Preliminary:
Taxability of self supply of services (i.e. transactions between mutual concerns and its members/transactions between various units a single legal entity) has been a contentious issue prior to 1/7/12, more particularly in the context of cross border transactions due to deeming provisions in section 66A of the Finance Act, 1994 (Act) as existed prior to 1/7/12.
An attempt is made to discuss the tax implications of self supply of services under the Negative List based Taxation regime introduced w.e.f. 1/7/12, more particularly in regard to cross border transactions.
Relevant Statutory Provisions (w.e.f. 1/7/12)
Section 65 B(44) of the Finance Act, 1994 (as amended)
“Service” means any activity carried out by a person for another for consideration, and includes a declared service, but shall not include –
a) An activity which constitutes merely, –
I) A transfer of title in goods or immovable property, by way of sale, gift or in any other manner; or
II) Such transfer, delivery or supply of any goods which is deemed to be a sale within the meaning of clause (29A) of article 366 of the Constitution; or III) A transaction in money or actionable claim;
b) a provision of service by an employee to the employer in the course of or in relation to his employment;
c) fees taken in any Court or Tribunal established under any law for the time being in force.
Explanation 1. – For the removal of doubts, it is hereby declared that nothing contained in this clause shall apply to, –
(A) the functions performed by the Members of Parliament, Members of State Legislative, Members of Panchayats, Members of Municipalities and members of other local authorities who receive any consideration in performing the functions of that office as such member; or
(B) the duties performed by any person who holds any post in pursuance of the provisions of the Constitution in that capacity; or
(C) the duties performed by any person as a Chairperson or a Member or a Director in a body established by the Central Government or State Government or local authority and who is not deemed as an employee before the commencement of this section.
Explanation 2. – for the purposes of this clause, transaction in money shall not include any activity relating to the use of money or its conversion by cash or by any other mode, from one form, currency or denomination, to another form, currency or denomination for which a separate consideration is charged.
Explanation 3. – For the purposes of this Chapter, –
a) an unincorporated association or a body of persons, as the case may be, and a member thereof shall be treated as distinct persons;
b) an establishment of a person in the taxable territory and any of his other establishment in a non – taxable territory shall be treated as having an establishment of distinct persons.
Explanation 4. – A person carrying on a business through a branch or agency or representational office in any territory shall be treated as having an establishment in that territory.
Service Tax Rules, 1994 as amended (ST Rules)
Rule 6A – (Export of Services)
The provision of any service provided or agreed to be provided shall be treated as export of service when –
a) The provider of service is located in the taxable territory,
b) The recipient of service is located outside India,
c) The service is not a service specified in section 66D of the Act,
d) The place of provision of the service is outside India,
e) The payment for such service has been received by the provider of service in convertible foreign exchange, and
f) The provider of service and recipient of service are not merely establishments of a distinct person in accordance with item (b) of Explanation 2 of clause (44) of Section 65B of the Act.
Where any service is exported, the Central Government may, by notification, grant rebate of service tax or duty paid on input services or inputs, as the case may be used in providing such service and the rebate shall be allowed subject to such safeguards, conditions and limitations, as may be specified by the Central Government, by notification.
Relevant Departmental Clarifications
Extracts from departmental clarifications titled “Education Guide” dated 20/6/12 issued in the context of Negative List based taxation of services introduced w.e.f. 1/7/12, are as under :
Para 2.4.1
What is the significance of the phrase “carried out by a person for another”?
The phrase “provided by one person to another” signifies that services provided by a person to self are outside the ambit of taxable service. Example of such service would include a service provided by one branch of a company to another or to its head office or vice versa.
Para 2.4.2
Are there any exceptions wherein services provided by a person to oneself are taxable?
Yes, Two exceptions have been carved out to the general rule that only services provided by a person to another are taxable. These exceptions, contained in Explanation 2 of clause (44) of section 65B, are:
- An establishment of a person located in taxable territory and another establishment of such person located in non-taxable territory are treated as establishments of distinct persons. [Similar provision exists presently in section 66A(2)].
- An unincorporated association or body of persons and members thereof are also treated as distinct persons. [Also exists presently in part as explanation to section 65].
Para 10.2.2
Can there be an export between an establishment of a person in taxable territory and another establishment of same person in a non – taxable territory?
No. Even though such persons have been specified as distinct persons under the Explanation to clause (44) of section 65B, the transaction between such establishments have not been recognised as exports under the above stated rule.
Mutuality Concept
Relevance under Service tax
Though the concept of “mutuality” has been a subject matter of extensive judicial consideration under Income tax & Sales tax, under Service tax, it has been tested judicially to a very limited extent. However, it assumed significance in the context of Club or Association Services Category introduced w.e.f 16/6/05, more particularly in the context of co-operative societies, trade associations & clubs.
The following Explanation was inserted at the Section 65 (105) of the Act w.e.f. 1/5/06:
“For the purpose of this section, taxable service includes any taxable service provided or to be provided by any unincorporated association or body of persons to a member thereof, for cash, deferred payment or any other valuable consideration.”
Attention is particularly invited to the following Explanation inserted to newly introduced section 65B(44) which defines ‘Service’:
Explanation 2 – For the purpose of this Chapter, –
a) An unincorporated association or a body of persons, as the case may be, and a member thereof shall be treated as distinct persons.
