Used Cars Segment in GST Fast Lane

• On GST Implementation (July 1, 2017)

Interestingly, at the time of implementation of GST regime in India w.e.f. July 1, 2017, there was no contrast being made between the supply of new and old motor vehicles i.e. tax rates applicable on supply of new vehicles used to get applied to the supply of old and used vehicles also.

However, separate valuation provisions existed for persons dealing in buying and selling of old and used goods (including motor vehicles), wherein supplier could opt to pay GST only on the value of margin i.e. selling price minus purchase price [Rule 32(5) of the Central Goods and Services Tax Rules, 2017 (“CGST Rules”)]. Such option existed only in cases where such used goods are supplied with no processing or minor processing that does not change the nature of the goods and where ITC had not been availed by supplier on their purchase. This was pretty much in line with the tax practice followed in other countries, such as UAE and UK and was a much-needed departure from the tax treatment followed under the VAT regime (i.e. taxes on resale value). In the cases where ITC had been availed by the supplier at the time of purchase of motor vehicle, tax is payable on the sale value.

However, tax rates applicable on the margin value were the same as that applicable on sale of new motor vehicles. This needed to be corrected, primarily on account of the fact that taxes paid on purchase of motor vehicles are not creditable under the GST law and hence, becomes the part of cost for majority of businesses. By reduction of tax rates, such cost burden could be reduced and further, this would result in making the prices of pre-owned cars attractive to buyers, thus helping this industry strengthen its feet in the Indian market.

• GST Council Meetings (22nd and 25th Meetings)

The issue of charging same tax rates for new as well as old and used motor vehicles was taken up by the GST Council in its 22nd and 25th GST Council meetings and the suggestions inter-alia included (as per the minutes of the meetings) –

• (i) increased rate of allowed transitional credit of CGST for old vehicles; and
• (ii) extending excise duty paid on vehicles purchased prior to July 1, 2017 as ITC under GST.

However, due to contradictions in law, these suggestions could not be accepted and instead, decision to reduce the applicable GST rate was taken.

Following GST notifications were issued to reduce the tax rate w.r.t. old and used motor vehicles –

i. Notification No. 37/2017-Central tax (Rate), dated October 13, 2017 [‘Notification I’]

This notification provided much-needed relief to persons which were not in the business of dealing in old and used motor vehicles.

• 35% abatement: It provides 35% abatement on tax payable on leased motor vehicles prior to July 1, 2017 and the supply of old motor vehicles that were purchased prior to July 1, 2017 provided that ITC of any tax had not been availed at the time of its purchase. This notification is applicable only till June 30, 2020. Similar abatement of 35% was provided w.r.t. GST Compensation Cess vide issue of notifications¹, which was subsequently exempted in full w.e.f. January 25, 2018².
  It implies that, GST liability on sale of old motor vehicles would amount to 65% of the tax liability computed otherwise under the normal provisions, except that GST Compensation Cess is wholly exempt.
• Vehicles purchased/leased prior to July 1, 2017: Abatement is provided under ‘Notification I’ only in respect of motor vehicles that were purchased or leased prior to GST implementation date i.e. up to June 30, 2017. The motor vehicles that were purchased after June 30, 2017 are not eligible for the benefit of this notification.
• Non-availment of ITC: In case of sale of old and used motor vehicle, supplier should not have availed ITC of any taxes paid at the time of purchase i.e. excise duty, State-VAT, etc., while in the case of ongoing leases, it is irrelevant whether ITC was claimed or not at the time of purchase.
• Ambiguity on application of Rule 32(5) of CGST Rules: While Rule 32(5) of the CGST Rules is applicable to the registered persons ‘dealing in used goods’, Notification I does not specify any particular set of persons to whom its provisions are applicable. On combined reading of Rule 32(5) and Notification I, it might be inferred that benefits of both, margin method and 35% abatement, will be available. However, since the same has not been mentioned specifically in Notification I, this may not be the intention of the legislature. This article has been drafted with a view that the benefit of Rule 32(5) of the CGST Rules is not available in cases where ‘Notification I’ is applicable.

From the above, it is clear that Notification I provided only limited benefits to dealers and left a lot to be desired.

ii. Notification No. 8/2018-Central tax (Rate), dated January 25, 2018 [‘Notification II’]

The used cars segment was given a shot-in-the-arm by the issue of Notification II.

• Lower GST rates on margin value: This notification prescribed lower GST rates, ranging between 12 and 18 per cent, on the supply of old and used motor vehicles. Additionally, such lower tax rates are applicable on the margin value (i.e. difference between selling price and purchase price), instead of the value of supply.
• Applicable on all motor vehicles: In contrast to Notification I, Notification II is applicable on all types of old and used motor vehicles, irrespective of the date of purchase of such motor vehicles i.e. whether vehicle was purchased prior to July 1, 2017 or afterwards.
• No GST in case of negative margin: In case of negative margin value (i.e. where business does not sell the car at a profit), no GST is payable.
• Non-availment of ITC: Benefit of Notification II is available where the supplier had not availed ITC of any taxes paid at the time of purchase of such motor vehicle i.e. excise duty, State-VAT, GST, etc.

Further, as mentioned above, GST Compensation Cess has been exempted on the supply of old and used motor vehicles w.e.f. January 25, 2018.

