Penal Charges Exempt from GST: A Milestone Decision
The GST Council’s 55th meeting on December 21, 2024, brought welcome relief for borrowers. Penal charges, often imposed by banks for loan repayment delays or document submission failures, will no longer attract Goods and Services Tax (GST). This clarification resolves a contentious issue that arose in April 2024 when an 18% GST was levied on such charges.
The decision stems from the nature of penal charges. These are compensatory, not payments for a service rendered. As such, they fail to meet the criteria for “supply of services” under GST law. While this resolution ends months of ambiguity, it also highlights a new challenge: the refund of GST collected during this period.
Why Penal Charges Should Never Have Attracted GST
Banks introduced penal charges to discourage non-compliance. Unlike regular fees, these charges aim to:
- Penalise delays in loan repayments.
- Enforce timely submission of required financial documents.
Key Case Analysis
A Moneylife article by retired banker Chandramouli Mohan succinctly argued that penal charges are not taxable services. His analysis, coupled with borrower grievances, put pressure on authorities to act.
The confusion arose after the Reserve Bank of India (RBI) issued August 2023 guidelines, replacing penal interest with penal charges to enhance transparency. This transition inadvertently brought penal charges under GST, leading to financial distress for borrowers.
Ambiguities in GST on Penal Charges
Several critical issues highlighted the need for reform:
- Penal charges are not service-oriented; hence, taxing them contradicts GST principles.
- Inconsistent interpretations by banks led to undue financial strain on borrowers.
- Lack of guidance from the RBI and tax authorities added to the confusion.
What the GST Council’s Decision Means
- No GST on Penal Charges: The GST Council clarified that penal charges do not qualify as taxable services.
- Relief for Borrowers: Borrowers will no longer pay GST on these charges, reducing their financial burden.
The Next Step: Refunds
The big question now is: Will banks refund GST collected on penal charges since April 2024?
Estimates suggest the refund amounts could reach hundreds of crores. To ensure transparency:
- The RBI’s Department of Supervision must oversee refund processes.
- Banks must proactively inform borrowers about their refund eligibility.
- A streamlined claim process should be established to prevent grievances.
Borrowers’ Rights and Actions
- Check Your Loan Statements: Identify GST charges on penal fees since April 2024.
- Reach Out to Your Bank: Request clarification on the refund process.
- Stay Updated: Follow RBI announcements and updates on this matter.
Final Thoughts
The GST exemption on penal charges marks a significant step towards fairness in banking practices. However, the refund process will be a litmus test for banks, the RBI, and the GST Council in addressing borrower grievances. Borrowers must stay informed to claim their rightful refunds promptly.