Impact of GST on Notice Pay Recovery

Under the employment transactions, an employee offers services, and the employer provides a salary plus other non-monetary benefits (perquisites). So, at both ends, there is supply, and thus the same should be taxable under GST. In this article, let us understand in detail the treatment of GST on employee remuneration and notice pay recovery.

What is Notice Pay Recovery?

Whenever an employee joins or leaves an organisation, he/she is bound by the terms of employment. An employee is usually required to serve the agreed notice period before he/she resigns. However, most employee agreements have a clause stating that if an employee wants to leave the company without serving the agreed notice period, then they are required to pay an amount equal to the unserved notice period.

This is called notice pay recovery, which is either recovered from the employee or deducted from the salary payable to them.

Treatment of GST on Employee Remuneration

Under the CGST Act, the supply of goods and services attracts GST. It applies to the consideration charged by a registered taxable person in the course of furtherance of business. However, Schedule I of the CGST Act includes transactions treated as supplies even if they are made without consideration between related parties but are in the course of furtherance of business. Section 15 of the CGST Act further states that the employer and employee are deemed to be related persons.

Thus, supplies made by an employer to an employee is liable to GST even if it is made without consideration (except gifts up to Rs. 50,000). However, Schedule III of the CGST Act states that ‘services by an employee to the employer in the course of or concerning his employment’ are not considered as supply of goods or services. So, GST does not apply to employee remuneration.

Applicability of GST on Notice Pay Recovery

As discussed above, employment services are exempted from GST. However, employers invest in recruiting and training employees, expecting them to stay for a minimum period or at least fulfil their notice period, to avoid any disruptions to work. Early departures or employees not fulfilling their notice period creates unnecessary disruptions to work and undesirable situations for the organisation. Hence, most employment contracts include a salary forfeiture or bond recovery clause to deter non-serious candidates. This is also known as notice pay recovery.

To find out the applicability of GST on notice pay recovery, one must first check whether the same constitutes a ‘supply’ under the GST law. Serial 5(e) of Schedule II of the CGST Act states certain activities that shall be treated as a supply of goods or services. Such activities include ‘Agreeing to the obligation to refrain from an act, or to tolerate an act or a situation, or to do an act’. But does notice pay recovery fall in this category?

To remove confusion, CGST Circular No. 178/10/2022-GST clarifies that-

1. An analysis of of Serial 5(e) of Schedule II shows that it comprises three different sets of activities, i.e. 
   1. The obligation to refrain from an act, 
   2. The obligation to tolerate an act or a situation, 
   3. The obligation to do an act.
2. The agreement to do or refrain from an act should not be presumed to exist. In simple words, unless there is an express or implied promise by the recipient of money to agree to do or refrain from doing an act, it cannot be assumed that the payment was for doing an act or for refraining from an act or for tolerating an act or situation.
3. In this regard, salary forfeiture or notice pay recovery for an early exit are not payments for tolerating actions but instead a deterrent against breaches by other employees. They are contractual consequences, not service considerations. Further, the employee does not get anything in return from the employer on payment on such amount.
4. Payments in the form of salary forfeiture or notice pay recovery are hence not a  ‘consideration’ unless they have made under a separate agreement specifically for tolerating an act. Without this, such activities do not qualify as a ‘supply’ under the CGST Act.

Therefore, such amounts recovered by the employer are not taxable as consideration for the service of agreeing to tolerate an act or a situation.

Case Laws on Notice Pay Recovery Under GST

There have been a few crucial decisions in the past made in favour of the assessees stating that notice pay recoveries are not subject to GST:

1. Order of Commissioner (Appeals) in case of M/s.Gujarat State Fertilisers & Chemical Ltd – It was held that cessation of employment is treated as employment service not liable for GST.
2. Allahabad CESTAT in case of M/s. HCL Learning Systems Vs CCE, Noida – It was held that the amount recovered out of salary already paid is not subject to GST.
3. Manappuram Finance Ltd. v. Assistant Commissioner of Central Tax and Excise, Kerala - It was held that the amounts recovered by an employer not as consideration for tolerating an act of such premature quitting of employment but as penalties and therefore the employer would not be liable to pay GST on notice pay.