Corporate Guarantees Under GST, FEMA and Income Tax — The Battle of Deeming Fictions and the Discipline of Compliance

By CA Surekha S Ahuja
Law • Logic • Litigation Readiness for Professionals

The Context: One Act, Three Laws, Infinite Interpretations

In 2025, few transactions have caused more compliance anxiety than corporate guarantees. Once viewed as an act of intra-group support or commercial prudence, they now trigger three parallel legal regimes — GST, FEMA, and the Income Tax Act.

The same guarantee is simultaneously treated as:

• A supply of service under GST,

• A capital account transaction under FEMA, and

• An international transaction under the Income Tax Act.

Each law applies its own deeming fiction, creating valuation and disclosure challenges that can easily translate into disputes if documentation is weak.

Corporate Guarantees Under GST — Two Deeming Fictions, One Practical Dilemma

The Legal Turning Point

After the Madras High Court’s ruling in Amman Try Trading (06.10.2025), professionals face renewed uncertainty in interpreting Rule 28(2) of the CGST Rules.
This rule contains two conflicting deeming provisions, both applicable to related-party corporate guarantees, but never simultaneously.

The Two Deeming Fictions in Rule 28(2)

Provision	What It Says	Effect
Main Rule (1% Rule)	If a related party provides a corporate guarantee without consideration, the value shall be deemed as 1% of the guaranteed amount per annum.	Tax applies even where no fee is charged.
Proviso (effective 10.07.2024, retrospective from 26.10.2023)	Where the recipient is eligible for full ITC, the invoice-declared value (even nil) shall be deemed to be the value of supply.	Overrides the 1% rule when full ITC exists.

In short:

• 1% applies when ITC is restricted.

• Nil applies when ITC is fully available.

Practical Scenarios

Case	ITC Eligibility	Valuation Rule	GST Payable
Guarantee by parent for manufacturing subsidiary	100% ITC available	Proviso → Declared value (nil)	Nil
Guarantee by parent for NBFC subsidiary	ITC restricted (50%)	Main Rule → 1% of guaranteed amount	GST @ applicable rate
Guarantee with explicit fee (say ₹5 lakh on ₹75 crore guarantee)	Any ITC status	Higher of 1% or actual fee	1% value dominates unless fee > 1%

Time-Based Applicability

Period	Applicable Provision	Legal Position
Before 26.10.2023	Rule 28(1): Open Market Value	Often argued as “zero” based on RBI circular for personal guarantees.
26.10.2023 – 09.07.2024	Rule 28(2): 1% Rule (without proviso)	1% deemed valuation applies.
From 10.07.2024 (retrospective to 26.10.2023)	Proviso to Rule 28(2): Declared value if full ITC	Nil or declared value accepted if ITC is full.

Judicial and Circular Developments

• Amman Try Trading (Madras HC, 06.10.2025):
  The order was set aside as the tax officer ignored circular-based defences.
  Held: Non-consideration of circulars violates natural justice.

• Circular No. 225/19/2024-GST (11.07.2024):
  Clarified that ITC eligibility is independent of loan disbursement — proviso applies even if loan remains undrawn.

• Earlier Circulars 199/11/2023 & 210/4/2024:
  Reaffirm valuation relief and procedural consistency for related-party guarantees.

Consequential Understanding — What Happens If…

Situation	Consequence
Applying 1% rule where full ITC exists	Unnecessary GST outflow; blocked working capital.
Declaring nil value without proving ITC	Likely SCN; valuation reassessed at 1% per annum.
Ignoring circulars in defence	Order becomes appealable for violation of natural justice.
Not issuing any invoice	Undisclosed supply → Section 73/74 proceedings.

Documentation and Defence Strategy

Step 1 – Prove Full ITC Eligibility

• GSTR-3B or ITC register showing >95% credit utilization.

• Declaration from recipient confirming business use of all inputs.

Step 2 – Document the Guarantee Transaction

• Guarantee deed or letter (amount, period, bank).

• Invoice (even if nil).

• Board resolution authorizing guarantee.

Step 3 – Invoke Circular Defence

• Attach relevant circulars.

• Cite CIT v. Ericsson Telephone Co. (SC) — circulars are binding.

