The indirect tax system in India, both at Centre’s and States’ level, remains unduly complex, unfair, distortionary and structurally flawed, with a narrow base and susceptible to tax avoidance and evasion. This is despite the sincere and painstaking efforts made in past two decades to bring structural changes in the design of the present tax system.
Needless to say, the basic objective of any tax reform in the ‘Indirect Tax Regime’ would be to address the problems of the current systems. It should not only establish a system that is economically efficient and neutral in application, distributionally attractive and simple to administer, but at the same time, be capable of broadening the tax base while maintaining the autonomy of the taxation powers of the Centre and the States guaranteed under the Constitution. The switchover to ‘Goods and Services Tax’ (“GST”) is justified as it is viewed that GST is capable of addressing the problems associated with the current tax system and of achieving the above objectives.
After a long and painful wait, GST is finally knocking at the door of every business entity in the country! This eagerly-awaited, grand, ‘game-changer’ and gargantuan ‘Tax-reform’ is set to be implemented in the country from July 1, 2017. If one goes by the oft repeated, confident and clear utterances – that brooks
‘no nonsense’ – of the top echelon of the North Block, GST will certainly meet its destiny on this date!
‘Place of Supply’ Provisions – Current Tax Regime vis a-vis GST Regime
The current Indirect-tax Regime in India is ‘origin based’ and therefore, a formal concept of ‘Place of Supply of Goods’ is, as such, not prevalent. The major principle for determining the ‘situs of sale of goods’ as prescribed under the Central Sales Tax Act, 1956 (‘CST Act’) is the ‘location of the origin of the goods’. Thus, Central Sales Tax (CST) being levied under the CST Act is an ‘origin-based tax’ that is against the ‘destination principle’.
Under the Service Tax regime, no doubt, ‘Place of Provision of Services Rules’ are prescribed which are based on the ‘Destination Principle’. However, a close look at these Rules would reveal that their relevance is primarily in the Context of the cross-border i.e., international transactions in services. Since ‘Service Tax’ is a Central levy, the determination of ‘place of Supply of Service’ in case of the domestic transactions is never an issue.
However, as GST is ‘destination based consumption tax’, it is essential that an elaborate set of principles governing ‘Place of Supply’ (POS) for goods or services is provided. The federal character of Indian Republic also poses another challenge when one contemplate the POS provisions. (Please refer the discussion in the ensuing paragraphs). The provisions for determining ‘Place of Supply’, therefore, are critical to the whole design of GST.
The POS provisions – which are distinct for goods and services – are contained in the Integrated Goods and Services Act, 2017 (‘IGST Act’). The POS provisions are largely based upon the ‘International VAT/GST Guidelines’ (‘Guidelines’) issued by OECD in November, 2015. These important Guidelines merit a brief discussion here. (For the ease of reading, the terms ‘VAT’ & ‘GST’ are used as synonymous terms throughout the article.)
OECD’s VAT/GST Guidelines & its significance
The Guidelines are the culmination of nearly two decades of efforts to provide internationally accepted standards for consumption taxation of cross-border trade, particularly in services and intangibles. The Guidelines aim at reducing the uncertainty and risks of double taxation and unintended non-taxation that result from inconsistencies in the application of VAT in cross-border context.
a. Overarching purpose of a VAT: A broad-based tax on final consumption
The over-arching purpose of a VAT is to impose a broad based tax on consumption, which is understood to mean final consumption by households. A necessary consequence of this fundamental proposition is that the burden of the VAT should not rest on businesses.
The Central design feature of a VAT: staged collection process
The Central design feature of a VAT, and the feature from which it derives its name, is that tax is collected through a staged process. This Central design feature of the VAT, coupled with the fundamental principle that the burden of the tax should not rest on businesses, requires a mechanism for relieving businesses of the burden of the VAT they pay when they acquire goods, services or intangibles. There are two principal approaches to implementing the staged collection process of VAT, one is invoice-credit method (which is a ‘transaction-based method’) and other is subtraction method (which is ‘entity based method’). Almost all VAT jurisdictions (including India) of the world have adopted the invoice-credit method.
This basic design of the VAT with tax imposed at the every stage of the economic process, but with a credit for taxes on purchases by all but the final consumer, gives the VAT “its essential character in domestic trade as an economically neutral tax”. As the introductory chapter to the Guidelines explains:
“The full right to deduct input tax through the supply chain, except by the final consumer, ensures the neutrality of the tax, whatever the nature of the product, the structure of the distribution chain, and the means used for its delivery (e.g., retail stores, physical delivery, internet downloads}. As a result of the staged payment system, VAT thereby “flows through the businesses” to tax supplies made to final consumers”.
