GST on Reimbursement of Expenses to a Supplier

When a supplier spends money on something that's needed to provide a service or product to a client, how the tax called GST (Goods and Services Tax) is applied depends on the nature of the expense and their agreement. Sometimes, the supplier might incur costs directly related to their job. These costs get added to the bill, and GST is charged to them.

Other times, the supplier might pay for something on behalf of the client, like buying a needed item without charging extra. This kind of spending doesn't include GST. So, depending on why and how the money was spent, it might or might not have GST added.

Regardless, suppliers who act like a “pure agent” by incurring costs on behalf of the client without any markup are reimbursed expenses not subjected to GST. Such services may include costs like court fees or any third-party services explicitly approved by the client.

What is GST?

Introduced on the 1st of July 2017 to replace the Indian Tax structure, the Goods and Services Tax (GST) is a comprehensive, multi-stage, destination-based tax levied on every value addition to a product. Meaning it is collected at each stage of sale or purchase in the supply chain. The Indian GST was designed to primarily remove the hassle of accounting for different taxes, unifying them into a single account.

Taxes like excise duty, value-added tax (VAT), and service tax were replaced with GST. GST was introduced to stop double taxation and provide benefits to the end consumer. Implicit taxes, cesses, octroi, entry tax, and state-level taxes are now subsumed by GST. Goods and Service Tax was implemented as one domestic indirect tax law for the entire country.

Understanding Reimbursement of Expenses

Reimbursement of expenses occurs when one person pays for costs on behalf of another; for example, a tenant may pay housekeeping expenses on behalf of the property owner. In business contexts, reimbursing expenses is complex, and under GST, there are primarily two types of reimbursements.

1. Incidental Expenses: The incurrence of any expenses during the transportation or delivery of goods like packaging charges, commission on Sales, and expenses incurred on traveling from one location to another is called incidental expenses under GST, These are included in the transaction value of supply if incurred before or at the time of delivery.

2. Pure Agent Expenses: The basic principle for expenses incurred as a pure agent is a payment that will be made to the third party on behalf of the recipient of the supply, so can be excluded from the value of the supply, provided certain criteria are met.

The Concept of a Pure Agent

GST legislation defines a pure agent as someone who makes contracts with the recipients but acts as a delegate to them by bearing or incurring costs for the recipient. A pure agent is characterized by the following attributes:

1. The supplier commits to acting as a pure agent before making any purchases.

2. The supplier does not utilize the goods or services for their personal use.

3. Reimbursements are requested solely for the actual expenses incurred, without any added markup.

Rule 33 and Its Implications

Reimbursement of expenses/costs which is made by supplier in the capacity as pure agent of the recipient of supply of goods/services:- As per Rule 33 of the CGST Rules, 2017, the above expenses/costs which have been incurred by the supplier in the course of supply of goods/services to the recipient, the supplier, while acting as pure agent of the recipient of supply does not include such expenses/costs while determining the value if all the following conditions are satisfied:-

1. The supplier acts as a pure agent when making payments to the third party.

2. The payments made by the pure agent are authorized by the recipient.

3. The expenses are listed separately on the invoice issued by the supplier.

Examples Illustrating the Pure Agent Concept

Example 1: Let us suppose a Legal consultant collects fees ₹ 1,50,000 from their client DEF Corp. as legal consultancy fees for the year 2021-22. and in addition to the above amount the consultant also invoices the client ₹ 65,000 as court fees reimbursement which are paid by the legal consultant on behalf of DEF Corp to the judiciary. The first amount of ₹ 1,50,000 collected from DEF Corp is on a principle-to-principle basis. However, the second amount of ₹ 65,000 collected from the client is purely on a pure agent basis.

Example 2: In this example, Aman is the manufacturer and Rafid is the freight forwarder. Rafid handles all the logistics of the export consignment on behalf of Aman. This means that Rafid also needs to get the customs clearance done for which he takes the services of a Customs Handling Agent, whom Rafid has been authorized by Aman to engage and make the payment on his behalf. So, these logistics services provided by Rafid are on a Principal to Principal basis. However, the customs handling services which have also been taken by Rafid and paid for by Aman are on a Pure Agent basis.

GST Impact on Expense Reimbursement

To assess the impact of GST on the reimbursement of expenses to a supplier, we must first assess if the reimbursement is a pure agent expense. If yes, it shall be excluded from our GST calculation. If not, it shall be included in the calculation of the taxable supply value. The latter is subject to GST and doing so would aid in accurate tax reporting, lessening any exposure to problems during an audit.

Section 15 of the CGST Act

The value of a taxable supply shall include

(a) any taxes, duties, cesses, fees levied under any statute, other than the CGST Act or SGST Act and

(b) such incidental expenses, as may be prescribed, which are incurred by the supplier and are necessary for the supply of goods or services.

Thus, all need to understand and classify the expenses correctly and maintain proper documentation of them. The value of the supplies made in the course or furtherance of business shall include the incidental expenses, as per the provision of Section 15 unless specifically excluded through some rules e.g. Rule 33 for a pure agent.

Recommendations for Businesses

1. Ensure clear contractual terms regarding expense reimbursements.

2. Maintain detailed and separate invoicing for expenses incurred as a pure agent.

3. Seek professional advice to interpret and apply GST laws related to reimbursements correctly.

Conclusion

Navigating the GST when it comes to reimbursing expenses is a little bit of a mind field that all younger people doing internal accounting with a company should know. Knowing the difference between incidental expenses and pure agent reimbursements is key as is in most cases having a clear agreement.

Adhering to these guidelines will ensure businesses manage their taxes well keeping in mind GST regulations, thus avoiding instances that raise confusion.

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