Customers shop at the Big Bazaar, Hypermarket store, in Noida, Uttar Pradesh. (Photographer: Prashanth Vishwanathan/Bloomberg News) 

GST: Taxman Goes After Discounts On Toothpastes And Shampoos

Companies may soon find it less lucrative to lure customers with that 25 percent extra shampoo in a bottle at no additional cost or a one-plus-one-free pack of cookies. If the taxman has his way.

The Central Board of Indirect Taxes and Customs may ask the makers of fast-moving consumer goods to pay tax on free products or extra grammage offered under promotional schemes, a senior official told BloombergQuint requesting anonymity.

Giving a product free leads to loss of revenue for the government, the official said. While no goods and services tax is paid on the freebies, the FMCG company still claims credit for taxes paid on manufacturing inputs, he said.

Prior to GST, companies paid excise duty on all products, including freebies, but availing input tax credit wasn’t that seamless. The new nationwide sales tax, however, has made it easier for them to claim credits at various levels of the supply chain, effectively reducing their tax liability, according to the official quoted earlier.

But FMCG companies have taken a different view, said Ritesh Kanodia, partner at tax consultancy Dhruva Advisors. What is being labelled as “free” is actually a reduction in transaction value, which the law doesn’t bar, he explained. “Same is the case for extra grammage. A company can choose to sell 500g of oil for Rs 100 or 500g plus 250g for Rs 100. GST is still charged on the gross value.”

Kanodia also pointed out that the definition of input is much wider under GST compared to VAT and Excise. It includes ‘any goods intended to be used…in the course or furtherance of business.’ And FMCG companies are arguing that such promotional schemes are for the furtherance of business and hence qualify for input tax credit.

Also read: GST Council To Mull Rate Cut On Items With ‘Low Revenue Impact’ On July 21

It Happened To Pharma….

But, the tax department had earlier raised similar queries to drugmakers that offer free samples to stockists. Thereafter an advisory issued by the CBIC explicitly mentioned that input tax credit must be reversed in the case of free samples handed out by pharmaceutical companies.

The advisory and the official quoted earlier both cited Section 17 (5)(h) of Central Goods and Services Tax Act, stressing that it states the input tax credit shall not be available on goods lost, stolen, destroyed, written off or given as a gift or free samples. Even discounts and free supplies are subject to reversal of input credit at the manufacturer level, the official said.

Sumit Lunker, indirect tax partner at PwC India, disagrees. He argues that such promotions are not freebies but discounts and that GST is payable on transaction value. “Merely because the word 'free' is used does not make a promotion a gift,” he said.

Besides, the government is getting more tax revenue as these promotion costs are incurred to induce sales, he added. “More sales will lead to more GST.”

In their response to the government in May, even pharmaceutical companies had said they don’t offer goods as free supply but discounts as an incentive to boost sales, according to the official quoted earlier. If stockist sells free units, drugmakers said they don’t have any option but to pay tax and there won’t be any loss of revenue.

The government’s argument, according to the official, was that free samples distort the seamless flow of tax credit in the supply chain, and also cause anomalies in inventory management. That would impact income and profit at various levels of the trade, the official said.

Several pharmaceutical companies are already litigating this dispute over interpretation, said tax experts. Now, the Directorate General of Goods and Services Tax Intelligence wants to expand the scope of investigation across India, the official said.

All this comes at a time the government is looking at ways to improve its GST revenue as India’s biggest indirect tax overhaul continues to evolve even after a year of rollout.

'Wary Of Giving Discounts'

If implemented, consumer goods makers will have to pay taxes on extra grammage and free products and/or they won’t be allowed to claim a credit on it. Will that hit their volumes or revenue?

“Compliance will be an issue to check how much is collected by way of GST,” said Dhanraj Bhagat, consumer and retail partner at consultancy Grant Thornton India LLP. “Companies would be a little wary of announcing promotional schemes, which could hurt volumes and revenue in the initial phase.”

How such free products are recognised in accounts will also change. Jigar Parikh, partner, financial accounting advisory services EY India, said if the tax department’s view prevails then companies will need to assess whether the additional tax should be disclosed as an expense or netted off from revenue under new IND AS.

Also read: GST Group Of Ministers: Delete Section On Reverse Charge, Defer Digital Payment Discount