POS Provisions: ‘A crucial cog in the GST wheel’:
The principal aim of VAT (or GST) and its Central design demand that VAT system must have mechanisms for identifying the jurisdiction of consumption, by connecting the supplies to the jurisdiction where final consumption of the goods or services or intangibles to take place. VAT systems, thus, need ‘Place of Taxation’ (or ‘Place of Supply’) Rules to implement the destination principle, not only for business-to consumer (B2C) supplies, which involve final consumption, but also for business-to-business (B2B) supplies, even though such supplies do not involve final consumption. POS provisions, thus, act as a crucial cog in the GST wheel and keep it running uninterruptedly and smoothly.
POS Provisions under GST Regime: Different Perspectives
The POS Provisions under GST regime can essentially be viewed from the following perspectives, viz.:
• Constitutional Perspective
• Destination Perspective
• Taxability Perspective
• Seamless Credit Perspective
These are briefly discussed below:
I. Constitution Perspective
As stated above, India is a federal republic where the Centre and the States enjoy distinct taxation powers. This division of taxation powers between the Centre and the States is guaranteed under the Constitution of India vide Article 246 read with Schedule VII thereof. This Constitutional Scheme of taxation powers for the Centre and the States has ensured that the Centre cannot levy tax on the distributive trade and the States cannot levy tax on services.
However, the core feature of GST requires that both, the Centre and the States have concurrent jurisdiction to levy tax on all supplies of goods or services or both and on the same tax base. This objective is achieved through ‘The Constitution (One Hundred and First Amendment) Act, 2016’ vide which certain significant amendments have been carried out in the Constitution, paving a way for ultimate introduction of GST in the country.
The inevitability of maintaining the autonomy of taxation powers of the Centre and the States as guaranteed under the Constitution has also compelled India to adopt a ‘dual GST structure’ rather than a ‘unified GST structure’. Under dual GST structure, both, the Centre and the States would concurrently levy Central GST (CGST) and State GST (SGST) respectively on all supplies on a comprehensive basis.
In order to ensure a smooth implementation of GST regime, keeping in mind the ‘destination principle’ and with a view to avoid any possibility of conflicting interpretations, the powers to enact the laws governing ‘inter-state supplies’ are vested with the Centre only. Thus, the statutory framework governing inter-State supplies, imports and exports is provided by the IGST Act that also contains the principles of determining ‘Place of Supply’ of goods or services or both.
II. Destination Perspective
The fundamental issue of economic policy in relation to the application of the VAT/GST is whether the levy should be imposed by the jurisdiction of origin or destination. Under the destination principle, tax is ultimately levied only on the final consumption that occurs within the taxing jurisdiction. Under the origin principle, the tax is levied on the various jurisdictions where the value was added. The key economic difference between the two principles is that the destination principle places all the firms competing in a given jurisdiction on an even footing whereas the origin principle places consumers in different jurisdictions on an even footing.
The application of the ‘destination principle’ in VAT achieves neutrality in cross-border trade. Thus, in international trade, applying this principle, exports are not subject to tax with refund of input taxes (that is, “free of VAT” or “zero-rated”) and imports are taxed on the same basis and at the same rates as domestic supplies. By contrast, under the ‘origin principle’, each jurisdiction would levy VAT on the value created within its own borders.
For these reasons, there is a widespread consensus that the destination principle, with revenue accruing to the country of import where final consumption occurs, is preferable to the origin principle from both a theoretical and practical standpoint. In fact, the destination principle is the international norm and is sanctioned by World Trade Organisation (‘WTO’) rules.
Because of the widespread acceptance of the destination principle for applying VAT to cross-border trade, most of the POS provisions are generally intended to tax supplies of goods, services and intangibles within the jurisdiction where consumption takes place.
In theory, POS Provisions or Place of Taxation Rules should aim to identify the actual place of business used for B2B supplies (on the assumption that this best facilitates implementation of the destination principle) and the actual place of final consumption for B2C supplies. However, the Guidelines recognise that Place of Taxation Rules (or POS Provisions) are in practice rarely aimed at identifying where business use or final consumption actually take place. This is a consequence of the fact that VAT must in principle be charged at or before the time when the object of the supply is made available for business use or final consumption. In most cases, at that time, the supplier will not know or be able to ascertain where such business use or final consumption will actually occur. VAT systems therefore generally use proxies for the place of business use or final consumption to determine the jurisdiction of taxation, based on features of supply that are known or knowable at the time that the tax treatment of the supply must be determined. For this purpose, B2B supplies are assumed to be supplies where both the supplier and the customer are recognised as businesses, and B2C supplies are assumed to be supplies where the customer is not recognised as a business.
III. Taxability Perspective
POS Provisions, when viewed from ‘taxability perspective’, involve the following considerations viz:
• nature of supply and that is, whether the ‘supply’ is ‘inter-state’ or intra-State’?
