NO NEED TO REVERSE ITC BY MANUFACTURER IN RESPECT OF FREE REPLACEMENT OF PARTS OR REPAIR SERVICES UNDER WARRANTY PERIOD.

Clarification on availability of ITC in respect of warranty replacement of parts and repair services during warranty period is given by the Central Board of Indirect Taxes through circular no. 195/07/2023-GST dated 17th July, 2023. (circular-cgst-195)

Let’s understand this through the following illustration: -

I. At the time of sale of goods

An automobile manufacturer sells the vehicle, along with warranty of 2 years, to its dealer. The dealer further sells the vehicle to the customer.

II. Replacement of defective part

After 1 year, a part of vehicle becomes defective, the customer approaches the dealer to replace the defective part on free of cost basis under the warranty. The dealer will now have three options, as depicted below:

The issuance of Circular No. 195/07/2023-GST, dated 17.7.2023 (“Circular No. 195”/ “Circular”) calls for a closer look at each of the options that can be exercised by the dealer.

Option (1)

Under this option, the dealer dispatches the parts to the manufacturer for replacement based on the requisition placed by the customer. Here, the Circular clarifies that no GST implications arise in the hands of the manufacturer (i.e., no GST is payable on replacement of parts and no reversal of credit is required). However, in case the dealer charges separate consideration for repair service, then GST will be applicable on such services.

So far, the position appears to be clear. However, the issues get bottled up in case of Options (2) and (3).

Options (2) and (3)

Under these options, the dealer either purchases the parts from open market or uses his own stock for replacement of defective parts. The defective parts are subsequently returned to the manufacturer. Here, since the dealer invests his own funds for replacement purpose, the manufacturer generally compensates the dealer for the same by issuing a credit note.

Clarifications issued vide Circular No. 195

Circular No. 195 explains that in various cases, the dealer charges a consideration for replacement of parts from the manufacturer and issues a tax invoice. In this context, the Circular clarifies that GST is applicable on the amount charged from the manufacturer. It further states that the manufacturer will be eligible to take credit of the GST so charged, subject to other conditions of the GST law.

Clarifications in case of Extended Warranty

If a customer enters into an agreement of extended warranty with the manufacturer at the time of original supply, then the consideration for such extended warranty becomes part of the value of the composite supply, the principal supply being the supply of goods, and GST would be payable accordingly.

However, in case where a consumer enters into an agreement of extended warranty at any time after the original supply, then the same is a separate contract and GST would be payable by the service provider, whether manufacturer or the distributor or any third party, depending on the nature of the contract

Issues popping up from Circular No. 195

Applicability of GST: An inference which can be drawn from the above clarification is that the Government is treating the reimbursement of amount for replacement of parts to the dealer, by way of a credit note, as a mode of payment and thereby, "consideration". In other words, the said amount is not considered to be compensation given to the dealers for honouring the manufacturer's warranty obligations. Further, in case where the manufacturer, instead of issuing a credit note, subsequently dispatches new parts to the dealers to replenish their inventory of parts, the issue of the same being a consideration in kind can also come up. Therefore, in the absence of any specific indication, this point remains open to interpretation and subject to scrutiny.

Availability of credit:In continuation of the above issue, when GST is charged by the dealer on the amount received from the manufacturer, the Circular allows credit to the manufacturer in respect of GST so charged.

One of the conditions for taking credit under Section 16(2) of the CGST Act is the receipt of goods. In this case, the manufacturer never receives the replaced parts from the dealer.

Prepared by,
Deepika H Vernekar
Article Assistant
Date: 30.12. 2023