The Hon’ble Gujarat High Court (‘the Court’) has held that the Corporate Guarantees (‘the CG’) furnished by a holding company to its subsidiary without any consideration constitute a taxable supply under Section 7 of the Central Goods and Services Tax Act (‘the CGST Act‘). Further, the Court also held that:

• Rule 28(2) of the Central Goods and Services Tax Rules (‘the CGST Rules’), mandating deemed valuation of 1% or actual consideration, is constitutionally valid. However, the expression “whichever is higher” is arbitrary and was read down.
• Retrospective application of Rule 28(2) for the CG for the period prior to 26 October 2023 is unconstitutional and invalid.

Facts

1. The current petition consists of a group of writ petitions from individuals who had provided the CG. They were challenging the validity of Rule 28(2) of the CGST Rules and Section 15(4) of the CGST Act, contending that the provisions were unconstitutional and exceeded the powers granted by the Constitution of India.

Issues before the High Court

• Whether the CG furnished without consideration between a holding company and a subsidiary is a taxable supply under the GST regime?
• Whether flat 1% deemed valuation of the CG is constitutionally valid and whether the expression “whichever is higher” operates arbitrarily?
• Whether imposition of GST levy on the CG based on Rule 28(2) executed before 26 October 2023 is constitutionally valid and whether such retroactive application violates Articles 14 and 19(1)(g) of the Constitution of India?

Discussion & Ruling

1. Holding companies are “related persons” to their subsidiaries and the execution of the CG without consideration would satisfy the expression “supply of services in the course of business” as envisaged in Section 7(1)(c) of the CGST Act read with Article 2 of Schedule I of the CGST Act.
2. Legal relationship between the holding company and its subsidiary created an enforceable obligation to provide financial security, thereby obligating the holding company to do an act in terms of Article 5(e) of Schedule II of the CGST Act. Accordingly, it is deemed to be a taxable supply between related persons in the course of business.
3. While upholding constitutional validity of Rule 28(2), the Court directed that the phrase “whichever is higher” under Rule 28(2) be read down, as it restricts corporate guarantors from paying GST based on actual commissions The Court held that:
   • Phrase “whichever is higher” violates Articles 14 and 19(1)(g) of the Constitution of India, limiting taxpayers’ options.
   • The Petitioners are entitled to have the valuation fixed/ determined as per the actual charge/ commission paid on the CG, and they cannot be left without any option.
4. With respect to the retroactive application of Rule 28(2) of the CGST Rules, the Court held the same could not be used to impose the 1% levy for a period before the rule came into force on 26 October 2023, based on the following:
   • Rule 28(2) imposes a retrospective levy of a new tax for the period during which no levy existed as per the law.
   • The taxable event resulting in the levy travelled back to the pre-GST era since the matter concerned the CGs executed from 2012.
   • Retroactive effect infringes on the fundamental rights under Article 14 and 19(1) (g) of the Constitution of India, since the levy is unduly harsh and unfair as taxpayers organise their finances according to the current laws.
   • It imposes an unexpected financial burden without any fault on the assessee, disrupts settled legal and financial implications, more particularly when the CG may stretch for a long period of time.
   • Levy is permissible from 26 October 2023 onwards only for the period during which the CG continue to remain in force.

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