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This article discusses the impact of the recent Public Notice No. 55/2024 dated 24.06.2024 issued by the Commissioner of Customs, NS-III, JNCH, Nhava Sheva which prescribes guidelines for verification of Country-of-Origin Certificates (“COO”) issued under various Preferential Trade Agreements/Free Trade Agreements (“FTAs”) and involving third-country invoicing transactions. This Public Notice No. 55/2024 was issued superseding an earlier Public Notice No. 33/2024 dated 20.03.2024 on the same issue against which the industry at large had raised concerns.

Introduction

Public Notice No. 33/2024 dated 20.03.2024 recognised the following difficulties being faced by the customs authorities in verification and defacement of COOs issued in transactions involving third-party invoicing:

COO does not mention the FOB value in the relevant column;
Third-country invoice does not indicate the FOB value mentioned in the COO;
Third-country invoice indicates a greater number of items than mentioned in the COO;
Bill of entry presented on the basis of third-country invoice indicates a CTH which is other than the CTH mentioned in the COO.

In the above circumstances, the Public Notice No. 33/2024 required the importers to submit the invoice of exporter of originating country. This caused hardship to the Trade as the importers were not in a position to submit such invoices and clearance of import consignments were held up. The requirement to submit such invoices was questioned by the exporters / third party alike and raised concerns that the authorities were seeking commercially sensitive information. It was found that such requirement was also not envisaged by the Rules of Origin of the FTAs read with the Customs (Administration of Rules of Origin under Trade Agreements) Rules, 2020 (“CAROTAR, 2020”).

It appears that the Board intervened based on the representations received from the Trade. As a result, the Public Notice No. 33/2024 has been superseded by Public Notice No. 55/2024 dated 24.06.2024.

Analysis of Public Notice No. 55/2024

This article shall endeavour to compare and analyse the guidelines laid down vide both the Public Notices and analyse the impact of the latest Public Notice.

Non-inclusion of FOB value in third-country invoice

The Public Notice No. 33/2024 compelled the importers to ensure that the third-country invoice indicates the FOB value mentioned on the COO along with other costs and services. In absence of the same, the importers were left with no choice but to submit the invoice of the exporter of the originating country on the basis of which the COO was issued.

With the issuance of Public Notice No. 55/2024, while details of the third-country invoice are to be mentioned in the COO, the mandate of indicating the FOB value as mentioned in the COO along with other costs and services in the third-country invoice has been done away with and the Trade is no longer required to submit the invoice of the exporter for availing benefit under the relevant FTAs.

Going forward, the requirement is only to indicate the freight and insurance amounts in the third-country invoice and no other costs and services need to be indicated. Alternatively, the importer will need to submit freight certificate and insurance receipt. This certificate is also to be submitted in case the freight has been paid by any person other than the Shipper indicated on the Bill of Lading.

It is pertinent to note that the inclusion of third-country invoice details in the COO is beneficial for correlation of the documents and ease of verification. This is already being done by majority of the Trade. Further, though the freight and insurance amounts are to be mentioned on the third-country invoice, this does not raise any concerns regarding sensitive information being sought by the Department as these amounts are already disclosed by the importers on the Bills of Entry. In fact, the ambiguity caused by usage of the term other costs and services in Public Notice No. 33/2024 no longer exists.

The above analysis is only relevant for those COOs which have a specific column for FOB value, for e.g. India-UAE CEPA, India-Australia ECTA and India-Japan CEPA.

Mismatch in Customs Tariff Heading in COO and third-country invoice

As per the Public Notice No. 33/2024, in case of difference in Customs Tariff Heading (“CTH”) mentioned in the COO and the third-country invoice, the importer was again compelled to submit the invoice of the exporter of the originating country on the basis of which the COO was issued and amend the Bill of Entry in accordance with the CTH mentioned in the COO. Whereas the Public Notice No. 55/2024 now permits the importer to self-declare the preferred CTH in the Bill of Entry and the same shall be scrutinised and decided upon by a proper officer. Similarly, difference in product description, if any, shall also be scrutinised accordingly.

