Application of GST on Transfer of Business

To expand the business it can be seen that the entity usually transfers their business as a going concern like the conversion of proprietorship into partnership or conversion of partnership into the company or merger, demerger, amalgamation etc. In case of transfer of an existing business there are many questions that comes into the mind such as (1) Whether such conversion would be taxable under GST?  (2) What would happen to unutilized balance of ITC of proprietorship? Lets discuss these issues one by one.

For the first question regarding the taxability of such conversion of proprietorship into partnership or conversion of partnership into the company,  it is important to know that if entire business is transferred  as a going concern i.e., all assets and liabilities are transferred, then in such case no GST would be leviable on the transfer of assets and liabilities. Under GST law, there is a Notification No. 12/2017 CT(R) which contains the list of services that are exempted from GST i.e., no GST would be leviable on supply of such services which are enlisted in above notification. The serial number 2 of Notification No. 12/2017 states that the “Services by way of transfer of a going concern as a whole or an independent part thereof” would be exempted from GST. Accordingly, if all assets and liabilities of proprietorship firm are being transferred into partnership firm as a going concern then GST would not be applicable on such conversion.

Now we move towards next question regarding the unutilized balance of ITC of proprietorship when get converted in partnership or any partnership firm is being converted in to the company. In this regard it is important to know that sub-section 3 of section 18 of CGST Act 2017 read with Rule 41 of CGST Rules 2017, contains the provisions of transfer the input tax credit which remains  unutilised in case of sale, merger, demerger, amalgamation etc. The sub section 3 of section 18 of CGST Act 2017 is laid down as follows;
“(3) Where there is a change in the constitution of a registered person on account of sale, merger, demerger, amalgamation, lease or transfer of the business with the specific provisions for transfer of liabilities, the said registered person shall be allowed to transfer the input tax credit which remains unutilised in his electronic credit ledger to such sold, merged, demerged, amalgamated, leased or transferred business in such manner as may be prescribed”.

Rule 41 of CGST Rules 2017 prescribes the manner of transfer of unutilized input tax credit lying in the electronic credit ledger of transferor to the transferee. The said rule 41 states  that a registered person shall be required to furnish FORM GST ITC-02 electronically on the common portal along with a request for transfer of unutilized input tax credit lying in his electronic credit ledger to the transferee. Provided that in case of demerger,  ITC shall be apportioned in the ratio of the value of the entire assets (whether or not ITC has been availed) of the business of new unit.  The transferor shall also submit a copy of a certificate issued by a practicing CA or Cost Accountant certifying that the sale, merger, de-merger, amalgamation, lease or transfer of business has been done with a specific provision for the transfer of liabilities. The transferee shall on the common portal accept the details so furnished by the transferor and upon such acceptance, the un-utilized credit specified in FORM GST ITC-02 shall be credited to his electronic credit ledger. The inputs and capital goods so transferred shall be duly accounted for by the transferee in his books of account.
While applying the provisions of section 18(3) and Rule 41, some doubts were arised among various taxpayers in respect of apportionment and transfer of ITC in the event of merger, demerger, amalgamation or change in the ownership of business and to resolve such doubts the CBIC has issued a Circular 133/2020 dated 23.03.2020 which provides clarifications in respect of the apportionment of input tax credit (ITC) in cases of business reorganization under section 18 (3) of CGST Act read with rule 41(1) of CGST Rules 2017. The said circular has clarified the some important points, which are summarised as below;

(i) For the purpose of apportionment of ITC, pursuant to a scheme of demerger under sub-rule (1) of rule 41, the value of assets of the new units is to be taken at the State level (at the level of distinct person) and not at the all-India level.  For example, The company XYZ is registered in two States of M.P. and U.P. It has total value of assets Rs. 100 crore, while its assets in State of M.P. and U.P are Rs 60 crore and Rs 40 crore respectively. It demerges a part of its business to company ABC. As a part of such demerger, assets of XYZ amounting to Rs 30 Crore are transferred to company ABC in State of M.P, while assets amounting to Rs 10 crore only are transferred to ABC in State of U.P. (Total assets amounting to Rs 40 crore at all-India level are transferred from XYZ to ABC). The unutilized ITC of XYZ in State of M.P. shall be transferred to ABC on the basis of ratio of value of assets in State of M.P., i.e. 30/60 = 0.5 and not on the basis of all-India ratio of value of assets, i.e. 40/100=0.4. Similarly, unutilized ITC of XYZ in State of U.P. will be transferred to ABC in ratio of value of assets in State of U.P.,i.e. 10/40 = 0.25.

(ii) The transferor is required to file FORM GST ITC-02 only in those States where both transferor and transferee are registered.

(iii) The ratio of value of assets shall be applied to the total amount of unutilized input tax credit (ITC) of the transferor i.e. sum of CGST, SGST/UTGST and IGST credit. The said formula need not be applied separately in respect of each heads of ITC (CGST/SGST/IGST). For example, The ITC balance of transferor X in the State of Maharashtra under CGST, SGST and IGST heads are 5 lakh, 5 lakh and 10 lakh respectively. Pursuant to a scheme of demerger, X transfers 60% of its assets to transferee B. Accordingly, the amount of ITC to be transferred from A to B shall be 60% of 20 lakh (total sum of CGST, SGST and IGST credit) i.e. 12 lakh.  Further, the said formula shall also be applicable for apportionment of Cess between the transferor and transferee.

(iv) How to determine the amount of ITC that is to be transferred to the transferee under each tax head (IGST/CGST/SGST) while filing of FORM GST ITC-02 by the transferor?
The total amount of ITC to be transferred to the transferee (i.e. sum of CGST, SGST/UTGST and IGST credit) should not exceed the amount of ITC to be transferred, as determined under sub-rule (1) of rule 41 of the CGST Rules. However, the transferor shall be at liberty to determine the amount to be transferred under each tax head (IGST, CGST, SGST/UTGST) within this total amount, subject to the ITC balance available with the transferor under the concerned tax head.

(iii) Relevant date for calculation of unutilized ITC balance of transferor:
The apportionment formula shall be applied on the ITC balance of the transferor as available in electronic credit ledger on the date of filing of FORM GST ITC-02 by the transferor.

(iv) Relevant date for calculation of value of assets:
For the purpose of apportionment of ITC under rule 41(1) of the CGST Rules, while the ratio of the value of assets should be taken as on the "appointed date of demerger", the said ratio is to be applied on the ITC balance of the transferor on the date of filing FORM GST ITC - 02 to calculate the amount to transferable ITC.

The most important question that arised here that in case where the transferor and the transferee are registered in different states, whether the transfer of ITC allowed in such case? It is to be noted that the transfer of ITC is not currently allowed by the GST common portal and the circular also restricts the same. Further in the case of M/s Shilpa Medicare Limited [2020(02)LCX0114(AAR)] Andhra Pradesh Authority for Advance Ruling, after interpreting the provisions of law and as per Section 18(3) of the CGST Act, 2017 and Rule 41 of the CGST Rules, 2017 held that in case where the business of the applicant i.e., Shilpa Medicare Limited of Andhra Pradesh unit, as a whole along with the capital assets was transferred as going concern to Shilpa Medicare Limited of Karnataka Unit for a monetary consideration, the applicant could file GST ITC-02 return and transfer unutilised ITC from  Andhra Pradesh unit to Karnataka Unit. Hence as per the AAR the ITC was allowed to be transferred between different states. However, such advance ruling was set aside by the Appellate Authority for Advance Ruling [2020(11)LCX0185(AAAR)] and it was held section 18(3) permit the transfer of unutilized ITC in the electronic credit ledger only when there is change in the constitution of such registered person and such change is on account of sale, merger, demerger, amalgamation etc. However in the instant case, there is no evidence of “change in the constitution of the registered person” M/s. Shilpa Medicare Limited located in Andhra Pradesh is one and the same entity as M/s. Shilpa Medicare Limited located in Karnataka, therefore the provisions for transfer of ITC under Section 18(3) would not be permissible in this case. Further it was held that the ITC accumulated under a particular State GST Act cannot be utilized in another State as there is no such provision under law. Therefore, M/s. Shilpa Medicare Limited of Andhra Pradesh is not entitled to transfer the ITC in the State of Karnataka. Hence, the facility of transfer of Credit using Form ITC-02 is not available in this case.

In addition to the above the CBIC has also issued a Circular No. 96/15/2019 dated 28.03.2019 which provides clarification in respect of transfer of ITC in case of death of sole proprietor. In case of death of sole proprietor if the business is continued by any person being transferee or successor, the ITC which remains un-utilized in the electronic credit ledger is allowed to be transferred to the transferee as per provisions and in the manner stated below. The para-3 of said circular is summarised below;

(a) Registration liability of the transferee / successor: As per provisions of section 22(3) of the CGST Act, the transferee or the successor, as the case may be, shall be liable to be registered with effect from the date of such transfer or succession. While filing application in FORM GST REG-01 the applicant has to mention the reason to obtain registration as "death of the proprietor".
(b) Cancellation of registration on account of death of the proprietor:  As per section 29(1)(a), the legal heir in case of death of sole proprietor has to file an application for cancellation of registration in FORM GST REG-16 and mention the reason for cancellation as "death of sole proprietor". The GSTIN of transferee is also required to be mentioned to link the GSTIN of the transferor with the GSTIN of transferee.
(c) Transfer of input tax credit and liability: As per section 85(1) of the CGST Act, the transferor and the transferee / successor shall be jointly and severally liable to pay any tax, interest or any penalty due from the transferor in cases of transfer of business "in whole or in part, by sale, gift, lease, leave and license, hire or in any other manner whatsoever". Furthermore, section 93(1) of CGST Act provides that where a person, liable to pay tax, interest or penalty, dies, then the person who continues business after his death, shall be liable to pay tax, interest or penalty due from such person under this Act. It is therefore clarified that the transferee / successor shall be liable to pay any due from the transferor.
(d) Manner of transfer of credit: In case of transfer of business on account of death of sole proprietor, the transferee / successor shall file FORM GST ITC-02 in respect of registration which is required to be cancelled. FORM GST ITC-02 is required to be filed before filing the application for cancellation of such registration. Upon acceptance by the transferee / successor, the un-utilized ITC specified in FORM GST ITC-02 shall be credited to his electronic credit ledger.  

Conclusion: Transfer of business as a going concern is exempt under serial number 2 of Notification No 12/2017 CT(R) and for transferring the unutilized balance of ITC the provisions of section 18(3) along with Rule 41 has to be compiled with.


Disclaimer: The information given in this article is solely for purpose of understanding the law. It is completely based on the interpretation of the author and cannot be constituted as a legal advise, the author of this article and Lawcrux team is not responsible for any legal issues if arises on the basis of the interpretation given above.