that we are of the considered opinion that the cross examination is a right of assessee.
  2. The Supreme Court in the case of CBI vs. V.C. Shukla (1996) AIR SC 1406 has held that third party records alone cannot be relied upon as an admissible piece of evidence.
• Assessee can counter the statements
• Reversal before investigation is complete need not necessarily mean that the matter has been accepted or conceded
• Assessee can contest the matter as and when the investigation is completed and Show Cause Notice is issued

2.3 GST Investigation

• The investigation would involve collection of data; statements after summons; enquiry; and should culminate into a Show Cause Notice
• The noticee is entitled to object to the proposals in the SCN and adjudication has to happen
• After an order is passed, the assessee has the right of appeal to the first appellate authority
• Second appeal to GST Tribunal and subsequently to High Court or Supreme Court
  • Reversal during any of the stages need not necessarily mean that the purchases are bogus
  • Reversal to buy peace or under pressure or coercion
  • Reversal or payment to obtain bail since arrest is a separate and parallel proceeding

2.4 IT Assessment

• Purchases or expenditure may be questioned based on GST investigation
• During scrutiny, there could be proposals to disallow the expenditure
• Cash deposits/withdrawals may require explanation
• Interesting issues
  1. A reports fake supplies to facilitate B to avail ITC
  2. B reports fake supplies to facilitate C to avail ITC
  3. Can there be disallowance of purchases in the hands of both B and C?
  4. If supply is fake, can the income alone be taxed?

2.5 Section 271 AAD

• Inserted by FinanceAct, 2020 w.e.f. 01.04.2020
• Section 271AAD(1) – Without prejudice to any other provisions of this Act, if during any proceeding under this Act, it is found that in the books of account maintained by any person there is –
  1. A false entry; or
  2. An omission of any entry which is relevant for computation of total income of such person to evade tax liability,
• The assessing officer or JC (Appeals) or CIT (Appeals) may direct that such person shall pay, by way of penalty, a sum equal to the aggregate amount of such false or omitted entry.
• Section 271AAD(2) – Without prejudice to the provisions of sub-section (1), the Assessing Officer or JC (Appeals) or CIT (Appeals) may direct that any other person, who causes the person referred to in sub-section (1) in any manner to make a false entry or omits or causes to omit any entry referred to in that sub-section, shall pay by way of penalty a sum equal to the aggregate amount of such false or omitted entry.
• Income tax enters into book keeping
• There are adequate penalty and prosecution related provisions in GST for this problem
• Why should there be an additional impact in Income Tax?
• Scope of ‘any other person’
• If offence is by a Company, can there be a penalty on the employee?
• What is the need for another penalty when
  1. Disallowance of an expenditure resulting in income can be tested under concealment.
  2. Section 276C which deals with prosecution defines wilful attempt to evade tax to cover makes or causes to be made any false entry or statement in the books of account or other documents.
• False entry as per explanation includes ‘use’ or ‘intent to use’. Therefore, intent will have to be established
• The objective must be to ‘evade tax liability’ and this will have to be established
• The legislative intent behind the provision is set out in the Memorandum to the Budget
• Assessing officer ‘may direct’.This indicates discretion.
• Section 274 would require Show Cause Notice and Show Cause Notice will have to clearly establish the violation

3. Charitable Institutions

3.1 Income Tax

• Section 11 of the Income Tax Act, 1961 provides that income derived from the property held under trust, wholly for charitable or religious purposes to the extent to which such income is applied to such purposes in India, shall not be included in the total income
• Section 2(15) of the Income Tax Act, 1961 defines “charitable purpose” as under:
  1. relief of the poor,
  2. education,
  3. yoga,
  4. medical relief,
  5. preservation of environment (including water-shed, forests and wildlife) and preservation of monuments or places or objects of artistic or historic interest, and
  6. the advancement of any other object of general public utility.
• Supreme Court decision in the case of New Ahmedabad Authority.
  1. Definition of charitable purpose
  2. Object of general public utility
  3. Proviso
  4. Business, trade or commerce

