Samples under tax ambit
Valuation of free samples
Valuation of samples not sold and distributed free of cost has to be based on costing only, and not on any other method, says V S Gokhale
Almost in each industry, there is a practice of distribution of ‘samples’ of saleable packs for the trials by consumers. This is correct and very much required in view of safeguarding the consumer’s requirements. I would go further and say that, there should be statutory binding to distribute such samples, in view of increasing consumer awareness movement in India. However the scope of the article is limited to the valuation of such samples under Central Excise.
The most common factors in the industry, while distributing such samples are:
- They are distributed free.
- They just represent saleable pack only in quality.
- Intention of distribution is well marked.
- Reactions on use are expected and monitored by companies.
- No price or MRP is marked as per the packaging commodities act.
- Value of sample is included in the value of salable goods as per costing practice.
Of course, one or more of the factors above might not be followed by one or other industry. But it will not affect the final intention for deciding the sale price as per the costing practice.
Section 4 of Central Excise: Irrespective of the goods, whether, sold or not, valuation for payment of excise duty has to be done as per section 4 of the Central Excise Act. Valuation of goods, not sold, has to be done as per section 4 (i) (b), even prior to amendment of section, since 1/07/2000 or after the amendment. For the same purpose central Excise Board has prescribed ‘Central Excise Valuation rules; which were also amended since, July 2000. There is some difference in old and new valuation rules.
Considering both the old and new valuation rules, there could be different aspects for consideration while valuation. Let us evaluate all, because while deciding final pick, legally one must look into all the possibilities and even minor points.
While adopting valuation rules one must remember to apply the rules only sequentially.
As said earlier, if such samples are taxed on clearance, it will suffer with double tax, because its entire cost is added to the cost of saleable goods as expenses. No deduction is permitted on this count under Section 4, or both the valuation rules.
These expenses include all the expenses incurred on inputs, transport, distribution, finance, insurance etc. Actually many of these expenses are legally deductible from value of sales. However, as samples are not sold, they do not get the benefit and attracts more tax.
Though law does not permit double taxation basically, it becomes difficult to prove it, and more difficult to claim it as deduction, because rules does not speak about it.
However, if rules are amended accordingly, deduction of entire cost of samples, direct and indirect, from relevant sales valuation should be allowed. Like freight and insurance under old Section 4, deduction can be permitted on average and annualized basis. This is even supported by Apex Court in ‘Bombay Tyre’ case. To prove beyond doubts method for calculation of amount of expenses and inclusion of such expenses uses in sales pack, should be provided with clear guidelines. Or alternatively all such samples be exempted. But considering government policy, deduction is a better choice.
In old valuation rules, vide Rules 6(b) (i) a theory of comparable goods was incorporated. Vide this, if assessee is manufacturing identical goods, which can be compared, with the goods which are not sold, value be arrived by comparison. In short, value of sample, could not be the pro-rata value of sales pack as per contents of both the packs.
Eventually, if comparable goods are not available then value should be based on costing as per Rule 6(b) (ii) appearing next sequentially.
Though there are many conflicting decision of various authorities majority are for and in favour of Rule 6(b)(i). Apex court also talked about Rule 6(b) (i) in case of Ranbaxy – 2001 (133) ELT 0532 SC
However, still, I am afraid to say that in some cases cost of samples is more than pro-rata value, though quantity is less in samples. Because of such situation many times assesee is inclined to accept 6 (b) (i) valuation.
But it has to be remembered always, that department has residual rights to jack up the value, by adding other indirect cost of samples, which has not formed part of value. If it happens, it will call for larger period along with penal provision and interest.
This theory is adopted under new valuation Rules since July 2000. If one tries to apply these rules sequentially to such ‘samples’ one will find that none of the rule applies directly. Then as per last residual provision of Rule 11, one has to think over which is the rule and provision applicable to samples, keeping in mind the reasonable means, consistent with principles and provisions of valuation Rules and Section 4 (I).
While making the efforts, we will land at Rule 8 of valuation. This is because of the fact that free samples are always cleared to self and free distribution is arranged by company, through their own representatives. In broader view of law and as per general understanding this has to be equated with captive consumption. If it is so then value of samples should be the 115 per cent of cost of manufacture and duty is payable on resultant.
There can be a dispute whether, it is ‘captive consumption’ or not. But one should keep in mind
that any law cannot be held so tightly or cannot be let loose so much, to loose its basic intention. When one cannot expect more support from revenue prone individuals, he must be ready to move further to get the law defined from hierarchy.
When goods are cleared to self a theory of ‘Relate person’ can definitely be adopted. Such a theory can certainly raise eyebrows, as there is no existence of ‘other person.’ But think in way of law. Here consignee become distributor of consignor and so related. If self-clearance is not considered as related person then it will be difficult to recover duty if goods are sold by consignee at higher price. Anyway this is not a subject.
Even if we accept this theory for time being then also as per related Rule 9 of valuation, one has to refer back to Rule 8, and decide the value as per the provisions therein.
Job work manufacturing
As per the Apex court judgements in case of “Ujagar Prints”, and as per even the latest circular of Central Excise Board, valuation has to be done as per cost of manufacture only.
Looking into all the different tangents discussed above, valuation of ‘samples’ not sold and distributed free has to be based on costing only, and not on any other method, at least since July 2000.
One must fight for right, and choose the right way for right decision, if he is sure, he has adopted a right path of law.
The writer V S Gokhale is with Alkem Laboratories Ltd, Mumbai