First, the Big Idea: Why Does “Free” Even Get Taxed?

GST is a tax on supply — and normally, “supply” requires someone to pay for something. No payment, no supply, no tax. That’s the general rule.

But the law carves out one exception: transactions between related companies (a parent and its subsidiary, or two branches of the same company under different GST registrations) are taxed even if no money changes hands. This lives in Schedule I, Entry 2 of the CGST Act, 2017.

Why a Guarantee Specifically Counts as a “Service”

When your parent guarantees your bank loan, think about what a bank would do in the same spot: charge a guarantee fee. Banks take on real risk when they back a loan — if the borrower defaults, someone has to pay. When a parent does this for its subsidiary, usually for free, GST law looks at it and says: a bank would have charged for this — we’re taxing it as if a fee was charged, even though none actually was.

That’s the entire logic behind taxing corporate guarantees. It isn’t a technicality — it’s the law treating a real economic favor the same way it would treat a paid service.

Why the Government Picked a Flat 1% a Year

Once the law decides to tax something that was never priced, someone has to decide what it was worth — genuinely hard for a guarantee, since there’s no invoice or quoted market rate anywhere.

Rather than let every company argue this out with an assessing officer (exactly what happened before 2023, leading to years of litigation), the government picked a simple flat number: 1% per year of the guaranteed amount, roughly anchored to what a bank might charge for a comparable guarantee. This sits in Rule 28(2), CGST Rules, introduced via Notification No. 52/2023-CT and refined by Notification No. 12/2024-Central Tax.

Why per year, not one-time? Because the guarantee doesn’t do its job once and disappear — it keeps standing behind the loan for as long as it’s outstanding, the same way an insurance policy keeps providing cover for as long as you keep paying the premium.

The Part Everyone Finds Confusing: Why Do Some Companies Pay Nothing?

This is the crux of it, and it’s worth slowing down for.

The law says: if the recipient is entitled to claim 100% Input Tax Credit (ITC) — meaning it can fully claim back whatever GST is charged to it — then whatever value the invoice carries, even zero, is accepted by law. No 1% calculation, no argument.

So the law essentially says: if taxing this transaction wouldn’t raise any real revenue anyway, we’re not going to force the exercise. Put down whatever value you like.

In other words: the NIL-invoice shield isn’t a reward for big or favored companies. It exists purely because taxing a fully-creditable recipient is revenue-neutral paperwork. The moment a recipient can’t claim credit, the government has a real financial stake — so the shield disappears.

“Provided that where the recipient is eligible for full input tax credit, the value declared in the invoice shall be deemed to be the value of said supply of services.”
Rule 28(2) proviso · Notification 12/2024-CT · retro from 26 Oct 2023

When a Head Office Helps a Branch, For Free

The same logic applies to something even more common than guarantees: a head office running shared IT, HR, or management for its branches, without billing them.

CBIC Circular No. 199/11/2023-GST clarified two points:

1. The head office doesn’t have to include employee salary cost in the cross-charge value. Paying your own employees isn’t “buying a service” the way hiring a vendor is — an employee’s work for their own employer sits outside GST’s definition of “supply” under Schedule III.
2. If the head office issues no invoice at all, the value can be treated as NIL — but only if the receiving branch has full ITC, exactly as with guarantees.

The Corporate Guarantee Rules, Applied

For a guarantee between two Indian related companies, everything comes down to one question — can the recipient claim full ITC?

Two details written directly into the amending notification itself: the words “per annum” were specifically inserted into Rule 28(2), and GST attaches to 1% of the guaranteed amount regardless of how much of the loan was actually drawn down.

A Foreign Parent Guaranteeing an Indian Subsidiary

Now flip the guarantor around: a foreign holding company guarantees a loan for its Indian subsidiary.

The economic logic hasn’t changed — a bank would still have charged for this backing. But there’s a practical problem: the guarantor sits outside India, with no GST registration and no reason to ever file an Indian return. India’s tax department has no realistic way to walk up to a foreign company and collect tax from it.

Everything about the guarantee’s value stays identical to the domestic case, because what changed is who pays, not what’s taxed:

• Valuation unchanged: still 1% per year of the guaranteed amount, under Rule 28(2).
• The NIL-invoice shield still applies — because it depends on the recipient’s ITC status, and the recipient here is the Indian subsidiary, sitting inside India’s GST system just like in the domestic case. Full ITC means a self-invoice at any value, even NIL, is protected.
• No full ITC: the subsidiary self-assesses and pays IGST under RCM at 1% p.a., out of its own pocket.

The detail worth holding onto: the NIL-invoice shield was never about who the guarantor is. It’s only ever about whether the recipient can claim the tax back as credit. Compare that to the next scenario, where the recipient itself sits outside India’s GST net entirely — that’s the one case where the shield genuinely disappears.

When an Indian Parent Guarantees a Foreign Subsidiary

What happens when an Indian holding company backs a loan for its overseas subsidiary? Here, the 1%-per-year rule doesn’t apply at all. Notification No. 12/2024-CT inserted the words “located in India” into Rule 28(2), so the rule only reaches related persons based in India — a foreign subsidiary is outside its scope entirely.

• Fee charged, paid in foreign currency: counts as an export of services (Section 2(6), IGST Act) — zero-rated, 0% GST, with a valid LUT on file.
• No fee charged: no forex payment to point to, so it can’t qualify as an export. GST becomes payable for real, at Open Market Value (or Cost + 10%) under Rule 28(1).

And the NIL-invoice shield does not carry over here. That shield exists only because an Indian, GST-registered recipient can claim the tax straight back as credit. A foreign subsidiary has no Indian GST registration — there’s no credit loop for the tax to bounce through. So charging a real, arm’s-length fee, and actually collecting it in foreign exchange, isn’t just good practice — it’s the only route to paying zero tax.

Three Audit Pitfalls Departments Get Wrong

Even with all of the above settled in law, field officers routinely misapply it. Expand each for the defense.

A Four-Step Action Plan

Track your progress with the floating checklist in the corner.

1. 1
   List every intra-group guarantee — domestic, foreign-parent-inbound, and outbound — and sort the Indian-recipient cases by ITC eligibility.
2. 2
   For full-ITC recipients (domestic or via RCM): issue a formal invoice or self-invoice citing the Rule 28(2) proviso, even at nominal or NIL value.
3. 3
   For restricted-ITC recipients: compute and pay GST at 1% p.a. of the guaranteed amount, via Forward or Reverse Charge as applicable.
4. 4
   Audit banking documentation to distinguish enforceable corporate guarantees from non-binding Letters of Comfort.

The One-Sentence Version

Everything else — the 1% figure, the NIL-invoice shield, the reverse charge for foreign parents, the export rules for outbound guarantees — is a consequence of that one idea, not a separate set of arbitrary rules.