3.1.1 Interpretation of Section 2(15) – Supreme Court

• The paradigm change achieved by Section 2(15) after the amendment is that a GPU cannot engage in any activity in the nature of trade, commerce, business or any service, in relation to such activities for any consideration including a statutory fee
• This is emphasised in the negative language in the main part of Section 2(15)
• The idea of a predominant object amongst several other objects is discarded
• The prohibition is relieved to a limited extent by the proviso
  1. Activities in the nature of trade, commerce or business or service in relation to trade, commerce or business for consideration should be in the course of actual carrying on of the GPU object
  2. Quantum of receipts from such activities should not exceed 20% of the total receipts

3.1.2 Predominant Object

• The test of charity being driven by ‘predominant object’ is no longer good law
• If at all any activity in the nature of trade or commerce or business or service in the nature of the same, for any form of consideration is permissible, it must be intrinsically linked to or a part of the GPU category charity’s object
• Ploughing back of business income to feed charity is an irrelevant factor
• There is no conflict between the definition of ‘charitable purpose’ and the machinery part of Section 11(4A)
• The obligation to maintain separate books of account under Section 11(4A) is to ensure that the quantitative limit imposed by sub-clause (ii) to Section 2(15) can be computed and ascertained

3.1.3 Profit & Cost

• Pure charity in the sense that performance of an activity without any consideration, is not envisaged in the Act
• What Section 2(15) emphasises is that so long as GPU’s charity object involves activities which generate profit, it can be granted exemption provided the quantitative limit of not exceeding 20% under the second proviso to Section 2(15) for such receipts from such profits is adhered to
• Where fee or charges cover cost or nominal markup, it is not an activity in the nature of business.
• When the entity charges substantial amounts over and above the cost for doing the same work, which is part of its objects, such activities are in the nature of trade, commerce or business or service in relation to them and the receipts should not exceed the limits set out in the Proviso

3.1.4 Application of the Judgement

• The conclusions in this judgement neither precludes any of the assessee advancing objects of GPU from claiming exemption nor the tax authorities from denying the exemptions in the future, if the receipts in the relevant year exceeds the limit
• AO should scrutinise records on a yearly basis,
  1. whether the nature of assessees activities amount to trade commerce or business, based on its receipts and income that is whether amounts charged are on cost basis or significantly higher
  2. If it is found that they are in the nature or trade commerce or business, then it has to be examined whether the limits have been breached

3.2 GST

• Entry 1, Notification No. 12/2017 – CTR provides for exemption in respect of services by an entity registered under Section 12AA of the Income Tax Act by way of charitable activities
• “charitable activities”is defined to mean activities relating to
  • Public health by way of –
    • Care or Counselling of
      I. Terminally ill persons or persons with severe physical or mental disability;
      II. Persons affected with HIV or AIDS;
      III. Persons addicted to a dependence forming substance such as narcotics drugs or alcohol; or
    • Public awareness of preventive health, family planning or prevention of HIV infection;
  • Advancement of religion, spirituality or yoga.
  • Advancement of educational programmes or skill development relating to
    1. Abandoned, orphaned, or homeless children;
    2. Physically or mentally abused and traumatized persons;
    3. Prisoners; or
    4. Persons over the age of 65 years residing in a rural area;
  • Preservation of environment including watershed, forests and wildlife.
• While all charitable institutions registered under Section 12AA subject to compliance of the provisions of income tax would enjoy exemption, exemption from GST would depend upon the definition of ‘charitable activities’ in the notification
• Definition restricted in scope
• Once the definition is applicable, all activities for the objects of the institution should qualify for exemption in GST
  1. Contrary views inAAR Rulings
  2. Sale of goods was considered as not a business activity by the Supreme Court in CST vs. Sai Publication Fund [2002] 2002 taxmann.com 2342/126 STC 288 (SC)
• Voluntary donations without any specific direction would not constitute consideration
• While activities for achieving objects of Trust have been recognised in income tax over a period of time, matters would be tested once again in GST
• Whether the decisions in income tax will cast a shadow on GST?
• Practical approach
  1. Whether activities would fit into the exemption entry?
  2. Whether activities would fit into the exemption entry?
  3. Whether commercial operations can be carried out in another entity?

