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CBIC clarifies GST applicability on liquidated damages and penalty on breach of contract

The CBIC vide Circular No. 178/10/2022 dated 03.08.2022 has clarified issued relating to GST applicability on payments in the nature of liquidated damages, compensation, penalty, cancellation charges, late payment surcharge etc. arising out of breach of contract. Following are the key highlights of the Circular:

Sr. No	GST Applicability on	Clarification
1.	Liquidated Damages	Liquidated damages are not a compensation for contract breach or non-performance. They are payments for not tolerating contract breaches. Such payments are essentially a movement of money and not taxed. However, amounts paid for acceptance of late payment, early lease termination, pre-payment of loan, or amounts forfeited on cancellation of service by the customer as contemplated by the contract as part of commercial terms agreed to by the parties, constitute consideration for the supply of a facility, namely acceptance of late payment, early lease termination, pre-payment of loan, and making arrangements for the intended supply by the supplier. Such payments, even if called a fine or penalty, are essentially consideration for a supply and are liable to GST if the supply is taxable.
2.	Compensation for cancellation of coal blocks	There was no agreement between previous coal block allotees and the Government that they would consent to or permit cancellation if they were compensated. No such promise or offer was made by the prior allottees to the Government. Therefore, compensation paid for cancellation of coal blocks is not taxable
3.	Cheque dishonour fine/ penalty	The fee or penalty that a supplier or banker levies for dishonouring a check is a penalty imposed not for tolerating the behaviour or situation, and thereby discouraging such an act or situation. Therefore, a check dishonour fine or penalty is also not taxable.
4.	Penalty imposed for violation of laws	Penalties for violation of laws cannot be considered as the Government or local authority's compensation for tolerating violation. They stipulate penalties for not tolerating, penalising, and discouraging violations. Hence these amounts are not leviable to GST.
5.	Forfeiture of salary or payment of bond amount in the event of the employee leaving the employment before the minimum agreed period	These amounts are recovered by the employer not as a consideration for perpetuating early resignation, but as penalty to prevent and deter non-serious employees from taking up employment. Therefore, employer-recovered funds are not taxable.
6.	Late payment surcharge or fee	The supplier's facility of accepting late payments with interest, or a fine is merged with the main supply. Since it is ancillary to and bundled with the principal supply, it should be assessed at the same rate as the principal supply.
7.	Fixed Capacity charges for Power	Electricity is excluded from GST therefore; both the minimum fixed/capacity costs and the variable/energy charges are not taxable.
8.	Cancellation charges	Facilitating cancellation of an anticipated supply for a charge or retention or forfeiture of the consideration or security deposit is the principle supply. Forfeiture of earnest money by a seller in case of breach of 'an agreement to sell' an immovable property by the buyer or by Government or local authority in case of a successful bidder failing to act after winning the bid for allotment of natural resources is a mere flow of money, as the buyer or successful bidder gets nothing in return for such forfeiture. Such payments are essentially a cash flow and are not taxable.

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Sr.No.	Issues	Clarification
1	In case where a registered person has issued tax invoice to another registered person without any underlying supply of goods or services or both. Whether such transaction will be covered as “supply” u/s. 7 of CGST Act; Whether any demand of recovery or penalty can be made from the person in respect of the said transaction u/s. 73 or 74 of CGST Act.	As there is no underlying supply of goods or services and only an issuance of tax invoice, such activity does not satisfy the criteria of ‘supply’ u/s. 7 of CGST Act. As there is no supply, no tax liability arises against the said transaction. As such no demand of recovery or penal can be made u/s. 73 or 74 of the CGST Act. However penal action can be taken u/s. 122(1)(ii) of the CGST Act for issuing tax invoices without actual supply of goods or services.
2	In case when a registered person(‘A’) has issued tax invoice to another registered person (‘B’) without any underlying supply of goods or services or both. And the ‘B’ avails ITC on the basis of the said tax invoice. ‘B’ further issues invoice along with underlying supply of goods or services or both to his buyers and utilizes ITC availed on the basis of the above mentioned invoices issued by ‘A’, for payment of his tax liability in respect of his said outward supplies. Whether ‘B’ will be liable for the demand and recovery of the said ITC, along with penal action u/s. 73 or 74 or any other Provisions of the CGST Act.	As the registered person ‘B’ has availed and utilized fraudulent ITC on the basis of the said tax invoice, without receiving the goods or services or both, in contravention of the provisions of section 16(2)(b) of CGST Act, he shall be liable for the demand and recovery of the said ITC, along with penal action, u/s. 74 of the CGST Act, along with applicable interest u/s. 50 of the said Act. Further, as per provisions of section 75(13) of CGST Act, if penal action for fraudulent availment or utilization of ITC is taken against ‘B’ u/s. 74 of CGST Act, no penalty for the same act, i.e. for the said fraudulent availment or utilization of ITC, can be imposed on ‘B’ under any other provisions of CGST Act, including u/s. 122
3	In a case when a registered person (‘A’) has issued tax invoice to another registered person (‘B’) without any underlying supply of goods or services or both. ‘B’ avails ITC on the basis of the said tax invoice and further passes on the said ITC to another registered person (‘C’) by issuing invoices without underlying supply of goods or services or both. Whether ‘B’ will be liable for the demand and recovery and penal action, u/s. 73 or 74 or any other provisions of the CGST Act.	In this case, the ITC availed by ‘B’ in his ECL on the basis of tax invoice issued by ‘A’, without actual receipt of goods or services or both, has been utilized by ‘B’ for passing on of ITC by issuing tax invoice to ‘C’ without any underlying supply of goods or services or both. As there was no supply of goods or services or both by ‘B’ to ‘C’ in respect of the said transaction, no tax was required to be paid by ‘B’ in respect of the same. The ITC availed by ‘B’ in his ECL on the basis of tax invoice issued by ‘A’, without actual receipt of goods or services or both, is ineligible in terms of section 16 (2)(b) of the CGST Act. As there was no supply of goods or services or both by ‘B’ to ‘C’ therefore, in these specific cases, no demand and recovery of either ITC wrongly/ fraudulently availed by ‘B’ in such case or tax liability in respect of the said outward transaction u/s.73 or 74 of CGST Act. However, in such cases, ‘B’ shall be liable for penal action both u/s. 122(1)((ii) and section 122(1)(vii) of the CGST Act, for issuing invoices without any actual supply of goods or services and for taking/ utilizing ITC without actual receipt of goods or services.
4	It may also be noted that in such cases of wrongful/fraudulent availment or utilization of ITC, or in cases of issuance of invoices without supply of goods or services or both, leading to wrongful availment or utilization of ITC or refund of tax, provisions of section 132 of the CGST Act may also be invokable, subject to conditions specified therein, based on facts and circumstances of each case.

Sr. No.	Notification	Summary
1	Notification No. 17/2022-Central Excise dated 19 July 2022	Exemption in the SAED on exports of Petrol from 5% to Nil Reduction in the SAED on exports of high speed Diesel oil from 12% to 10%
2	Notification No. 18/2022-Central Excise dated 19 July 2022	Reduction in the SAED on production of Petroleum crude to Rs. 17,000 per tonn Reduction in the SAED on export of Aviation Turbine Fuel to Rs 4 per Litre
3	Notification No. 19/2022-Central Excise dated 19 July 2022	Exemption in SAED on Petrol, Diesel, Aviation Turbine Fuel exported from Special Economic Zone
4	Notification No. 20/2022-Central Excise dated 19 July 2022	Exemption in the Road and Infrastructure Cess on export of Petrol and Diesel from 1% to Nil

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