• subject of supply and that is, whether supply is of ‘goods’ or ‘services’ or ‘both’?
• category of supply that is, whether the supply is ‘business-to-business’ or ‘business-to-consumers’?
I. ‘Inter-State Supply’ and ‘Intra-State Supply
Section 7 and Section 8 of the IGST Act define, in an elaborate manner, the terms ‘inter-State supply’ and ‘intra-state supply’ respectively.
To summarise, an ‘inter-State supply’ of goods or services, within the terms of Section 7, is:
i. Where the location of the supplier and the place of supply are in two different States or two different Union Territories or a State and a Union Territory;
ii. Supply of goods into the territory of India, till they cross the customs frontiers of India;
iii. Supply of services imported into the territory of India;
iv. Supply of goods/services to or by an SEZ Developer or an SEZ Unit;
v. Supply when supplier of goods or services or both is located in India and the place of supply is outside India;
vi. Any other supply in the taxable territory, not being an intra-State supply and not covered elsewhere under Section 7.
On the other hand, an ‘intra-State supply’ of goods or services in terms of Section 8 is where the location of the supplier and the place of supply of goods/services are in the same State or same Union Territory. However, ‘Iintra-State supply’ shall not include:
i. supply of goods/services to or by a SEZ Developer or SEZ Unit;
ii. supply of goods imported into the territory of India till they cross the customs frontiers of India; and
iii. supplies made to a tourist referred to in Section 15.
In order to determine whether the supply of goods or services qualify as ‘Inter-state’ or ‘Intra-State’, one has to first determine the location of the supplier and the place of supply in terms of POS provisions.
Viewed from another angle, it is also important to determine whether a ‘supply’ is an ‘Inter-state’ or ‘Intra-state’ so as to ensure discharge of appropriate tax liability and that is, IGST or CGST/SGST. The adverse consequences in terms of Section 19 of the IGST Act or Section 77 of the CGST Act may follow in the event of the wrong determination of the character of supply and the consequential inappropriate discharge of tax liability.
POS Provisions facilitate the proper determination of the ‘nature or character of supply’.
II. Subject of ‘supply’: Whether ‘goods’ or ‘services’ or ‘both’?
Implementation of the destination principle i.e., adopting practical place-of-taxation-rules (or POS rules) that identify the jurisdiction in which final consumption occurs, raises a host of additional questions because identification of the jurisdiction in which final consumption occurs can be effectuated only through proxies that reflect one’s “best guess” where final consumption is likely to occur since ‘in many (if not most) cases consumption is not directly observable.’
Implementing the destination principle with respect to cross-border trade in goods is relatively straight forward, based on the assumption that the destination of the goods determined by physical flows is a reasonable proxy for where consumption of the goods is likely to occur. Thus, exported goods are commonly ‘zero rated’ and imported goods are taxed at the border.
However, implementing the destination principle is more complicated with respect to the taxation of cross-border trade in services and intangibles than with respect to cross-border trade in goods. Until fairly recently, cross-border trade in services attracted relatively little attention because most services were consumed where they were performed. Consequently, there was not much cross-border trade with respect to which a ‘destination’ needed to be identified.
This state of affairs changed dramatically with the enormous growth in cross-border trade in services, driven by forces of globalization and facilitated by technological innovation. With the increasing “disconnect” between performance and consumption or use of services in a territorial sense, the traditional rule for determining the place of taxation of services by reference to the service provider’s establishment becomes problematic. The problem was exacerbated by the growth of multinational corporations, which render services in myriad locations through complicated legal structures. The problem is not merely confined to designing an appropriate regime for taxing cross border trade in services and simply adopting a destination-based rule for the place of taxation of services akin to the rule for the place of taxation of goods.
The more fundamental problem is that the enormous growth in services involving suppliers in one jurisdiction and customer in another often involves services that are intangible in nature, making it more difficult both to determine the appropriate jurisdiction of ‘destination’ and to enforce the tax on the basis of that determination, because such services are not amenable to border controls in the same manner as goods. Such services circularly defined as services “where the place of consumption may be uncertain” or, perhaps, a bit more precisely, as ‘services and intangible property that are capable of delivery from a remote location’ include services such as consultancy, accountancy, legal and other intellectual services, banking and financial transactions, advertising, transfer of copyright, provision of information, data processing, broadcasting, telecommunication services, online supplies of software and software maintenance, online supplies of digital content, digital data storage and online gaming.
The above challenges, in fact, raised by cross-border trade in services and intangibles are the raison d’etre of the OECD’s VAT/GST Guidelines which also is the bedrock on which the POS Provisions of the IGST Act rest.