4. Healthcare Services

4.1 GST

• Defeats the concept of composite supply
• No one stays in hospital for holiday or recreation
• Room stay is part and parcel of the recovery process post surgery/procedure
• Non-availability of ITC does not serve any purpose
• Impact on patients
• No GST on health care services
• No input tax credit
• Huge GST outflow on equipment, consumables, goods and services
• Increase in cost
• Ideally health care related supplies should be zero rated in the hands of the suppliers
• Board Circular
  1. Services provided by senior doctors/consultants/technicians hired by the hospital whether employees or not is exempt from GST
  2. If hospital charges Rs.10,000/- and pays Rs.7,500/- to the consultants or technicians and the balance is retained for services such as nursing care, infrastructure, paramedic care, emergency, testing, etc. all these are health care services and the entire amount collected from the patient is exempted
  3. Food supplied to in-patients as advised by doctor/nutritionist is of composite supply of health care and exempt
  4. Food supplied to patients (not admitted) or their attendants or visitors are taxable
• Pharmacy
• Movement of equipment from one State to another.
• Cost allocation or cost recovery from a unit in another State.
• Impact of Columbia Asia Hospitals (P.) Ltd., In re [2018] 100 taxmann.com 501/[2019] 71 GST 444 (AAAR-KARNATAKA) AAAR ruling.
• Consulting rooms
• Food provided to employees
• Reverse charge mechanism
• Revenue sharing arrangements between two hospitals or hospitals and diagnostic centres.
• Outsourced health care services
• App based health care services
• Medicines and implants
  • In the course of treatment
• Pre-GST
  1. Whether implants/stents fitted into the body is transfer of property in goods and taxable as works contract?
  2. Observations of the SupremeCourt in BSNL
  3. Division Bench decisions of the Jharkhand High Court; Allahabad High Court; P&H High Court; Full Bench decision of the Kerala High Court
  4. Matter pending in Division Bench of the Madras High Court
• Post GST
  1. Composite Supply
  2. Medicines and implants are part and parcel of healthcare services
  3. Incidental to principal supply of healthcare services
  4. Healthy number of AARs in favour of the assessee

4.2 Income Tax

• Income of universities, education institutions, hospitals, medical institutions, charitable institutions, public religious institutions are exempted from tax on fulfilment of certain conditions – Section 10(23C)
• Section 10(23C)(iiiac) covers hospitals dealing with certain medical conditions substantially funded by Government and Section 10(23C)(iiiae) deals with such hospitals whose annual receipts are less than Rs. 5 crores
• The hospital must not be for profit and must exist solely for philanthropic purposes
• Amendments by Finance Act, 2022 to align trust related provisions and Section 10(23C)

4.3 Income Tax vs. GST

• Income Tax Act is very explicit that the activity must be for philanthropic purposes and not for the purposes of profit. However, there is no such indication in the Goods and Service Tax Act as such
• As the definition of charitable activities covers certain activities relating to public health, it should be possible for a charitable trust duly registered under Section 12AA to also claim the exemption from GST under the umbrella of charitable activities (Eg. Care or counselling of terminally ill persons or persons with severe physical or mental disability)
• Exemption in GST is wider than in income tax
• Queries could come from GST while comparing GST returns with IT returns
  1. Corporate hospitals would have income tax liability but GST would be confined to pharmacy and rooms falling under specified categories
  2. Reconciliation between IT returns and GST returns
  3. GST queries based on IT return

5. Shares and Securities

• Income from sale of shares or securities could either be business income or capital gains
• Securities expressly excluded from the definition of ‘goods’ as well as ‘services’ in GST
• Proceeds from sale of securities not liable to GST but considered as exempt supply for proportionate ITC
• Section 50CA – Consideration less than FMW, FMW shall be determined under Rule 11UAA
• No such provision in GST
• However, 1% of the sale value of the security shall be taken as the value of exempt supply for the purpose of proportionate reversal of ITC

