L Badri Narayanan discusses the need for more clarity and less superfluous tinkering with new system
India’s recently introduced goods and services tax (GST) has brought in its wake benefits as well as a plethora of issues that still need to be addressed. One of the key benefits expected from the “one-nation, one-tax” promise of GST was that it would obviate the need for classification of supplies into goods and services. This was an indispensable feature of the previous indirect tax regime in India, which often led to litigation.
Introducing article 246A into India’s constitution gave the centre and states the concurrent power to levy tax on the same transaction, which reduced the need to distinguish between the supply of goods and services. However, the GST law continues to place much stress on whether the supply under consideration is that of goods or services.
The GST law defines “goods” as all movable property other than money and securities, whereas “services” are defined as anything other than goods, securities and money, but including services relating to them. Further, place of supply rules also differ for the supply of goods and that of services. Since the determination of whether a supply would attract the local state’s GST and central GST, or the integrated GST is based on these rules, correct classification of supply into goods or services is crucial. In addition, the time of supply rules, which determine when tax gets triggered, also differ for supply of goods and services, again posing the need for accurate classification.
Above all, businesses are required to classify supplies to determine the applicable rate of tax. One reason the GST Council gave for adopting a multi-rate tax structure was that a single rate for necessities consumed by the poor, and luxuries consumed by the rich, in a developing country like India would be regressive. However, the primary reason for having a wide a range of tax rates was the spectre of an inflationary impact of GST on the economy, and its political consequences. Rates under GST were fixed as close as possible to the total incidence of tax under the earlier regime.
Owing to these multiple tax rates, the council went on to adopt a detailed classification of various goods and services. For goods, the council adopted the first schedule of the Customs Tariff Act, 1975, which is largely based on the harmonized system of tariff nomenclature followed worldwide. This was a welcome decision as it avoids issues of discrepancies in the classification of a product when supplied domestically or when imported/exported.
The rules for interpretation of the first schedule, along with the chapter and section headings and general explanatory notes, are also relevant for classification of goods under GST. However, the harmonized system is riddled with issues and ambiguities. There are numerous examples of products with broadly similar descriptions falling across different tax brackets. Absence of guidance on how to differentiate between them could lead to ambiguities, mistakes, and ultimately litigation.
For the classification of services, the council adopted the United Nations Central Product Classification, consisting of chapters, sections, headings, and groups. However, the classification was modified and trimmed before it was adopted for the purposes of GST, which has led to overlapping entries. For instance, entry 9966 covers rental services of transport vehicles with or without operator, which attracts a GST rate of 18%, whereas entry 9973 covers leasing or rental services with or without operator, which attracts the same GST rate as that of supply of the underlying goods. Such underlying goods may be in the form of vessels, supply of which attracts 5% GST, or motor vehicles, supply of which attracts 28% GST in addition to compensation cess. This has caused problems in the classification of leasing/rental services.
With various businesses and industries providing input in relation to issues being faced by them, the council has been remedying these mistakes, issuing numerous notifications and clarifications in the form of FAQs, Twitter responses, etc. Although this effort is laudable, such frequent changes in rates may prove deleterious to the business environment and may lead to compliance mistakes. As the applicable rates play a key role in business decisions, the council should avoid such frequent amendments, be it in respect to classification or applicable rates, to ensure a business-friendly tax environment.
GST is still new in India, and although in the long term it will do good for the economy, it is causing short-term pain and has increased compliance costs dramatically for industry. Minimizing the frequency of such changes and making the process simpler would help avoid a lot of the negativity that has built up in the system, particularly over the past few months.
L Badri Narayanan is a partner at Lakshmikumaran & Sridharan.