Step 4 – Maintain Contemporaneous Evidence

• Emails confirming ITC status.

• RBI compliance papers.

• Internal valuation note.

The proviso to Rule 28(2) carves out an exception to the main rule.

If full ITC exists, the proviso overrides the 1% valuation.

Supported by:

• CIT v. Dey (SC): A proviso must not be rendered redundant.

• Grammatical canon: When conditions of a proviso are satisfied, it governs.

Thus, where full ITC is demonstrable, 1% valuation cannot legally survive.

Points to Remember

* Two deeming fictions — only one applies at a time.
*  Proviso (nil value) applies only with proven full ITC.
*  Always issue an invoice — even if for nil value.
*  Circulars are binding until withdrawn — quote them verbatim.
*  Keep a file with:

• Guarantee deed

• Board resolution

• ITC proof

• Circulars + case extracts
  -  Pre-26.10.2023 guarantees rely on open market value (zero arguable).
  -  If in doubt — document first, dispute later.
  -  Always cite Amman Try Trading for natural justice protection.

Corporate Guarantees Under FEMA — Permission, Reporting, and Penalty Discipline

From a FEMA perspective, a corporate guarantee issued to or on behalf of a foreign entity is treated as a capital account transaction.
It must comply with:

• Master Direction on Guarantees and Co-acceptances (RBI, updated 2023)

• FEMA Notification No. 20(R) (Overseas Direct Investment Regulations)

Key FEMA Conditions

1. Resident to Non-Resident: Prior approval or automatic route depending on the relationship.

2. Resident on Behalf of Subsidiary Abroad: Report in Form ODI within prescribed timelines.

3. Resident for Group Entity in India: No separate FEMA reporting, but RBI’s prudential norms apply if bank exposure exists.

Non-reporting penalty: Up to the entire amount guaranteed (Section 13, FEMA).

Best Practice: Align guarantee documents with board approval and file acknowledgment copies from AD Bank.

Corporate Guarantees Under Income Tax — The Transfer Pricing Fiction

Under Section 92B(2), issuance of a corporate guarantee to an overseas associated enterprise is a deemed international transaction.

Transfer Pricing Requirements:

• Must be disclosed in Form 3CEB.

• Must be benchmarked at arm’s-length (generally 0.5%–1% of guaranteed amount).

• If guarantee is unremunerated, TPO may impute income and propose TP adjustment.

Judicial Support:

• Bharti Airtel Ltd. v. ACIT (2023): Upheld benchmarking at 0.5%.

• Tata Autocomp Systems Ltd. (ITAT 2015): Corporate guarantee considered an international transaction.

• Everest Kanto Cylinders Ltd. (Bombay HC 2018): Endorsed safe benchmark range of 0.5–1%.

Integrated Compliance Flow

Stage	Law Triggered	Primary Action	Responsible Function
Guarantee Issued	FEMA	File Form ODI / FC per RBI rules	Treasury / Legal
Same Month	GST	Raise invoice, determine valuation	Tax / Finance
Year-End	Income Tax	Disclose in Form 3CEB; benchmark ALP	TP / Tax Team

Do’s and Don’ts for Professionals

Do’s

• Issue GST invoice even if nil.

• Prove ITC eligibility contemporaneously.

• Maintain unified documentation (GST + FEMA + TP).

• Benchmark commission rate annually.

• File FEMA forms promptly with AD Bank.

• Cite circulars and case law in replies.

• Keep RBI/bank correspondence on file.

• Update board resolutions when renewed.

Don’ts

• Don’t assume “no fee” means “no tax”.

• Don’t apply 1% if full ITC exists.

• Don’t omit TP disclosure for guarantees.

• Don’t overlook FEMA filings.

• Don’t rely only on internal notes — add evidence.

• Don’t ignore SCNs — respond citing Amman Try Trading.

The Final Opinion

“Corporate guarantees, once symbols of trust, are now tests of compliance.”

The law may deem them as supplies, capital transactions, or international dealings —
but professionals must ensure they remain defensible acts, backed by proof, policy, and prudence.

Discipline of documentation is your true protection:

• Invoice under GST,

• Report under FEMA,

• Benchmark under Income Tax.

Law may create fictions — but compliance must be real.