III. Category of Supply: Whether B2B or B2C?
The approaches used by VAT systems to implement the destination principle for B2B supplies and the tax collection methods used for such supplies are often different from those used for B2C supplies. This distinction is attributable to the different objectives of taxing B2B and B2C supplies: taxation of B2C supplies involves the imposition of a final tax burden, while taxation of B2B supplies is merely a means of achieving the ultimate objective of the tax, which is to tax final consumption. Thus, the objective of place of taxation rules (or POS Provisions) for B2B supplies is primarily to facilitate the imposition of a tax burden on a final consumer in the appropriate country (and/or the State) while maintaining neutrality within the VAT system. The overriding objective of place of taxation rules (or POS Provisions) for B2C supplies, on the other hand, is to predict, subject to practical constraints, the place where the final consumer is likely to consume the services or intangible supplied.
In addition, because of the different characteristics of supplies to businesses and supplies to households, VAT systems often employ different mechanism to collect the tax in connection with B2B and B2C supplies, and these different mechanisms in turn often influence the design of place of taxation rules (or POS Provisions) and of the compliance obligations for suppliers and customers involved in cross-border supplies.
IV. Seamless Credit Perspective
One of the many meanings ascribed to GST reads as under:
“A destination-based Value Added Tax which is levied on ‘Value Added’ to goods and services at each stage in the economic chain of supply. Therefore, all different stages of production and distribution act as mere ‘Tax Pass-through’ and the tax essentially sticks on the final consumption within the taxing jurisdiction. Credit is made available across goods and services and even across the States. GST thus, operates as a pure VAT.”
It is thus, evident that all types of supplies, whether Inter-state or intra-State, of goods or services or both are likely to be covered within the tax net with only minimal exclusions. It is therefore imperative to ensure ‘seamless credit’ across the economic chain of supply of goods or services which is the chief aim of GST or VAT. The availability of seamless credit will also ensure that tax is not imposed nor does it rest on the businesses but is ultimately imposed only on the final consumption in the hands of the final consumer. Since, in principle, GST is a creditable/refundable tax, it shall not be a cost for the business nor a revenue proposition for the Centre or the States.
This ‘wash-through’ nature of GST or VAT has a significant bearing, not only on the conceptual design of IGST and its operative mechanism, but also the designing of the POS Provisions, particularly in the context of inter-State transactions.
A careful reading and analysis of the POS Provisions contained in the IGST Act would reveal that the provisions are broadly in conformity with the OECD International VAT/GST Guidelines as well as prevalent practices in many VAT/GST jurisdictions of the world. The Guidelines are based on certain generally accepted principles of tax policy applicable to consumption taxes and also recognised by the Ottawa Taxation Framework Conditions (1998). These principles are as follows:
• Neutrality : Taxation should seek to be neutral and equitable between forms of electronic commerce and between conventional and electronic forms of commerce. Business decisions should be motivated by economic rather than tax considerations. Taxpayers in similar situations carrying out similar transactions, should be subject to similar levels of taxation.
• Efficiency: Compliance costs for businesses and administrative costs for the tax authorities should be minimised as far as possible.
• Certainty and Simplicity: The tax rules should be clear and simple to understand so that taxpayers can anticipate the tax consequences in advance of a transaction, including knowing when, where, and how the tax is to be accounted.
• Effectiveness and Fairness: Taxation should produce the right amount of tax at the right time. The potential for tax evasion and avoidance should be minimised while keeping counteracting measures proportionate to risks
• Flexibility: The systems for taxation should be flexible and dynamic to ensure that they keep pace with technological and commercial developments.
POS Provisions will certainly be an unknown and unchartered area for the distributive trade though a section of the manufacturers and service providers may have some familiarity with the concept in view of the ‘Place of Provision of Services Rules’ currently in vogue under Service Tax Regime. POS Provisions are like veins of the GST body, carrying, both, tax and corresponding credit throughout the body. It is, therefore, not only essential but also inevitable for all the stakeholders, whether taxpayers or tax administrators or tax professionals, to gain sufficient understanding of these provisions so as to be able to comply with the GST law correctly.
1. International VAT/GST Guidelines by OECD (April 2014)
2. Discussion Drafts for Public Consultation – International VAT/GST Guidelines by OECD (Dec. 2014 – Feb. 2015)
3. A Hitchhiker’s Guide to the OECD’s International VAT/GST Guidelines by Walter Hellerstein, University of Georgia School of Law (18 FLA Tax Rev 589 (2016))
4. lnterjurisdictional Issues by Keen & Hellerstein
5. Jurisdiction to Tax in the New Economy by Walter Hellerstein [38 GA.L. Rev. I. 28(2003)]
[Courtesy: BCAS Journal – Special Issue on GST – July, 2017]
[Source : Article printed in souvenir of National Tax Conference held on 2nd & 3rd September, 2017 at Kolkata]