Since India’s goods and services tax (GST) came into effect in July 2017, organizations have been modifying their internal processes to make them GST-compliant and restructuring their operations to fully reap the benefits of the unified tax regime. On the external front, GST significantly impacts inter-corporate dealings at the macro level such as joint ventures, mergers and acquisitions, as well as contractual arrangements such as for licensing, procurement and works. Moreover, GST considerations play a more prominent role in sectors and activities where the incidence of inter-state and intra-state indirect taxes in the pre-GST regime was higher, such as in manufacturing, logistics, pharmaceuticals and real estate.
It has become critical for entities to revisit arrangements that pre-date GST with a view to align these with GST. For parties negotiating and entering contractual relationships a key consideration should be whether the arrangement would or might attract GST for either side.
More specifically, key considerations should include type, place, time of supply of goods/services; computation of value of contract (the extent to which GST will increase or decrease the value); pricing of supply (whether there is a provision to charge GST, whether the price includes or excludes GST, whether the contract price is reviewable); payment mechanisms contemplated (e.g. advances, deposits, provision of security, reimbursements); invoicing mechanism; the potential or actual incidence of GST at the stage of enforcement of covenants such as liquidated damages, performance guarantees and warranties. Contracts of composite, mixed or free supplies also warrant an examination in light of their peculiarities. These aspects should be addressed at the outset to minimize disputes and penal consequences.
In M&A transactions, preserving benefits offered by GST and achieving GST efficiencies will be one of many goals. Potential acquirers need to ensure that the valuation exercise of the target includes the impact of GST.
The GST regime offers clear answers on certain matters. Although sale/allotment of shares per se is not subject to GST, shares allotted against provision of services (e.g. issuance of sweat equity to key executives) would warrant examining the event of supply for levy of GST. It is also now clear that until the court or tribunal passes an order for merger, merging entities will be treated as distinct entities for the purpose of supply and receipt of goods and services among them and will accordingly be subject to GST, even though under the Companies Act such merging entities would be treated as a single entity from the appointed date in the scheme of amalgamation.
Owing to the breadth and peculiarities of inter-corporate dealings, the incidence of GST is often unclear. On transactions that are structured as
slump sales, one could take the view that since there is no transaction tax in a sale of business on a going concern basis, there would be no GST, whereas GST would be applicable in itemized sales where assets and liabilities are cherry-picked by a buyer and individual values are assigned to items being purchased. Where lump-sum consideration is paid for a mixed bag of assets and liabilities, and the transaction does not qualify as a slump sale, high rates of GST may be levied, as questions of mixed or composite supply under GST may arise.
The continuity of benefits that were available under the previous tax regime remains a concern. For instance, entities that exist and operate in different states and are contemplating a merger may be faced with potential loss of unused input tax credits.
Transaction documents should comprehensively lay down the position taken under GST such as indemnification provisions for non-compliance, provisions regarding anti-profiteering and segregation of obligations. This is crucial from an M&A perspective as the enforceability and effectiveness of indemnities also depends on parties’ vigilance when determining their mutual readiness and suitability for a merger or acquisition.
The GST regime is much clearer on aspects concerning corporate transactions than the pre-GST landscape of various high courts adopting what at times were contrary stands. While various issue are still unresolved, positions previously taken by courts in India coupled with the evolving jurisprudence of GST in India and positions adopted by GST regimes abroad, will gradually bring clarity.