GST Valuation Rules for Related Party Transactions and Deemed Supplies: Section 15 and Rule 28

Determining the taxable value of supply is fundamental to computing GST liability. While Section 15(1) of the CGST Act establishes that the transaction value (the price actually paid or payable) forms the basis of valuation, this principle becomes complicated when dealing with related parties, non-monetary transactions, and supplies made without consideration. Rules 27 to 35 of the CGST Rules provide an elaborate valuation hierarchy for such situations.

Who Are "Related Persons" for GST Purposes?

Section 15 read with the Explanation thereto (and Schedule I) defines related persons broadly to include: officers or directors of one another's businesses; legally recognized partners in business; employer and employee; and persons one of whom owns, controls, or holds 25% or more shares of the other. The concept also extends to associates, subsidiaries, holding companies, and any persons where one controls the other, whether directly or indirectly. Parent-subsidiary, sister concern, and group company transactions are thus all potentially within the related party framework.

Rule 28: Valuation for Related Party Supplies

Rule 28 establishes a hierarchy for valuing supplies between related persons or between a person and his distinct establishment (branches in different states):

• First Option: Open Market Value (OMV) of the supply. OMV is defined as the full amount that a recipient would pay in the open market to obtain the goods or services at the same time and place, assuming money is the only consideration.
• Second Option: If OMV is not available, the value of supply of like kind and quality.
• Third Option: Value as determined under Rules 30 and 31 (cost-based or best judgment).

A significant proviso in Rule 28 states that where the recipient is entitled to full ITC, the value declared on the invoice shall be deemed to be the open market value, provided the parties agree in writing. This exception is critical for intra-group corporate transactions where all entities are GST-registered and ITC-eligible.

Supplies Between Distinct Persons (Branch Transfers)

Under Schedule I of the CGST Act, supplies of goods or services between distinct persons (different GST registrations of the same legal entity, for example Head Office and branches in different states) are deemed supplies even if made without consideration. This means intra-company stock transfers across state borders are taxable under GST. The valuation of such branch transfers must follow Rule 28, and the branch receiving the goods/services can claim ITC. However, if the transferring branch reverses ITC on the goods and the value declared is the cost price, it may be challenged by tax authorities as below OMV.

Head Office to Branch: Service Cost Allocation

One of the most litigated areas is the GST on head office services provided to branches, such as HR, IT, legal, finance, and management services. The CBIC has clarified through various circulars that Head Offices providing services to branches (distinct persons) must raise GST invoices. The challenge lies in quantifying the value of such common services: should it be the actual cost, a markup on cost, or the market rate? The CBIC's position is that cost plus a nominal markup should generally be acceptable, but departmental officers have sometimes demanded higher valuations, leading to disputes.

Deemed Supplies under Schedule I

Beyond related party transactions, Schedule I deems four categories of transactions as taxable even without consideration: (1) permanent transfer of business assets where ITC was claimed; (2) supply between related or distinct persons in the course of business; (3) supply of goods by principal to agent where agent is authorized to sell; and (4) importation of services from a related person outside India. For each of these, the valuation rules under Rules 28-31 apply, adding layers of complexity.

Employee Perquisites and Free Supplies

Free supplies to employees (perquisites) constitute a deemed supply unless they are obligatory under any law, or fall within Schedule III (gifts not exceeding Rs. 50,000 in value per year). Determining whether a particular employee benefit is a taxable deemed supply or a non-taxable perquisite requires careful analysis. The tax department has been aggressive in seeking to bring company-provided cars, housing, and health benefits within the GST net, while businesses argue that employee compensation arrangements are in the nature of employer-employee relationships covered under Schedule III.

Interaction with Income Tax Transfer Pricing

For multinational groups, GST valuation of related party transactions interacts with Income Tax transfer pricing rules. While transfer pricing under the Income Tax Act uses arm's length pricing based on elaborate OECD-aligned methodologies, GST valuation uses the open market value concept with different definitions and benchmarks. A transaction priced at arm's length for IT purposes may not satisfy the OMV test for GST purposes, and vice versa, potentially requiring different valuations for the two taxes—a compliance burden that adds significant complexity to cross-border intra-group structuring.

Practical Guidance for Businesses

Businesses should establish formal intercompany service level agreements (SLAs) with clearly documented rationale for pricing, conduct periodic benchmarking of intercompany service charges against market rates, ensure all branch transfers have proper e-way bills and GST invoices, and document the methodology used to determine open market value. Given the high audit risk in this area, proactive engagement with a tax advisor to review the intercompany transaction structure is strongly advised.