Note: Notifications corresponding to the aforementioned Central Tax (Rate) notifications have been issued under the Integrated Goods and Services Tax (IGST) Act, 2017³, for inter-State supplies.

1. Valuation in case of employee car leasing

As an employee welfare arrangement, businesses often provide the facility of car leasing to its employees (including directors), as a part of their overall compensation package. Under this arrangement, a certain amount is deducted from an employee’s monthly salary towards car-leasing, for a certain period of time. After completion of specified time period, the leased motor vehicle is offered to employee for sale.

At this juncture, valuation provisions prescribed under the CGST Rules come into play. Since employees are related persons for the business as per the GST law, supply of leased motor vehicle to employee upon completion of specified time period should be valued at the ‘Open Market Value’ (Rule 28 of the CGST Rules), for the purposes of charging GST.

2. Computation of Margin value by businesses

Reduced tax rates prescribed under Notification II are applicable on the margin value. In the said notification, mechanism to compute margin value has been prescribed for two separate scenarios, mentioned below –

3. Applicability of reverse charge mechanism on supply of old vehicles by government

As per Notification No. 36/2017 - Central Tax (Rate) dated October 13, 2017⁴, supply of old and used goods (including used vehicles) by the Central Government, State Government, Union territory or a local authority to a registered person shall be taxable under the reverse charge i.e. GST shall be payable by the registered person buying such goods. This situation usually arises in the case of sale on auction basis by the Government.

Further, in case of supply of old and used vehicles by the Central Government, State Government, Union territory or a local authority to an unregistered person, tax on such supply should be paid by the respective department of the Central Government, State Government, Union territory or a local authority by obtaining registration under GST. The same has been clarified vide the issue of Circular No. 76/50/2018-GST dated December 31, 2018 (Sl. No. 1).

1. Term ‘old and used’ not defined

The term ‘old and used motor vehicles’ used in Notification II has not been defined either in the notification or in the CGST Rules. Thus, in a possible scenario of debate by the tax authorities on the treatment of motor vehicles as ‘old and used’, the burden of proof would lie on the taxpayer in order to claim applicability of lower tax rates. Further, it has not been mentioned in Notification II as to whether there is a condition for the minimum period of prior ownership of motor vehicle by the supplier.

For instance, whether or not the demo car used by the auto-dealerships will be treated as old and used motor vehicle, has not been stated. Or say, a bank repossesses a car upon default in payment of the first monthly installment of the car loan that was taken by its customer (borrower). Whether the sale of such repossessed car can be treated as sale of ‘old and used car’ is not made clear by the notification.

2. Mechanism to Compute WDV on the Date of Supply

As mentioned above, in cases where supplier has claimed depreciation under the Income Tax Act, 1961, ‘margin value’ shall be calculated as the difference between consideration received and WDV of such motor vehicle on the date of supply. However, on analysis of relevant provisions of the Income Tax Act, 1961 (including, but not limited to Section 32), it is observed that depreciation is claimed on the block of assets, which comprises of a class of assets.

When an asset enters into the block, it loses its identity and becomes a part of the block of assets itself. In such a scenario, it would be difficult to ascertain the WDV of a particular asset as per the Income Tax Act, 1961.

Further, the provisions under GST notification prescribe WDV on the ‘date of supply’. However, depreciation under Income Tax Act, 1961 is not computed proportionately to the number of days for which asset is acquired and instead, 180 days concept is followed. If asset is held for more than 180 days, full depreciation rate is charged, otherwise half of the depreciation rate.

Furthermore, the amount of depreciation becomes eligible to be claimed as deduction only at the ‘end’ of concerned previous year.

In light of above stated facts, the value to be adopted by supplier as WDV on ‘date of supply’ need to be carefully analyzed, as the basis for determining the same may be debated by the tax authorities.

3. Application of Valuation Rules for Computing Margin Value

As per Notification II, margin value should be computed as – difference between ‘consideration received’ and WDV (in case registered person has claimed depreciation under the Income Tax Act, 1961) and as the difference between ‘selling price’ and purchase-price (in other cases).

The word ‘consideration’ has been defined in Section 2(31) of the Central Goods and Services Tax Act, 2017 (“CGST Act”) to include payments made in money and in kind. However, the term “selling price” has not been defined either in the Notification II or CGST Rules. Hence, the meaning of the term “selling price” should be derived as per the general understanding of the term i.e. amount of money received for the sale of goods, in which case any consideration received in mode other than money (i.e. in kind) would not be included in the selling price. This may not be the intention of the legislature.

Further, a crucial aspect to be considered is that whether Rule 28 of the CGST Rules (regarding valuation at Open Market Value) would be applicable while determining ‘consideration received’/ ‘selling price’, as the case may be, in situations where price is not the sole consideration or where supply is made to the related persons.

At the outset, it appears that since the specific terms ‘consideration received’ and ‘selling price’ have been used in Notification II for computation of ‘margin’, recourse should not be made to the CGST Rules which are applicable for the computation of ‘value of supply’. However, this issue has not been clarified by any Circular and may be debated by the tax authorities.

Where the valuation provisions as per the CGST Rules are applied, the concept of ‘margin value’ itself would get defeated and the supplier will be required to pay tax even in case of sale of used cars on loss.