6. Search

6.1 Search in Income Tax

• Section 132 refers to “in consequence of information in his possession”, the authorised officer has reason to believe
• Explanation inserted to provide that reason to believe as recorded by the income tax authority under this sub-section shall not be disclosed to any person or any authority or the Appellate Tribunal
• Mere information from CBI that cash found in possession of the person was undisclosed without any supporting material evidence cannot be considered as sufficient for action under Section 132 – UoI vs. Ajit Jain [2003] 129 Taxman 74/260 ITR 80 (SC)
• The investigation in GST can lead to a search in IT based on the information shared
• Voluntary declaration of undisclosed income at the time of recording of statement
• Voluntary disclosure of undisclosed income through a disclosure petition before conclusion of search
• Income offered or surrendered during IT proceedings or voluntary additions accepted

6.2 GST Impact

Can there be an automatic inference that the amount surrendered is liable to GST?

• The Punjab and Haryana High Court in the case of CCE vs. Mayfair Resorts [2011] 12 taxmann.com 340/ 22 STR 263/32 STT 405 (Punj. & Har.) has held that when Rs. 35 lakhs is surrendered to income tax authorities, it cannot be attributable to consideration received for mandap keeper services in the absence of any enquiry. There can be no statutory presumption to treat such amount as proceeds of services
• The Tribunal in the case of CCE vs. Bindra Tent Service [2009] 23 STT 167/[2010] 17 STR 470 (New Delhi – CESTAT) has held that demand of Service tax cannot be made based on presumptions. In this case, the Service tax was demanded under Pandal or Shamiana services based on amount surrendered to Income-tax Department
• The Delhi Bench of the Tribunal in the case of Chetak Marmo Pvt. Ltd. vs. CCE (2015) 325 ELT 150 (Centax-Trib. Delhi), has held that it is a well settled law that clandestine removal ought to be established by production of positive evidence. In absence of any other evidence on record, some disclosure and surrender of income before income-tax authorities especially when assessee pleading also undertaking other activities for generation of income, not to be held to be sufficient evidence to uphold finding of clandestine activities in absence of procurement of raw materials, actual manufacture of goods and non-identity of transporter and customer, etc

6.3 TDS based Queries

• A number queries are raised in Service Tax and GST based on Form-26AS/Annual Information Statement (AIS) without appreciating the fact that
  1. Income may not be exempt but the service could be exempt or not taxable
  2. Excess TDS
  3. TDS on reimbursement out of abundant caution
  4. Deduction under Section 195. Place of supply could be outside India and not liable to GST
  5. Even though Form-26AS/AIS may reflect the TDS, GST would be payable by another person under RCM

6.4 Business Expenditure

• ITC on goods/services used or intended to be used in the course or furtherance of business
• Business expenditure under Income Tax Act
  1. Disallowance by ITO on the ground that expenditure is personal in nature. Impact in GST
  2. Travel/telephone/vehicle related expenses/guest house

Section 43B

1. GST paid and lying in electronic cash ledger and yet to be offset against liability. Actual set off need not be insisted upon and the amount credited should be considered as tax paid
2. GST paid through ITC. Payment through ITC is also payment of tax
3. Unutilized modvat credit is not payment of tax – Maruti Suzuki India vs. CIT [2020] 114 taxmann.com 129/270Taxman 75/421 ITR 510 (SC)

GST paid during enquiry/investigation/proceedings without collecting from customer

• Either on account of buying peace or on account of pressure adhoc payment ofGST is made during investigation
• Where the assessee had not deposited service tax but made the payment on being pointed out, it is an expenditure in the course of business and allowable – CIT vs. Kaypee Mechnical India Pvt. Ltd. [[2014] 45 taxmann.com 363/223Taxman 346 (Gujarat)]
• Input service tax credit is deductible u/s.37(1) of the Act when such input tax credit is written off in the books of account – FIH India Private Limited vs DCIT [2021] 126 taxmann.com 111/188 ITD 124 (Chennai-Trib)

Interest & Late Fee

• Where the amount paid is partly penal and partly compensatory, the amount to the extent that it is compensatory can be allowed as a deduction – Swedeshi Cotton Mills Co. Ltd. vs. CIT (1998) 233 ITR 199 (SC)
• Interest on sales tax arrears compensatory in nature – Lachmandas Mathuradas vs. CIT [2002] 122 Taxman 828/254 ITR 799 (SC)
• Penalty
• CSR expenditure
  1. Income Tax Act
  2. GST
  3. FA 2023 amendment to Section 17(5) – yet to be notified

