ITC Reversal in case of redemption of securities

It is a general trend for businessmen to invest surplus funds in the form of Securities. Now, in the GST Regime, one cannot avail of Input Tax Credit (ITC) with respect to Exempted Supply. The same condition was prevalent in-Service Tax Regime as well. Now this article deals with the question of whether redemption of security can be held as an exempted supply for reversal of ITC.

In the Service Tax Regime or Cenvat Credit Law the activity of trading in securities was included within the scope of exempted services and therefore same, lead to Cenvat Credit Reversal. In the GST Regime the ‘transaction in securities’ is covered within the scope of ‘value of exempt supply’ and thus requires reversal of ITC.

Relevant Law calling for reversal of ITC:

Section 17(2) and 17(3) related to Apportionment of credit is given below for your reference:

(2) Where the goods or services or both are used by the registered person partly for effecting taxable supplies including zero-rated supplies under this Act or under the Integrated Goods and Services Tax Act and partly for effecting exempt supplies under the said Acts, the amount of credit shall be restricted to so much of the input tax as is attributable to the said taxable supplies including zero-rated supplies.

(3) The value of exempt supply under sub-section (2) shall be such as may be prescribed, and shall include supplies on which the recipient is liable to pay tax on reverse charge basis, transactions in securities, sale of land and, subject to clause (b) of paragraph 5 of Schedule II, sale of building.

Section 2(101) is given below for your reference:

(101) “securities” shall have the same meaning as assigned to it in clause (h) of section 2 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956);

Definition of Securities as per clause (h) of section 2 of the Securities Contracts (Regulation) Act, 1956 (42 of 1956)

(h) “securities” include— (i) shares, scrips, stocks, bonds, debentures, debenture stock or other marketable securities of a like nature in or of any incorporated company or other body corporate;

(ia) derivative;

(ib) units or any other instrument issued by any collective investment scheme to the investors in such schemes;

(ic) security receipt as defined in clause (zg) of section 2 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002;

(id) units or any other such instrument issued to the investors under any mutual fund scheme;

(ii) Government securities; 

(iia) such other instruments as may be declared by the Central Government to be securities; and  (iii) rights or interest in securities;

Explanation 2(b) of Chapter V

Explanation. – For the purposes of this Chapter, -….

(1) ….

(2) for determining the value of an exempt supply as referred to in sub-section (3) of section 17

(a) ….

(b) the value of security shall be taken as one per cent. of the sale value of such security.

As per plain interpretation of these provisions, it can be inferred that one is required to reverse the ITC in case of redemption of Securities like Shares, Mutual Funds etc. Now this would be a cause of worry for many as almost every Taxpayer has an investment in securities.

Here the question arises that whether the activity of redemption of securities would be covered within the expression ‘transaction in securities’?

In this regard, we may note that the expression ‘transaction in securities’ has not been defined under the GST laws.

Sharing a caselaw of Service Tax Regime to understand the meaning of Transaction in Securities:

CESTAT, BANGALORE BENCH in matter of Ace Creative Learning (P.) Ltd. v. Commissioner of Central Tax held that in case investments are made in mutual fund and earned profit from it which was shown in Books of Account under head ‘other income’, he could not have been termed as ‘service provider’, hence, department had wrongly demanded reversal of credit on exempted services

5. After considering the submissions of both the parties and perusal of the material on record, I find that the appellant is providing Commercial Training and Coaching Services and they have also invested in the mutual funds and have earned profit during the year 2014-15, 2015-16 & 2016-17 which they have shown as under the head “other income”. The Department has wrongly considered the investment in mutual fund as trading in mutual funds and has issued a notice on the presumption that the appellant is providing exempted services which is trading in mutual funds and has not maintained separate records for common input services availed in providing the output services and exempted activity i.e. trading and hence are liable to pay 6%/7% of the amount of exempted services. Further I find that the ‘trading’ has not been defined under the Service Tax but in the context of securities, ‘trading’ means an activity where a person is engaged in selling the goods and occupy for the purpose of making profit but certainly trading is different from redemption of mutual fund units, in the present case appellant cannot transfer the mutual fund units to third party and give only by redemption to the mutual fund because the appellant is not permitted to trade mutual fund unit in the absence of a license from the SEBI. There is a restriction on the right to transfer unit and the appellant cannot transfer units to any other person. Further I find that the appellant cannot be termed as “service provider” because he only makes an investment in the mutual fund and earn profit from it which is shown in the Books of Accounts under the head “other income”. Hence the question of invoking Rule 6 does not arise and I am of the view that Department has wrongly invoked the provisions of Rule 6(3) demanding the reversal of credit on the exempted services. I also find that substantial demand is time-barred as during the audit, the Department entertained the view that the appellant is engaged in providing the exempted services and consequently issued the show-cause notice. The appellant has been filing the returns under the taxable service of ‘Commercial Training and Coaching and has provided all the records to the Department during the course of investigation and has not suppressed any material fact from the Department and in view of the various decisions relied upon by the appellant, extended period cannot be invoked where the Revenue’s case is based on Balance Sheet and income return and other records of the assessee. In view of my discussion above, I am of the considered view that the impugned order is not sustainable in law and the same is set aside by allowing the appeal of the appellant.

Conclusion:

• Trading of securities and sale of investment is different.
• Redemption of Mutual Fund, sale of shares held as capital asset etc. is an investment Activity and thus is Transaction in Money.
• Reversal of ITC should be required in case of sale of securities and not in case of redemption of an investment.

Illustrations

1. Mr A is Registered in GST. He is having total turnover of Rs. 10 Lakhs, and the value of redemption of mutual funds Rs.2 Lakhs. His Total Input Tax Credit if Rs. 50,000.

Redemption of Mutual Funds cannot be construed as Transaction in securities for reversal of ITC.

2. Mr A is a Stock-Broker Registered in GST. He is having total turnover of Rs.10 Lakhs from Facilitation of Transaction in securities, and Rs. 2 Lakhs from the Sale of Securities. His Total Input Tax Credit if Rs. 50,000.

In this case this will lead to reversal of proportionate ITC.

Formula for ITC Reversal:

= Total ITC X Value of exempt supply

———————————————–

Total Turnover

Value of Exempt Supply = 1% of Value of Security

Conclusion

Though we have seen favourable case laws in the old tax regime where redemption of securities held as investment did not call for reversal of Cenvat credit, clarification is still required in GST Regime.

Department may interpret the activity of redemption of securities to include within the scope of transaction in securities and, therefore, it would require reversal of input tax credits. This issue thus calls for a logical clarification, so as to avoid unnecessary litigation.

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