Nowadays, businesses use various promotional tools to increase the sale of their products. These tools range from discounts, free samples, cashbacks, warranty supplies, extra quantity of the products, extra units of the products and various vouchers that can be exchanged for the availment of goods and services in future. While the use of these promotional schemes is indispensable in todays’ era of cut throat competition, it is also essential to understand the indirect tax implications with respect to the same.
It is observed that most of the promotional schemes are either in the nature of free supplies or in the nature of discounts, regardless of the fact how it is presented or perceived by the customers. While the definition of supply requires the existence of consideration in order for a transaction to constitute a supply, certain transaction listed under Schedule I of the CGST Act, 2017 are covered under the ambit of supply even when carried out without consideration. The chargeability of tax on the promotional schemes in the nature of free supplies need to be examined in accordance with Schedule I of the Act. Further, implications of discounts shall be examined in accordance with Section 15 (Value of Supply).
Further, the tax implications with respect to these promotional schemes need to be examined in the light of restrictions of input tax credit, if any. In this regard, attention is invited towards the provisions of Section 17(5) of the Act.
The Article below summarizes the GST implications on some of the common promotional schemes that are used by businesses:
1. GST implications on Free Samples
The practice of free samples is usually practiced for newer products to penetrate the market. These samples are usually distributed to unrelated persons without any consideration. It is imperative to note that only supplies to related persons without consideration are covered under Schedule I of the Act. Hence, the distribution of free samples to unrelated persons shall not come under the ambit of ‘Supply’ as per Section 7 of the CGST Act, 2017 (‘Act’). Hence, no GST shall be required to be paid on the activity of distribution of free samples.
However, the input tax credit of goods distributed as free samples shall be disallowed in accordance with Section 17(5) of the Act.
2. GST implications on Extra Units / Quantity of the Same Product
The provision of an extra unit / quantity of the same or similar product is quite an efficient marketing strategy. This practice is commonly used by FMCG companies and retail shopping outlets. For example- 1 plus 1 offers / 20% extra quantity offers on shampoos, hair oils etc. In this case, the cost of the 1 free unit / extra quantity of shampoo is generally included in the sale price of the 1 unit for which the customer is paying the price. Such schemes are introduced to give to the buyer an incentive to purchase more quantity at a lesser price indirectly by giving something free. Hence, offering extra units / quantity of the same product is in the nature of discounts.
This discount or the value of free article/ extra quantity shall not be included in the value of supply so as to compute GST liability (Section 15). Hence, no GST is required to be paid on the extra unit / quantity of the product being offered as a promotional tool.
Further, no reversal of credit is required in respect of the extra units/ quantity being offered for free.
3. GST implications on Providing Free Gifts to distributors
Many companies offer free gits to distributors on meeting certain targets to incentivize the distribution process. These goods may be manufactured by the company itself or may be procured from outside. For example- companies offer household appliances like television, mobile, etc to distributors on meeting sales targets. The tax implications in this regard need to be examined in the light of the second entry of Schedule I which is as under:
‘Permanent transfer or disposal of business assets where input tax credit has been availed on such assets’
It must be noted here that the essential condition herein is the availment of input tax credit in respect of the goods. In case input tax credit is availed on any goods being distributed as gifts, the transaction shall be covered under the ambit of supply and tax shall be levied.
However, Section 17(5) disallows the availment of input tax credit in case of goods being distributed as gifts. Hence, ITC shall be disallowed on such goods being distributed as gifts to the distributors. Further, in the absence of availment of ITC, the transaction shall not be covered under the definition of supply.
4. GST implications on Supply under warranty
It is a general practice in major electronic good industries, automobile industries to offer warranties on the sale of their products. A warranty is basically an undertaking by the manufacturer to the end customer wherein all defects on account of faulty manufacture of the goods have to be repaired and the faulty parts in the product shall be replaced free of cost to the customer. This warranty may be the basic warranty for which no extra charges are paid by the customer. On the other hand, warranty may be extended warranty which is chargeable and is optional for the customer to purchase.