Though the importers have been given the option to choose their preferred CTH, the procedure and outcome of self-declaring the preferred CTH is left open-ended by the Department. In case of mis-match between the CTH mentioned in the COO and Bill of Entry, it is likely that the Customs authorities will object to the FTA benefit claimed. This aspect should be taken up with the JNCH, by the Trade, so that FTA benefit is not denied due to classification dispute, if the other classification is otherwise covered by FTA exemption notification.

Greater number of items mentioned in the third-country invoice than COO

Where the third-country invoice covered a greater number of items as opposed to the COO, the Public Notice No. 33/2024 required the importer to submit the invoice of the exporter and amend the Bill of Entry in accordance with the items mentioned in the COO. Now, the Public Notice No. 55/2024 clarifies that the FTA benefit shall be accorded only to the items mentioned in the COO and the remaining items shall be assessed at merit rate. This guideline is in accordance with the Rules of Origin provisions, understanding of the Trade and is logical.

FOB value mentioned in third-country invoice is same as that in COO

The Public Notice No. 55/2024 states that the FOB value indicated in the third-country invoice (where incoterms are FOB) cannot be identical to the FOB value mentioned in the COO and if both the FOB values are identical it would imply that the profit and other charges of the third-country supplier are added to the value.

In such a scenario, the Public Notice No. 55/2024 now requires the importer to provide an explanation for the above at the time of self-assessment of the Bill of Entry and ensure that both the FOB values are in the same currency. This guideline is only for the ease of verification of documents and the same should be followed.

It is to be borne in mind that the COO is required to indicate the FOB value of the exporter in the originating country and that such FOB value alone is taken into consideration for value addition calculation. It is not relevant as to whether the FOB value mentioned in the third-country invoice is higher or lower than the FOB value mentioned in the COO and in fact, the FOB value mentioned in the third-country invoice can be lower than the FOB value mentioned in the COO due to commercial considerations. The Customs authorities should not mix up between the two FOB values, while the FOB value mentioned in the third-country invoice will be relevant for assessment of customs duty, the FOB value mentioned in the COO alone is relevant for calculation of value addition for purposes of FTA benefit.

Option of early clearance of goods

The importer can seek early clearance of the goods by furnishing Bond and Bank Guarantee or cash deposit, if the importer requires more time to submit information and supporting documents as sought by the proper officer. Thus, awaiting the scrutiny of such documents, the Trade can seek to clear the goods under provisional assessment instead of payment of merit rate of duty under protest.

Conclusion

Public Notice No. 55/2024 has scrapped the earlier guidelines much to the relief of the Trade. The latest Public Notice is likely to ease the difficulties being faced by the Trade. The intent behind the Public Notice appears to be to ensure that the FTA benefits are extended to eligible goods only and third-country invoicing is not used as a route to circumvent the same. It also seeks to ensure that the value addition calculation is done based on the FOB value of the exporter only and expenses up to the port of export alone are included.

Though the applicability of this Public Notice is confined to Nhava Sheva, taking a cue from the same it is possible that similar guidelines may be issued by other port authorities as well. In view of the same, the importers claiming FTA benefit in case of third country invoicing should prepare themselves accordingly to facilitate clearance of their imports. With the issuance of these guidelines, it is hoped that the Customs authorities shall resolve issues of verification of COOs within a short period of time.

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Whether the SEZ Units and developers liable to discharge GST under RCM? The legal answer to this question appears to be unearthed but the practical answer is yet to see light of the day. Let’s deep dive into the background and gradual developments on the subject matter.

The SEZ Developers and Units are enjoying the special status under the GST regime also. The supplies to them are treated as ‘zero-rated supplies’ and the GST benefits are extended to such supplies. The import of services by the SEZ Developers and Units, for which, in general, the GST is payable under Reverse Charge Mechanism (RCM), are also exempt from the levy of IGST vide Notification No. 18/2017-Integrated tax (rate) dated 05.07.20217. Now the question is what will be the impact for local procurement of services by SEZ i.e. will GST be payable under RCM?

