Input Tax Credit on promotional items is not allowed in View of the Provisions of Section 17(2) & Section 17(5)

Introduction:

An advanced ruling is a mechanism whereby taxpayers can get answers or clarifications regarding supply of goods and services, directly from tax authorities and the primary objectives for such a mechanism are to reduce litigation, attract FDI due to transparent tax liability, provide certainty with respect to tax liability and disclose ruling in an inexpensive and transparent manner. The Authority for Advanced Ruling (AAR) constituted by the tax authorities interprets tax laws for the taxpayers and it was created to address any issues faced by taxpayers and assist them by providing a decision on the clarification sought. The AAR’s appellate authority is the AAAR (Appellate Authority or National Appellate Authority for Advanced Ruling). Section 95 to Section 106 in Chapter XVII of CGST Act covers the procedures and rules related to advance rulings. An application is made by the taxpayer on the clarification sought by them. The taxpayer is provided an opportunity of being heard by the AAR. If there is consensus on resolution on the clarification sought between the AAR and taxpayer, an ‘Advance Ruling’ is issued by the AAR and on the contrary, the matter is referred to the AAAR.

The question of law which is address through this AAAR is as follows:

Whether input tax credit(ITC) can be availed by appellate on distribution of promotional items such as posters, gifts to customers and hoardings, uniforms to staffs etc., to its distributors and franchisees.

Facts of the appeal made to AAAR, by M/S. Page Industries Ltd., (appellant)’, dated 16-Apr-2021:

The appellant, M/S. Page Industries Limited, is into the manufacture, distribution and marketing of swim wear and swimming equipment holding brand name ‘Speedo’ and woven and knitted garments under the brand name of ‘Jockey’. The appellant manufactures by self and also gets job done through job workers and sells their products through distributors and franchisees. For its brand promotion and marketing purposes, promoter avails the services of ad agencies and also procures promotional material such as uniform of staff, hoardings, gifts for customers, posters etc for display at its exclusive showrooms and retail outlets. The appellant pays GST on procuring such promotional material and ad services. An application was made to the Karnataka AAR to clarify if such promotional material and services can be treated as ‘inputs’ as per Section 2(59) of CGST Act and further ITC can be availed from these inputs as per Section 16 of CGST Act. The AAR vide its order no. KAR ADGR No. 54/2020 dated 15.Dec.2021 ruled that ITC cannot be claimed on such inputs for two reasons as mentioned below.

• GST paid on procurement for distribution to distributors and franchisee would amount to input and ITC can be claimed but ITC cannot be claimed on GST paid on procurements made for distribution to retailers and gifts to customers as they are free of cost and hence not allowed under Section 17(5) of GST Act.
• GST on the ‘non-distributable’ goods have to be classified as capital goods and appellant can claim ITC on such purchases but if they are written off or destroyed or lost, it ITC has to be reversed in such cases as section 16, rule 43 of CGST Act.

Aggrieved by the ruling given by AAR, the appellant appealed to the AAAR presenting its counter to the ruling as follows.

The appellant stated that for promotional activities it procures several display items such as hangers, cupboards, stands, ladders etc and displays them at its exclusive showrooms and retail outlets and employs sales girls and boys at these outlets and provides them uniforms to attract attention of customers. Further the appellant also provides gifts to its customers such as calendars, pens, diaries etc to promote brand loyalty, free of cost. The appellant is of the contention that the aforementioned items procured by it by paying GST and further distributed to its franchisees, distributors and retail outlets, amounts to ‘inputs’ as it for the furtherance of their business that such procurements and distributions are done. They have reiterated their contention through several Supreme Court case judgments namely Mazagon Dock Ltd Vs CIT and excess profit reported in 1958, Bombay HC ruling in the case of Coco Cola India Pvt. Ltd. Vs. CCE, Pune III  reported in 2009 etc.