In the event where goods are supplied to the customer under warranty, no consideration is charged for the replacement of parts or the provision of repair services. In such a case, the transaction when exercised between unrelated persons shall not be covered under the definition of supply and no tax shall be chargeable. At this juncture, it is also relevant to ponder upon the fact that when such goods were purchased by the customer, the value of supply included the value of goods and services that may be supplied under warranty (on an approximate basis). Hence, in this case, the question of levying tax on the goods and services supplied under warranty should not arise.
Further, there is no restriction on the availment of ITC on goods or services supplied under warranty, hence, no reversal of credit is required.
5. GST implications on Cashback coupons
Cashback coupons are the most common form of marketing strategy adopted nowadays. Vendors sells their products under different types of cashback schemes listed below:
a) Cashback coupons in product packaging:
Under this scheme, the product being supplied to a customer contains a cashback coupon. The cashback coupon, provided by the supplier, offers instant cashback to the customer to enable the customer to reduce the cost of the products. While this cashback may be in the nature of discount, such discount shall not have the effect of reducing the value of supply.
As per Section 15, with respect to discounts offered at the time of supply, only such discounts shall be reduced from the taxable value which have been duly recorded in the invoice. The amount of cashback coupons offered in the product packaging can never be mentioned in the invoice as the amount to be collected from the customer is not the price of the product when reduced by the amount of cashback. The amount collected from the customer shall be the entire price of the product.
Hence, the amount of cashback represents just the marketing expenses of the supplier and has no impact of reducing the GST liability.
b) Cashback coupons provided by Person other than supplier
E-Commerce operators like paytm and amazon offer various cashbacks to customers on the purchase of products that are available on their website. These cashback coupons are not provided by the supplier and the expenditure in this regard is borne by the E-Commerce operator to increase the customer base on their website.
In this case, the customer is required to pay the entire price of the product and only subsequent to the purchase the cashback amount in credited in his wallet. Since, this type of cashback is also discount offered at the time of sale which cannot be recorded on the invoice issued the supplier (as the supplier has nothing to do with the cashback), such cashback shall not have the effect of reducing the GST liability.
c) Gift Vouchers valid on subsequent purchase
This marketing strategy is used by the supplier of goods or services to encourage recurrent sales of their goods or services. Under this scheme, the customer is given a discount voucher that can be availed on the subsequent purchase of the goods or services. Example- a salon offers a discount voucher of Rs. 500 on availing services worth Rs. 2,000 but with the condition that the same can be used on the subsequent visit only. On the first visit, the question of reducing the discount of Rs. 500 should not arise and the taxable value shall be Rs. 2,000. However, on the subsequent visit, if the customer wants to avail the discount of Rs. 500, it has to be seen whether the discount can be reduced from the taxable value or not.
As per Section 15, any discounts given after the supply has been effected shall be reduced from the taxable value only where such discount can be traced with respect to specific invoices issued in the past and such discount is established according to the terms of a contract. In our example, if the discount can be linked to the earlier invoice, a credit note can be issued and hence Rs. 500 can be reduced from the taxable value on the second visit.
6. GST implications on Free Articles
Under this scheme, an article if offered for free along with the purchase of the main product. For example- a laptop bag may be offered for free on the purchase of a laptop for which the customer is paying the price. In this case, the cost of the free laptop bag is already included in the price of the laptop. It is only that the supplier is misleading the customers to believe that the laptop bag is for free. The free article is just a form of offering discount to the customer on purchasing the laptop.
This discount or the value of the free article shall not be included in the value of the laptop for the purpose of computing the GST liability. Hence, no GST is required to be paid on the free article being offered as a promotional tool.
Further, there is also no requirement to reverse the input tax credit in this regard.
It can be seen from the above discussion that different promotional schemes have different tax implications. In this regard, it is imperative for businesses to examine the same to arrive at the correct cost of the promotional tools being used by them and hence to avoid future litigation exposure.