It is clarified under the TRU letter bearing No. F. No. 334/335/2017-TRU dated 18.12.2017 that the intention of the Legislature is not to tax supplies to a unit in SEZ or a SEZ Developer. Therefore, SEZ Developer and unit can procure such services without payment of IGST provided the actual recipient, i.e., unit in SEZ or SEZ developer, furnishes a Letter of Undertaking (LUT) as per notification No. 37/2017-CT.

CBIC also issued a FAQ dated 15.12.2018 wherein it is answered the question ‘Whether SEZ unit or developer needs to pay IGST when it received supplies which are under reverse charge mechanism?’ that ‘All supplies to SEZs are zero rated. However, the suppliers are given two options. In this case, the supplier is not liable to pay GST as the supply is under reverse charge mechanism. The recipient is considered as deemed supplier. Therefore. SEZ has to pay GST in this case. This position has been followed by the Advance Ruling Authorities in various States and ruled that as long as the recipient SEZ developer or unit has executed the necessary LUT or Bond prescribed under the GST Law, there is no GST liability under RCM.

Execution of LUT as recipient of supply, is it envisaged under GST Law?

Section 16 of the IGST Act provides that a registered person making a zero rated supply is eligible to claim refund of unutilised input tax credit on supply of goods or services or both, without payment of IGST under bond or LUT, in accordance with the provisions of Section 54 of the Central Goods and Services Tax Act, 2017 or the rules made thereunder. This enables the supplier to execute the LUT and supply the goods or services or both to SEZ without payment of IGST. In terms of Section 9(3) of the IGST Act, the Central Government is empowered to notify categories of supply of goods or services or both, the tax on which shall be paid under RCM by the recipient of such goods or services or both and all the provisions of the IGST Act shall apply to such recipient as if he is the person liable for paying the tax in relation to the supply of such goods or services or both.

Combined reading of Section 16 and Section 9(3) of IGST Act evidence that the recipient in SEZ would take the colour of supplier, with respect to those supplies on which GST is payable under RCM. Now, the question is how the procedural conditions would be followed by SEZ i.e., execution of LUT for receipt of service. The clauses in LUT/Bond, as prescribed in Form RFD 11, worded as if it is executed by the exporter or supplier to SEZ and does not contain the clauses to cover the receipt of services under RCM. Therefore, presently, the LUT as executed by SEZ Developer or Unit, in the Form RFD 11, for export of goods or services or for supplies to another SEZ Developer or unit as Zero rated supply, does not contain the clauses to cover receipt of services for which RCM liability is attracted.

The provisions as exist does not contain clarity on the following.

Whether the SEZ Developers and units should execute a modified LUT/Bond to cover the receipt of services for which RCM liability is attracted?
Should they execute a fresh LUT only for receipt of services for which RCM liability is attracted?
What about the RCM liability for past periods?
Whether the Bond-cum-LUT executed under the SEZ Law for duty free import and local procurement can be sufficient for the receipt of services with Zero rated benefit?

Unless the clarity on above is provided, ambiguity and litigation with respect to RCM liability on the registered person in SEZ would continue.

Parting remarks….

As said above, there is still some clarity required on availing the Zero-rated benefit for the receipt of services by the SEZ developer or unit for which RCM liability exist on them. Unless a suitable enabling provisions and/or clarification is provided by the Government, the issue would be prone to litigation. The trade and industries may represent before the authorities for bringing clarity and to avoid future litigations.

[Views expressed in the article are strictly personal]

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The year 2023 has been a special year for Initial Public Offerings (IPO) in India as activity slowed in other major markets across the globe. India has seen a surge in IPOs, as more and more companies including starts ups are raising capital from the primary market. A company may choose to structure the IPO as (i) a fresh issue, (ii) an Offer for Sale (OFS), in which existing shareholders sell a portion of their existing shareholding in the company to the public, or (iii) a combination of a fresh issue and an OFS. OFS offers an exit for early investors in the company. Also, generally post the IPO, the employees also get an opportunity to liquidate the shares allotted to them by the companies against the Employee Stock Option Plans (ESOP).

