GST: Cross-Charge Issue Just Got Real

Mumbai's financial district skyline is pictured. (Source: Reuters)

If the goods and services tax department has its way, branch offices should be paying their head offices for employee costs. For instance, for the CEO sitting out of the head office. Or the human resources or accounting departments. And on these payments, the GST should be levied.

In a recent show cause notice issued to a company engaged in ATM manufacturing, the GST department has stated that the head office in Mumbai supplied various services to its branch offices. Specifically, employee salary, financial cost, administrative expenses, export related expenses, etc. And since every branch office has a separate GST registration, making it a ‘distinct person', such supply of service by the head office to distinct units is liable to be taxed as per CGST rules.

Unlike the service tax regime, the GST requires every branch office to obtain a registration, making it a ‘distinct person'. According to the central GST law, if expenses are incurred by a distinct person for the benefit of another distinct person, the activity will be viewed as “supply of services or goods” liable to GST.

Citing this, the department's notice, a copy of which has been reviewed by BQPrime, said:

“...any expenditure incurred by head office to run the operation, the cost of rendering its services which benefit its other units, should be cross charged to the other units within the company and GST liability thereon must be discharged.”

The department has also been raising this issue in the GST audits that are underway, said Jigar Doshi, founder, Tax Technology Managed Services. Seeing that, it wouldn't be surprising to see more such notices, he added. Explaining the principle, Doshi said, an employee is qua a company—not a head office or branch. And the GST is not applicable on employer-employee relationships.

How do you cross-charge salaries? There is the concept of open market value. But if the branch office is taking credit, then different rules apply. Equally it can be argued that the branch office employees are working for the head office. If you do this, there's no end to this cross charging.

Jigar Doshi, Founder, Tax Technology Managed Services

Cross-charge is not a GST but an accounting concept, pointed out MS Mani, partner at Deloitte India. It essentially means that if an organisation incurs any common expenses attributable to the head office and branch offices, a proportion needs to debited from each ‘distinct entity' so that all expenses don't sit with the head office.

From a GST perspective, while it's necessary to attribute common costs over the units that receive the benefits of such common costs, it is also necessary to ensure that costs which do not have a nexus with a unit are not passed on to the unit merely because all costs are to be distributed.

MS Mani, Partner, Deloitte India

This is a classic case of levying the GST on something which cannot be taxed directly but is now being targeted indirectly, Ritesh Kanodia, partner at ELP, said.

It's understandable when the GST is to be distributed or cross-charged on third-party cost that the head office is incurring that benefits branch offices- like audit services, advertising cost, etc., and “that's why we have an input service distributor mechanism under the law”, said Kanodia.

But my own employee working out of the head office—how can you tax his services to the branch when the GST can't be levied on employer-employee relationship, which is a contract between the company as a legal entity and the employee.

Ritesh Kanodia, Partner, ELP

Also, isn't the head office performing its own statutory, other responsibilities under various regulatory laws and is the actual consumer of services, he said.

Tax practitioners' views aside, the GST department has two favourable rulings by appellate advance authorities to rely upon. In Columbia Asia's case, the Karnataka Appellate Authority held that the corporate office and its branch office are distinct persons. And the employees at the management office are carrying out activities like administrative work, accounting etc., which benefit the branch offices. This would constitute a supply taxable under the GST, it said.

Experts BQ Prime spoke with said the recent show cause notice and enquiries could've been prompted by the Maharashtra AAAR's ruling in January this year. In Cummins India's case, the appellate authority had concluded that allocation and recovery of the salary of the employees of the head office from the branch office will be subject to the GST.