Corporate Guarantee Is Taxable — But the Gujarat High Court Has Drawn a Very Important Line
Ananya is the CFO of a mid-sized Mumbai holding company. Three years ago, her subsidiary needed a Rs 5 crore working capital facility. The bank insisted on a corporate guarantee from the parent. Standard practice. No fee was charged — after all, it was their own group company. The guarantee was given, the loan was disbursed, and life moved on.
This week, a GST demand notice arrived on her desk. Rs 14.5 lakhs, with interest, under Section 74.
She calls her CA. “How can guaranteeing our own subsidiary’s loan attract GST? We didn’t charge anything. There was no supply!”
The answer requires understanding three distinct things: why the guarantee is a supply even without consideration, how the 1% valuation rule works — and crucially, why the Gujarat High Court just said that rule cannot be applied to periods before 26 October 2023.
The Decision at a Glance
The Gujarat High Court has ruled that a holding company’s corporate guarantee to a subsidiary can constitute a taxable supply of service under GST — even where no consideration is charged. However, the Court has also held that Rule 28(2) of the CGST Rules, which prescribes the 1% per annum valuation formula, cannot be applied retrospectively to periods before 26 October 2023, the date on which that rule was inserted.
In the same breath, the Court read down the words “whichever is higher” in Rule 28(2) — meaning the 1% formula is no longer an inescapable floor; it now operates alongside actual consideration as an alternative basis of valuation.
Why the Guarantee Is a Supply — The Legal Architecture
Section 7(1)(c) read with Entry 2 of Schedule I, CGST Act, 2017:
“Supply of goods or services or both between related persons… when made in the course or furtherance of business” shall be treated as supply even if made without consideration.
The Court worked through four building blocks to establish that Ananya’s guarantee is squarely within this provision:
Holding company and subsidiary are “related persons” under the Explanation to Section 15. No dispute here.
Supporting a subsidiary’s borrowing capacity is incidental to running the business. Even a one-time guarantee can qualify.
An undertaking to honour a debt obligation is an obligation “to do an act” — Entry 5(e) of Schedule II classifies this as a supply of service.
The subsidiary receiving the financial security is the recipient under Section 2(93). It benefits directly from the holding company’s creditworthiness.
The Court also clarified that the guarantee is not an “actionable claim” and is not a “continuous supply of services” — two arguments the petitioners had raised in an attempt to escape the levy.
The Rule 28(2) Problem — and Why 26 October 2023 Is the Pivot Date
Once the Court established taxability, it turned to valuation. If no consideration was charged between holding and subsidiary, how does the government calculate the GST?
The answer lies in Rule 28 of the CGST Rules, which governs valuation of supplies between related parties. CBIC inserted Rule 28(2) by Notification No. 52/2023-CT, effective 26 October 2023, prescribing that for corporate guarantees between related persons, the value shall be 1% of the guaranteed amount per annum — or the actual consideration, whichever is higher.
What “Reading Down” Means — and Why It Matters
The petitioners challenged the constitutional validity of Rule 28(2) itself, arguing that mandating 1% regardless of actual consideration was arbitrary and disproportionate.
The Court upheld Rule 28(2) as constitutionally valid — but it read down the words “whichever is higher.”
In plain terms: the Rule remains valid and operative, but it no longer functions as an absolute floor that always supersedes actual consideration. The valuation may now be based on either:
- 1% per annum on the guaranteed amount, or
- The actual consideration charged for the guarantee
This is significant. Where a group genuinely charges a market-rate guarantee fee — documented, at arm’s length — that actual consideration can now serve as the valuation basis instead of the mechanical 1% formula.
The Books Entry Question — Time of Supply
The Court flagged a nuanced point on time of supply: it is linked to when the subsidiary records the guarantee in its books. This is not determined once and forgotten — the position needs to be examined separately for each financial year in which the guarantee remains outstanding.
This creates an annual compliance touchpoint. A guarantee given in FY 2023-24, renewed or continuing into FY 2024-25, generates a fresh time-of-supply question in each year — particularly relevant for multi-year guarantees on term loans.
A Real Example — What This Looks Like in Practice
Back to Ananya. Her holding company gave a corporate guarantee of Rs 5 crore in January 2023. No fee charged.
The Section 74 demand for the full three-year period based on Rule 28(2)? Quashed for the pre-October 2023 portion. The excess GST paid, if any, is to be refunded or adjusted.
The Gujarat High Court has given practitioners a structured map — not a clean escape.
Taxability is confirmed. There is no longer a credible argument that a corporate guarantee between holding and subsidiary escapes GST entirely. What the Court has given us is precision on when the 1% rule operates and how it should be applied. The retrospective demand issue is now settled — pre-26 October 2023 periods cannot be subjected to Rule 28(2).
The more important implication going forward: groups that are charging a genuine, documented guarantee fee at arm’s length have a valuation argument. Groups that continue to charge nothing — or a token amount — will be valued at 1% per annum. The structure you put in place now determines the GST you pay tomorrow.
1. Map every outstanding corporate guarantee in your group. Identify guarantor, beneficiary, amount, date of guarantee, and whether it pre-dates or post-dates 26 October 2023.
2. For post-26 October 2023 guarantees, compute the GST exposure annually. Value = 1% of guaranteed amount per year (or actual fee if charged). GST at applicable rate on that value. File under RCM if applicable.
3. If you received a Section 74 demand covering pre-26 October 2023 periods, cite this Gujarat High Court ruling. File a reply or writ citing the Court’s specific direction that Rule 28(2) cannot be applied retrospectively.
4. Consider formalising a guarantee fee structure for new or renewed guarantees. A documented arm’s-length fee — even if modest — now has a valuation argument before the Rule 28(2) formula. This is the read-down working in your favour.
Disclaimer: This article is for general informational and educational purposes only and does not constitute legal, tax or professional advice. Readers should consult a qualified Chartered Accountant for advice specific to their circumstances. While every effort has been made to ensure accuracy, GST law and judicial interpretation continue to evolve. The Gujarat High Court ruling referenced herein is subject to any further appeal before the Supreme Court of India.