During the course of IPO, the companies avail services of various merchant bankers, brokers, legal counsel, auditors and marketing experts, for technical advisory, due diligence, execution of agreements, filing prospectus with SEBI, newspaper publications, public announcements, underwriting agreements, etc.

The objective of this article is to understand the issues that may arise while taking input tax credit (ITC) under GST and to understand if such expenditure is eligible for deduction under the Income Tax (IT) Act, 1962. Also, the author wishes to highlight certain issues which arise under the GST & IT Act as regards the issuance of shares to the employees under ESOP.

Eligibility of benefit under the GST Act

Under GST, the issue to be considered is whether tax paid in the form of GST on various expenses such as legal fees, listing fees, corporate advertisements etc. is eligible for taking ITC on the ground that these expenditures are incurred in the course or furtherance of business. The question requires further examination where a part of such expenses is incurred by a company on behalf of the selling shareholders in terms of Section 2(83) of the Companies Act, 1956.

There is no iota of doubt that expenses incurred for the issuance of an IPO are for the purpose of raising capital which would be used for the purpose of conducting business. Hence, on the skim view, it can be said that under Sec 16 of the Central Goods and Services (CGST) Act, 2017, ITC should be available to a company.

However, it is to be noted that the securities are excluded from the definition of goods and services under the CGST Act. Further, Section 17(3) of the CGST Act, explicitly disallows any ITC on ‘transaction in securities’ on account of being an exempt supply. Further, Rule 42 of CGST Rules provides that in case of exempt supply, the ITC to the extent of such exempt supply is required to be reversed.

Since IPO expenses are directly relatable to the issuance of securities, which is excluded from the definition of goods as well services under the CGST Act, the eligibility of the credit needs to be tested under Sec 17 of the CGST Act.

This quandary continues or rather increases if the IPO turns out to be unsuccessful and the efforts of the companies and selling shareholders go in vain. In this scenario, can it be argued that the company has not engaged in transactions of securities per se as the securities never got issued. Infact, the real question is whether the said expenditure can be said to be incurred in the course or furtherance of business as such IPO never really materialized for company to deploy funds in the business of the company.

To answer all these questions, one need to critically examine the scope of the expression ‘in the course or furtherance of business’, as interpreted by Indian & foreign Courts[1] . The courts have interpreted the scope to be very wide to include those supplies which have a direct and immediate link with the whole economic activity of the taxable person.

Further, it is possible to take a view that the expression ‘transaction in securities’, will not cover situations where capital is being raised by the company against issuance of securities and will cover only those transactions which result in sale, transfer, or disposal of existing securities[2].

Now another issue which the author foresees in an IPO is the allotment of shares to the employees as part of ESOPs. Whether such issuance of shares to the employees as consideration for their services can be said to be in the nature of taxable supply and thus, chargeable to GST. Here again, the companies need to analyze the nature of supply given that securities are cast out by the definition of goods as well as services under the CGST Act.

On a closer look at the queries surrounding IPO, it becomes pertinent for the companies to deeply analyze the nature of the underlying transaction and accordingly, take legal positions to avoid any potential disputes with the GST Authorities.

Deduction under the Income Tax Act

The Hon’ble Supreme Court[3] has categorically held that expenses incurred for public issues or for raising share capital by a company are always capital in nature. Therefore, the deduction of the same cannot be claimed by the company under the principles enriched in section 37 of the Income Tax Act, 1961 (IT Act).

Therefore, one need to examine whether the expenses incurred on issuance of an IPO for raising capital can be covered within the scope of Section 35D of the IT Act, if the proceedings of IPO are utilized for the ‘extension’ of business. This requires detailed analysis of the objects declared in the prospectus filed by the company, which outlines the proposed manner of utilization of the proceeds of IPO.

