Indian Back Offices: In The Line Of GST Fire?BloombergQuintOpinion
In the past two decades companies world over refocused on core activities, what with rising costs of certain non-core activities, prompting multinational companies to outsource back-office operations to offshore destinations including India. These activities mainly include administrative and accounting support, payroll processing, customer relationship management, etc.
Over the last two decades, back office support services powered with information technology have grown to be a major contributor of exports from India. However, with countries such as China and Philippines being major players in this sector, and the emergence of Vietnam as an attractive alternative because of its inexpensive labour, the sector remains fiercely competitive.
Despite the significance of this sector, the Service Tax / Goods and Services Tax implications, i.e.: whether these services qualify as export or not, have been a grey area mainly as a result of loosely defined provisions. Whether an Indian service provider acts as an agent (intermediary) of the foreign customer or provides services on a principal-to-principal basis depends on the nature of services and may vary on a case to case basis.
The concept of ‘intermediary’ assumes significance because both under the service tax law and GST, the place of supply of ‘intermediary services’ is the location of supplier of services, that is within India. Consequently, ‘intermediary services’ do not qualify as exports and become liable to GST in India. Such GST typically is not available as a tax credit in the country of the foreign client and thus becomes a cost.
In a fiercely competitive industry, a tax cost of 18 percent can result in erosion of client base thereby resulting in a total shut down of the industry.
Under the erstwhile service tax law as well as under GST, an intermediary has been defined as an agent or a broker, or any other person, who arranges of facilitates supply of services or goods between two or more persons. The definition also provides for a specific exclusion for a person supplying goods or services on his own account. In view of this, it has been widely interpreted by industry that Indian service providers provide these services ‘on their own account’ and therefore the back office support services should not qualify as an ‘intermediary’. Further, for determining the taxability of back office support services, many factors can come into play such as:
- What is the scope of the term ‘facilitating the supply’?
- Whether the Indian service provider acts as an agent between two parties?
- What is the basis or mechanism to compute consideration for such services?
The lack of clarity in law and absence of judicial precedents meant that Indian service providers were always staring at increased risk while adopting their tax positions, ie: the authorities moving to denying export benefits and seeking to levy tax at the rate of 18 percent
The AAR Ruling
Recently, in an advance ruling sought by Vserv Global Private Limited, the Authority for Advance Ruling, Maharashtra has stirred up a hornet’s nest by ruling that services such as back-office administrative and accounting support, coordinating between buyers, sellers and other necessary parties; generating an order number; creating purchase order; liaise for cargo readiness; sending a payment request to the client, etc., provided to foreign clients by the Indian company shall qualify as intermediary services.
Consequently, these cannot be treated as export of services as the place of supply of such intermediary service will fall within India. The AAR held that the sum of activities mentioned indicate that the applicant is a person who arranges or facilitates the supply of goods between the foreign client and customers of the foreign client. Therefore, the applicant is clearly covered in the definition of an ‘intermediary’. The AAR further observed that, the place of provision of intermediary services would be within India in accordance with Section 13(8)(b) of the IGST Act, 2017. Since the place of provision of service falls within India, the transaction would not qualify as an export of service, and consequently cannot be treated as a zero-rated supply.
The ruling has generated debate especially because the AAR has disregarded the applicant’s contention that its services come into the picture only after its foreign client has finalised the purchase/sales deal.
Prima facie, one may rightly argue that wherein a party enters into the frame only once the purchase/sale transaction has been finalised, it cannot be said that the party has facilitated such a purchase or sale. However, the AAR in view of the facts presented before it has preferred to look at the broader transaction and in the process has given a wider meaning to the phrase ‘facilitating the supply of goods’. The AAR has however, failed to provide a detailed analysis of its interpretation of the definition of ‘intermediary’. As a result, understanding the reasoning behind the decision of the AAR is a matter of conjecture.
It should be noted that, an advance ruling although may have a persuasive value, but is binding only on the applicant who had sought it and the concerned jurisdictional authority, ie - an advance ruling is specific to an applicant and shall not be applicable to other taxpayers facing similar issues. Further, this ruling by the AAR is very fact-centric. The peculiarity of the scope of services in this case, such as creating PO, post-sales coordination, sending payment requests etc. may not be applicable to entities generally involved in this sector, especially in the absence of a third party.
The issue of who qualifies as an ‘intermediary’ has been a bone of contention between the taxpayers and the revenue authorities since the time of the erstwhile service tax regime. In the absence of clarity in the law and a lack of any binding judicial precedent, the interpretation of the term ‘intermediary’ lacks consistency under the indirect tax laws. The understanding in the industry was that these services would qualify as export of services under GST and therefore would be zero-rated. This ruling by AAR may result in GST authorities sending notices to service providers for recovering GST on support services that are being provided to the foreign clients. In fact, as per recent news reports, authorities have started issuing notices to service providers exporting offshore support services.
This action of the authorities is in contradiction with the view espoused in the Educational Guide issued under the erstwhile service tax law by the Central Board of Indirect Taxes and Customs, wherein it was clarified that, entities such as call centres who provide services to their clients by dealing with customers of the client on the client's behalf, but actually provided these services on their own account, will not be categorised as intermediaries. The concept of ‘intermediary’ largely being similar under GST, it was reasonable to expect that there should not have been any drastic shift in the stance of the Revenue Department.
In light of this ruling, it would be advisable for companies operating a similar business model to revisit their tax positions.
They may have a re-look at their agreements to determine if their activities would qualify to be intermediary services in light of the possibility of any adverse action by the revenue authorities. The revenue authorities should also tread carefully before initiating any adverse action on the service providers as it can result in these service providers being burdened with onerous GST liabilities with minimal possibilities of recovery from foreign clients. If the government does not clear its stand on the matter, or decides to adopt the view of the AAR, there is a possibility that the Indian back office support services industry which is a major exporter of services would lose its competitive edge over other developing countries.
With the rupee already under pressure, it would be interesting to see how the government responds to this ruling.
Jigar Doshi is an indirect tax partner at SKP Business Consulting LLP.
The views expressed here are those of the author and do not necessarily represent the views of BloombergQuint or its editorial team.