Further on the point made that these promotional items are similar to gifts and hence ITC cannot be availed, the appellant is of the view that since there is an obligation on the part of the distributor and franchisee to promote their products, the distribution of promotional items is not free as a gift, but attaches an obligation to display and promote its products. They contended that since advertising service qualify as ‘input service’ under Section 2(60) of GST Act, the goods used in promotion would also qualify as ‘input’ under Section 2(59) of the Act. They further explained that the procurement expenses of such promotional items is classified in their books of accounts as revenue expenses and the AAR’s presumption that the appellant and its distributors / franchisees are related parties and the goods are hence considered as capital goods, lack merit. Further since the AAR presumed the parties involved as related parties their contention to classify them under clause 2 of Schedule 1 of CGST Act and amounts to supply is incorrect and the parties are governed by agreements mentioning specific obligations and deliverables. Hence the appellant contended that the promotional items be considered as ‘inputs’ and ITC be availed on such procurement of goods.

Observations and final ruling by AAAR vide Order No. KAR/AAAR/05/2021 dated 16.Apr.2021:

The appellant represented their case through their authorized representative on 8.Apr.2021 presented their case in terms of the procurement of promotional material which included GST and further distribution to the exclusive showrooms and outlets for display and also the uniform and freebies provide to customers to lure their  loyalty. The authorized representative submitted that the expenditure incurred on the promotional material was of revenue in nature and not capital as erred by the AAR. The AAAR got clarification from the authorized representative that the promotional items lies in the distributor / franchisee premises and returned only when they seize to become business partners. It was also confirmed that these promotional items were transferable from one showroom to another. Further the authorized representative reiterated that free items which were distributed to customers as promotional items  baring their logo, do not quality as items under Section 17(5)(h) of CGST Act and based his representation on Maharashtra AAAR ruling in the case of Sonafi India Ltd. in 2019. But the appellate authority stated that the case was not decided as there was difference of opinion amongst the members, which was acknowledged by the authorized representative. The authorized representative further disputed the AAR’s contention on treating the appellants relationship with its distributors and franchisee’s as related parties and also produces a dealership agreement entered into by appellant and that the appellant and the distributors / franchisees are independent entities and not related parties as erred by the AAR.

The AAAR took note of the representations made by the appellant and its authorized representative. First, the appellate authority defined ‘input’ under Section 2(59) of CGST Act as follows.

2(59)’input’ means any goods other than capital goods used or intended to be used by a supplier in the course or furtherance of business.

After analyzing the promotional items procurement and question to be addressed, the appellate authority disputed the lower authority’s contention of considering the promotional items as capital goods and since as per correct classification of expenditure on procurement of such items is classified as revenue expenditure by the appellant, the items should be considered as ‘input’ which are used in the course of and furtherance of business.

On the question of whether the appellant can avail ITC on the promotional goods procured by the appellant, the appellant authority classified the goods as non-taxable supplies and further define non taxable supply under section 2(78) of CGST Act as follows :’non-taxable supply’ means a supply of goods and services or both which is not leviable to tax under this Act or under the IGST Act. Further the AAAR stated that as per Section 17(2), when good or services or both are used towards making exempt supply, then ITC should not be allowed. Further as per Section 2(47) exempt supply also includes non-taxable supply. Since the appellant was providing the promotional items to its distributors and franchisees at free of cost and held ownership of the materials, they were considered as non-taxable supply by the appellate authority and hence denied claim of ITC. A similar contention was stated for the gifts distributed by the appellant and the AAAR further stated that such gift items will not qualify for ITC under Section 17(5)(h) of the CGST Act too.

The AAAR concluded by passing an order that the promotional/marketing items circulated by the appellant to its distributors / franchisees etc can be considered as ‘input’ as per Section 2(59) of CGST Act, but cannot be considered for availing ITC as per Section 17(2) and 17(5)(h) of the CGST Act, 2017 and set aside the ruling by the AAR.

To Read Ruling Download PDF Given Below: