Zero rated sales and Tamilnadu Value Added tax
1. Concept of zero rated sale
The VAT regime intends to avoid cascading effect of State taxes by permitting the output VAT payer to avail credit of taxes paid on procurements. Typically, the credit of input taxes paid on procurement is not allowed when the sale transaction does not involve payment of VAT. However, in certain special cases, the VAT dealer though not required to pay VAT on outputs is allowed to avail credit of input taxes, this concept is popularly known as ‘zero rated sales’.
The concept of Zero-rated sales is that, though sale of goods does not envisage VAT to be paid but credit for the input tax paid in relation to that sale is allowed.
Section 2 (44) of TNVAT Act, 2006 defines ‘Zero rated sale’ as:
“a sale of any goods on which no tax is payable but credit for the input tax related to that sale is admissible”
For example: If A sells to B (an Special Economic Zone unit) an input which is normally subject to VAT at the rate of 4%, A will not charge VAT on sales to B but still A can claim credit of input taxes paid by him to his suppliers.
2. Why concept of zero rated sale
The Government of India (‘GOI’) in order to promote exports of goods and services decided to provide certain special concessions to exporters and penultimate sales to exporter. This policy of GOI in many cases is refereed as:
“Export product and services and not taxes and duties”
The above policy of the GOI is also evident in Central legislations such as CENVAT credit wherein refund of input taxes and duties are provided to exporters. This policy is aptly adapted by the State Governments to provide credit and refund of input taxes in the form of ‘zero rated sale’ for certain specific transactions.
3. Eligibility for zero rated sale
Under TNVAT Act, 2006, the following sale made by a registered dealer is eligible for zero rating:
• Sale specified under section 5 (1) or 5 (3) of CST Act, 1956; (Section 18 (1) (i))
• Sale of goods to any registered dealer located in a Special Economic Zone (‘SEZ’) in the State, if such dealer has been authorized to establish such units; (Section 18 (1) (ii)); and
• Sale of goods to specified International Organization; (Section 18 (1) (iii)
In this regard, it is pertinent to understand the difference between zero rated sale and exempted sale.
4. Distinction between zero rating and exemption
The principal distinction between an exempted sale and zero rated sale is on the eligibility to avail input tax credits. The dealer making a zero rated sale could avail credit of input taxes whereas a dealer making a sale of exempted goods would not be eligible to avail input tax credits.
The impact of taxation between zero rated sales and exempted sales could be visualized as below:
If sale is exempted:
In the above scenario, the TN seller charges basic price of 100 plus VAT of 4% to a dealer in TN, the dealer in TN would not be eligible to avail credit and hence would be charging the entire purchase price of 104 to SEZ unit located in Tamilnadu.
If sale is zero rated:
In the above scenario, the TN seller charges basic price of 100 plus VAT of 4% to a dealer in TN, the dealer in TN is eligible to avail VAT credit because of zero rating and hence would be charging only 100 after availing credit of 4 charged as VAT by Seller, TN.
5. Comparison of zero rating provisions
An analysis of the some of State legislation provisions relating to ‘zero rated’ sale is provided hereinbelow:
Features Tamilnadu (‘TN’) Andhra Pradesh (‘AP’) Puducherry Kerala
Eligibility • Export or penultimate export sale;
• Sale to registered dealer in a SEZ, authorized to establish units;
• Sale to specified international organizations. • Export or penultimate export sale;
• SEZ unit,
• Developer, Co-developer and contractors for use in the processing area ( based on Schedule II of APVAT Act, 2005)
• Sale of goods in the course of interstate trade or commerce • Export or penultimate export sale;
• SEZ unit,
• Developer and Co-developer
• 100% EOU, EPZ, EHTP or STP unit • Export or penultimate export sale.
An analysis of the above provisions, suggests lack of uniformity of eligibility of ‘zero rated sale’ and one prominent area is treatment of sales to SEZ.
6. Concept of SEZ and zero rating
SEZ’s are specifically demarcated area within India which are treated as foreign territory for the purpose of levy of taxes and duties. The SEZ legislation has been enacted with effect from the year 2006, erstwhile State Governments had specific policies for promoting SEZ and provided for exemptions from local duties and taxes.
From taxation perspective, it is important to understand three broad categories of status that could be obtained by a person under SEZ legislation, viz.,
• Developer of a SEZ;
• Co-developer of a SEZ;
• Units in a SEZ.
Developer of a SEZ:
The developer of a SEZ is a person who has been granted a specific approval by Ministry of Commerce to develop a specified area as a SEZ. The developer is a person who acquires land and undertakes infrastructural activities to develop SEZ.