Further, it is to be noted that sub-Section (2)(c) of Section 35D provides for the deduction of certain specific expenses such as underwriting commission, brokerage, printing of prospectus etc. incurred in connection with the issue for public subscription. There are conflicting views of various HCs[4] and tribunals on the scope of expenditure allowable under sub-clause (iv) of Section 35D(2)(c). Therefore, it is open to interpretation whether all expenses incurred in relation to IPO can be said to be covered within the scope of Sec 35(D)(2)(c) or the scope is restricted to the expenses mentioned therein.

Now coming to ESOPs, under Section 17(2)(vi) of the IT Act, the discount on ESOPs is considered a perquisite in the hands of employees, and thus, the difference between the exercise price and the fair market value (FMV) of the shares on the date of exercise is subjected to tax.

As a consequence of the above taxation, one needs to understand whether such a discount is eligible for deduction in the hands of the company under the IT Act. The Courts[5] have allowed deduction towards ESOPs discount under section 37 over the period of vesting, which is determined on the date of grant, using scientific methods such as Black Scholes Method as prescribed by ICAI.

However, another aspect to be noted here is that there can be a situation where the FMV of the shares on the date of the exercise is higher than the FMV on the date of grant basis which deduction was claimed by the company in previous financial years. In such a case, whether the company can claim additional deduction in the year of exercise basis the FMV on the date of exercise of option by the employees, especially in view of the fact that perquisite in hands of the employee is calculated with reference to the FMV on the date of exercise.

In this regard, the Special Bench of the Tribunal [6]has allowed the additional deduction of discount basis the FMV on the date of exercise of ESOPs by the employees. One of the reasoning adopted by the Tribunal was that although the stage of taxability of perquisite in the hands of the employee may differ from the stage of the deductibility of expense in the hands of the company depending upon the method of account followed by the company, but the amount of such discount or employee’s remuneration can never be different. Though the said ruling has been upheld by the Karnataka High Court, and the issue is presently pending adjudication before the Apex Court.

Considering the fact that the expenditure is accounted in the books on the date of receipt of services basis FMV on the date of grant, and the cost in the hands of the company is fixed and cannot be varied subsequently in terms of the ICAI guidelines, there can be dispute on further deduction to be claimed by the company without corresponding debit to profit & loss account. Hence the issue requires deeper analysis to take an informed position on the matter.

Conclusion

Thus, in the author’s view, the task of concluding correct legal position on various issues surrounding the issuance of shares under IPOs and ESOPs is nothing less than an Achilles’ heel for the assessee as well as authorities. There lies a long road ahead for authorities as well as the judiciary to settle the aforementioned issues in cases of issuance of IPOs and ESOPs.

[1] Coca Cola India Pvt. Ltd. v. Commissioner of C. Ex., Pune-III, 2009 (15) S.T.R. 657 (Bom.)

Kernex Microsystems v. Commissioner of Customs, 2015 (6) TMI 194 – CESTAT BANGALORE, Kretztechnik AG vs. Finanzamt Linz (C-465/03).

[2] Circular No. 119/38/2019-GST, dated 11-10-2019

[3] Brooke Bond India Ltd. v. CIT [1997] 225 ITR 798/91 Taxman 26 (SC)

[4] CIT v. Ashok Leyland Ltd. [2012] 349 ITR 663 (Mad)

CIT v. Shree Synthetics Ltd. [1986] 162 ITR 819 (Madhya Pradesh)

[5] Biocon Ltd. Vs. DCIT (KAR,)[2021] 430 ITR 151

[6] Biocon Ltd., 2013 (8) TMI 629

Third Country Invoicing under FTAs - Has the JNCH mitigated the concerns of Trade and Industry?

SEZ Developers and Units - Documentation lacuna in availing the Zero-rated benefit for the supplies under RCM liability

IPO landscape: The lure of tax benefits to the companies

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