7. Special Provisions in Income Tax & Impact on GST

Section 50B – Slump sale taxed under capital gains

• Net worth of business or undertaking is taken as the cost of acquisition
• Net worth is the books value of the assets minus liabilities.
• Full value of consideration will be the FMV of the capital assets as on date of transfer calculated as per Rule 11UAE.
• Services by way of transfer of a going concern as a whole or independent part there of is exempt from GST.

Section 50C – Guideline value for stamp duty and reference to Valuation Officer

• No such concept in GST
• Construction service liable to GST before issue of completion certificate –Transaction value

Section 50D – Where consideration received or accruing as a result of transfer of a capital asset is not ascertainable or cannot be determined for the purpose of computing income chargeable to tax as capital gains, the fair market value of the said asset on the date of transfer shall be deemed to be the full value of the consideration received or accruing as a result of such transfer

• No such concept in GST
• Valuation Rules deal with open market supply for specific situations

Section 45(5A) of the Income Tax Act

• Individuals and HUF
• Transfer of capital asset being land
• Agreement for developing real estate project
• Income liable to tax in the PY in which the certificate of completion (CC) is issued
• Notification No. 6/2019 – CTR (GST)
• Notification No. 3/2019 – CTR
• Amendments to Rule 42 and Rule 43 of the CGST Rules, 2017
  1. Complex taxation system
  2. Taxation of development rights – reverse charge
  3. Construction for land owner – valuation

Section 56(2)(x) – Receipt of sum of money without consideration where the aggregate value exceeds Rs.50,000/-

• Levy of GST requires supply for consideration
• If there is no underlying supply, receipt without consideration cannot be subjected to GST

Doctrine of mutuality – Well established principle in direct tax – Chemsford Club; Bankipur Club

• Supreme Court decision in the case of Calcutta Club in the context of VAT and Service Tax
• Finance Act, 2021 has inserted Section 7(1)(aa) to bring within the scope of supply activities or transaction by a person other than an individual to its members or constituents or vice versa for cash, deferred payment or other valuable consideration. Amendment is with retrospective effect from 01.07.2017
• Associations and clubs may enjoy mutuality in income tax but would be liable to GST

Diversion by overriding title –

• Bijli Cotton Mills Pvt. Ltd. (1979) 116 ITR 60;
• CIT vs. Sitaldas Tirathdas (1961) 41 ITR 367;
• Soma TRG Joint Venture vs. CIT (2017) 398 ITR 425
• Principles can be extended by interpretation to GST

Reimbursement

• Non-applicability of TDS
• Non-applicability ofGST subject to pure agency

Subsidy

• Income includes assistance in the form of a subsidy or grant or cash incentive or duty drawback or waiver or concession or reimbursement (by whatever name called) by the Central Government or a State Government or any authority or body or agency in cash or kind to the assessee with certain exclusions
• Subsidies directly linked to the price forms part of value in GST excluding subsidies provided by the Central Government and State Governments

8. Way Forward

• The Government should re-examine the current exercise of comparing IT returns and Service Tax/GST returns
  • Form 26AS/Annual Information Statement (AIS)/GST
• There should be an understanding that both income tax and indirect tax operate in different fields and have limited convergence points
• Challenges in reconciliation should be understood from an ease of doing business perspective
• 5 trillion dollar economy is possible only if the trust deficit is removed
• Merely because some frauds take place, rest of the businesses cannot be subjected to scrutiny and suspicion
• Withholding or blocking of refund affects the cash flow and affects business
• Concept of blocked credit should not exist in the GST regime
• There should be an understanding that both income tax and indirect tax operate in different fields and have limited convergence points
• Challenges in reconciliation should be understood from an ease of doing business perspective
• Both laws can be simplified to arrive at convergence.
• Just like how GST reformed the indirect tax space, time has come for direct tax law reforms.