When Shah Rukh Khan, Virat Kohli or any other celebrity endorses a brand or a company, is the branding exercise only for the corporate head office or the whole organisation? That’s the question indirect tax authorities have started asking several companies which have engaged film stars and sports personalities for brand promotion, advertising or any other form of celebrity endorsement.

The indirect tax department want companies to split such expenses proportionately across all registered entities throughout the country under a cross charge mechanism, said people aware of the matter.

Under the goods and services tax (GST) framework, companies have to take a separate registration in each state and split all expenses. However, certain expenses are common to the whole organisation – such as advertising, payment for a lawyer or even travel expenses incurred by the CEO or the chief financial officer.

The question for several companies is how exactly to split them and in what proportion for taxability purposes, said tax experts.

The tax department has started questioning many companies as to whether they have distributed these common expenses across all their registered entities. It is investigating whether the companies are dividing the branding expenses across various states, said the people cited earlier.

“The taxability on cross charges must be addressed by the GST Council at the earliest, as this can cause huge revenue implications in certain cases. The constitutionality of these provisions can be challenged as these services are not rendered to any other person but are mere charges for different registrations of the same entity,” said Abhishek A Rastogi, partner at Khaitan & Co.

The GST framework has a mechanism called input service distribution (ISD). Companies can take this registration and then distribute the cost or the tax credit across all registrations.

But that would lead to a new set of problems, said tax experts.

“Common expenses incurred by corporates, including celebrity endorsement expenses, are required to be distributed across the registrations that derive a benefit from these expenses, while the ISD mechanism prescribes a sales value approach to such allocation, in case of inter-branch transfers there is no mechanism prescribed,” said MS Mani, partner, Deloitte India.

“This leads to diverse expense apportionment practices across businesses, hence it is necessary for the business to evaluate the same carefully , before deciding on the method adopted for allocation as these could be business-specific,” he said.

The absence of a mechanism or an agreement on the basis on which the cost should be distributed has only added to the problem, said tax experts.

In an ideal situation distribution of the cost could be revenue neutral transaction. The problem is twofold for many companies. Under the GST mechanism, when such an expense is distributed, it generates input tax credit. Often, some of the smaller centres or states do not have a mechanism or output to set it off and this could lie idle.

Secondly, in many cases, celebrities endorse brands that encompass different products that are taxed differently, and this creates more confusion.

“It is a zero-sum game for companies, as they are not saving any tax,” said a tax expert, who did not wish to be identified.

GST authorities in Hyderabad had questioned a company on some common expenses. The company was asked how it allocates these common expenses – whether on the basis of the number of employees employed in a location or sales generated in the area or anything else.

The investigation has begun following an analysis done by the indirect tax department based on data analytics, said people aware of the matter.

“The tax department cross-checked the GST paid on the celebrity endorsements with how much the companies were paying up and whether they were distributing those,” one of the persons said on condition of anonymity.

Take the case of a large company that’s under investigation. The company had paid about Rs 5 crore to a Bollywood star for brand endorsement and advertising. The cost was allocated to Mumbai, where the head office is located.

The tax department is asking whether this cost should be allocated across the company’s 15 registered entities since the brand endorsement will prove beneficial wherever the product is sold.

In some cases, the tax department has also asked questions on old transactions where the companies have already claimed tax credit. This could result in a loss to the companies since the time to rework and reclaim the tax credit has long passed.

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