GST on Interest, Penalty, Delayed Charges collected from Customers

It is a regular business practice to charge interest or penalty on late recovery of dues from customers and to pay penal interest for default in payment of instalments on loans. This article explains the implication of GST on such transactions.

As per Section 15(2)(d) of the CGST Act: " value of supply includes interest or late fee or penalty for delayed payment of any consideration for any supply "

The following are the two situations :

  • Recovery of interest from customer on account of delay in making payment for the supplies of goods and services.
    • To deter clients from paying late, the sellers may want to charge interest on the invoice, but the seller will also have to charge GST on such interest or charges.
    • In such a situation, the GST rate charged should be the same as the rate that is applicable to the goods or services on the invoice.
    • For example: A person supplying garments, bills a customer for Rs.1000 and gives a period of 30 days for payment and the invoice states that delay in payment will result in interest of 6%. In such a case the customer will also have to pay GST on the interest part at the rate of 5%, which is applicable on garments.
    • The supplier is not required to report or pay the GST on such interest until he receives it from his client.
    • In particular if the supplier is following accrual method, he records revenue as earned i.e. as soon as the invoice is raised. He also reports the GST to the Government in the monthly returns, even if the payment is not received. But he should not report the GST on the interest part until it is received.
    • In response to the controversial ruling of the Authority of Advance Ruling (AAR) and numerous queries, the CBIC vide Circular no.102/21/2019-GST dated 28th June 2019 has released a clarification on the matter. It has been clarified that the interest as well as the penal interest charged in relation to the supply of goods and services shall be included the value of goods and services and will be liable to GST.
  • Recovery of penal interest by NBFCs, Banks and other lenders from the borrower on account of default in payments of due instalments of loan.
    • On a perusal of the mentioned the provisions of Section 15(2)(d) hereinabove a view may be taken that even penal interest or overdue interest recovered by NBFCs and Bank on account of delay in payment of instalment, shall also be included in the value of supply i.e. the interest on instalments.
    • It is important to note that services for providing loan where consideration is represented by way of interest or discount is exempted from payment of GST vide notification no. 12/2017 dated 28.06.2019.
    • It may be argued that the overdue interest or penal interest is merely a stepped up interest for the period for which the borrower has made breach of contractual terms of contract. Therefore, a conclusion can be drawn that overdue interest is to be included in the value of supply i.e. interest and shall be exempt from GST.
    • Further, the CBIC has clarified that the additional interest or penal interest charged on the delay in payment of instalment of loan by the borrower will be covered under interest defined under notification no. 12/2017 dated 28th June 2019. Thus, the same shall be exempt from payment of GST.

The above issue has been further explained using the following examples in the circular:

  • Case 1 :
    • AMC Mart sells Refrigerator to the customer XYZ having a price INR 40,000/-. Further AMC provides an option to XYZ to pay the amount for the refrigerator under an instalment of INR 10000/- monthly over a period of 5 months. Further, if XYZ makes a default in the payment of instalment of loan then in such case additional amount of penal charges amounting to INR 500/-pm shall also be collected from XYZ.
    • Since the transaction between AMC and XYZ is for supply of taxable goods i.e. Refrigerator, the original amount of interest as well as the penal interest shall be taxable and would be included in the value of the Refrigerator.
  • Case 2 :
    • If in the above case, refrigerator is being sold by AMC Mart and XYZ has an option to avail a loan from AZB financers. XYZ shall repay the loan in 5 monthly instalments of INR 5000 each. Further an additional amount of Rs.500 as penal interest will be recovered from XYZ in case there is default in payment of the due instalments.
    • The additional penal interest in the transaction between XYZ and AZB Financers gets covered under Sl no. 27 of notification no.12/2017-Central Tax (Rate) dated 28.06.2017 Accordingly, in this case the ‘penal interest’ charged by AZB financers would not be subject to GST.
    • The value of supply of refrigerator by AMC Mart to XYZ would be INR 40,000/- for the purpose of levy of GST. It is also important to note that if AZB financers also collects some charges or fee from XYZ then such charges or fee for extending loan or deposit shall not be considered as interest and will not be exempt.

To sum up the above discussion:

Disclaimer:"The information contained herein is only for informational purpose and should not be considered for any particular instance or individual or entity. We have obtained information from publicly available sources, there can be no guarantee that such information is accurate as of the date it is received or it will continue to be accurate in future. No one should act on such information without obtaining professional advice after thorough examination of particular situation."

Prepared By

Shraddha V