Co-developer of a SEZ:
The co-developer of a SEZ is a person who based on an agreement with the developer of a SEZ and specific approval by Ministry of Commerce, undertakes to develop either part or entire infrastructural facilities in a SEZ.
Units in a SEZ:
SEZ unit means a person who has been provided approval from the Ministry of Commerce to establish its operating unit in an existing SEZ.
There are different types of SEZ and the SEZ legislation requires each type of SEZ to have a minimum area of land. Further, each SEZ is divided into two parts namely processing area and non processing area and SEZ legislation specifically provides for minimum area that should be designated as processing area.
From SEZ legislation perspective, generally the benefits/ concessions from indirect tax perspective are mostly same to the developer, co-developer and units in a SEZ. Further, the SEZ legislation intends to extend these benefits to the contractors appointed by such developer, co-developer or units for the purpose of establishing infrastructure (factory buildings) in the SEZ.
It is also important to note that the SEZ legislation treats movement of goods from domestic tariff area to SEZ as ‘exports’. Accordingly, sale of goods to SEZ would have to comply with the procedural requirements for export of goods outside India.
However, from State VAT legislation perspective, the adaptation of above principles appears to be diverged and there are some uncertainties relating to applicability of zero rating provisions to developers of SEZ. For instance, Section 18 of the TNVAT Act requires the following condition to be fulfilled in case of sales to SEZ:
• Purchaser should be a registered dealer;
• Such registered dealer (purchaser) has been authorized to establish such units by authority prescribed by Central Government
As the condition two above, specifically uses the words ‘units’ it is unclear whether the zero rating benefits would be extended to procurements by developers or co-developers.
7. Refund provisions
The dealer making a zero rated sale would be entitled to refund of input tax on those goods which are exported as such or consumed or used in the manufacture of other goods that exported as specified under sub-section (1) of Section 18 of TNVAT Act, 2006. . In this regard sub-section (1) of Section 18 deals with the following three categories:
• Export or penultimate export sale;
• Sale to registered dealer in a SEZ, authorized to establish units;
• Sale to specified international organizations.
The application for refund or the input tax credit adjustment would have to be made within 180 days from the date of accrual of such input tax credit, else the same would lapse. Typically, subject to commercial feasibility it appears that option of adjustment of input tax credit against output VAT payable is preferable.
The application for refund would have to made in ‘Form W’ to the assessing authority with the particulars of goods exported, import export code number, bill of lading number, copy of export invoices, quantity of input tax credit relatable to exports and copy of input invoices.
The below table provides a comparison of refund provisions of various States:
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8. Key issue and challenges
Considering that the concept of zero rated sale has very recently christened there are multiple issues and challenges that needs to be addressed:
a) Whether zero rating is available to SEZ developer/ Co-developer?
Lack of explicit provision under Section 18 of TNVAT Act, 2006.
b) Whether dealer engaged in export of exempted goods would be eligible for zero rating on inputs?
Whether zero rating provision overrides the general provision of claiming input tax credit?
c) Whether the works contract for setting up units would be eligible for zero rating?
Does Section 18 (2) require the goods to be ultimately exported?
d) Whether the SEZ units exclusively engaged in provision of service would be eligible as a dealer to claim the benefit of zero rating?
Does service provider qualify as a dealer?
e) Whether sale to a SEZ unit located outside the State of Tamilnadu would be eligible for zero rating?
Whether sale to a dealer located outside TN against issue of Form I would be treated as exempted sale?
f) Whether time limit of 180 days for adjusting Input tax credit or obtaining refund would apply from the date of sale or from the date of availing input tax credit?
Inconsistency between Section and Rule on date of accrual?
g) Whether the works contractor currently opting to pay tax under composition scheme for other contracts could avail zero rating for the contracts with SEZ units?
Whether Section 18 provides contract wise option?
h) Whether the SEZ unit is required to deduct TDS on payments made to the works contractor?
i) Whether sale of stationeries and office utilities to SEZ units would be eligible for zero rating?
j) ‘Form W’ requires the details relating to quantity of inputs used for export, difficulty in identifying input tax credit relatable to export production alone.
k) Whether supplies made directly to SEZ unit on behalf of the contractor would be eligible for zero rating?
9. To sumup
• Zero rating permits VAT dealer to avail input tax credit, though on output VAT is not payable;
• Input tax credit could be adjusted or excess credit could be claimed as refund, within 180 days from the date of accrual;
• Failure to claim or adjust ITC within 180 days would result in lapse of credit;
• Certain burning issues need clarity for efficient tax management.