General Concept
It is widely known that no man can make a profit out of himself. The old adage that a penny saved is a penny earned may be a lesson in household economics, but not for tax purposes, since money saved cannot be treated as taxable income. It is this principle, which is extended to a group of persons in respect of dealings among themselves. This was set out by the House of Lords in Styles vs. New York Life Insurance Co.. (1889) 2 TC 460 (HL). It was clarified by the Privy Council in English and Scottish Joint Co -operative Wholesale Society Ltd. vs. Commissioner of Agricultural Income-tax (1948) 16 ITR 270 (PC), that mutuality principle will have application only if there is identity of interest as between contributors and beneficiaries.
It was the lack of such a substantial identity between the participants, with depositor shareholders forming a class distinct from the borrowing beneficiaries, that the principle of mutuality was not accepted for tax purposes for a Nidhi Company (a mutual benefit society recognised under section 620A of the Companies Act, 1956) in CIT vs. Kumbakonam Mutual Benefit Fund Ltd. (1964) 53 ITR 241 (SC).
Judicial Considerations under Service tax
The service tax authorities had issued show cause notices to various clubs demanding service tax under the Category of “Mandap Keeper” on the ground that the Clubs have allowed the members to hold parties for social functions. Two of such clubs disputed the levy before the Calcutta High Court viz:
- Dalhousie Institute v. AC (2005) 180 ELT 18 (CAL)
- Saturday Club Ltd. v. AC (2005) 180 ELT 437 (CAL)
In Saturday Club’s case, a members Club, permitted occupation of club space by any member or his family members or his guest for a function by constructing a mandap. On the principle of mutuality, there cannot be (a) any sale to oneself, (b) any service to oneself or (c) any profit out of oneself. Therefore, the Calcutta High Court, held that the same principle of mutuality would apply to Income tax, sales tax and service tax in the following words:
“……….. Income tax is applicable if there is an income. Sales tax is applicable if there is a sale. Service tax is applicable if there is a service. All three will be applicable in a case of transaction between two parties. Therefore, principally there should be existence of two sides/entities for having transaction as against consideration. In a members’ club there is no question of two sides. ‘Members’ and ‘club’ both are same entity. One may be called as principal when the other may be called as agent, therefore, such transaction in between themselves cannot be recorded as income, sale or service as per applicability of the revenue tax of the country. Hence, I do not find it is prudent to say that members’ club is liable to pay service tax in allowing its members to use its space as ‘mandap’.
……………
Therefore, the entire proceedings as against the club about the applicability of service tax stands quashed……”.
[Chelmsford Club vs. CIT (2000) 243 ITR 89 (SC) & CIT vs. Bankipur Club Ltd. (1997) 226 ITR 97 (SC) were referred]
Principles laid down by the Calcutta High Court under Service tax
The principles laid down by the Calcutta High Court in Saturday Club & Dalhousie Institute discussed earlier, have been followed in a large number of subsequently decided cases. To illustrate:
- Sports Club of Gujarat Ltd vs. UOI (2010) 20 STR 17 (GUJ)
- Karnavati Club Ltd vs. UOI (2010) 20 STR 169 (GUJ)
- CST vs. Delhi Gymkhana Club Ltd (2009) 18 STT 227 (CESTAT – New Delhi)
- Ahmedabad Management Association vs. CST (2009) 14 STR 171 (Tri – Ahd) and
- India International Centre vs. CST (2007) 7 STR 235 (Tri – Delhi)
In CST vs. Delhi Gymkhana Club Ltd. (2009) 18 STT 227 (New Delhi – CESTAT) the Tribunal observed:
“using of facilities of club, cannot be said to be acting as its clients and hence, in respect of services provided to its members, a club would not be liable to pay service tax in the category of club or association service”.
Revenue appeal against the above ruling has been dismissed by the Delhi High Court on technical grounds. It needs to be noted that, Explanation inserted at the end of section 65 (105) of the Act w.e.f. 1/5/06, has not been discussed in the aforesaid ruling.
Recent Judgement in Ranchi Club Ltd v CCE & ST (2012) 26 STR 401 (JHAR)
The said ruling has been analysed and discussed in detail in the July, 2012 issue of BCAJ. In this ruling, the High Court observed as under:
“It is true that sale and service are two different and distinct transactions. The sale entails transfer of property whereas in service, there is no transfer of property. However, the basic feature common in both transaction requires existence of the two parties; in the matter of sale, the seller and buyer, and in the matter of service, service provider and service receiver. Since the issue whether there are two persons or two legal entity in the activities of the members’ club has been already considered and decided by the Hon’ble Supreme Court as well as by the Full Bench of this Court in the cases referred above, therefore, this issue is no more res integra and issue is to be answered in favour of the writ petitioner and it can be held that in view of the mutuality and in view of the activities of the club, if club provides any service to its members may be in any form including as mandap keeper, then it is not a service by one to another in the light of the decisions referred above as foundational facts of existence of two legal entities in such transaction is missing. [Para 18]”
Self Supply of Services – Judicial & Other Considerations under Service tax
Some judicial considerations under service tax are as under:
Under Central Excise, the concept of captive consumption has been in force, for many years. However under the service tax law ,there is as such no concept of captive consumption of services whereby services provided by one division of a company to another division are liable to service tax. As such, service provider–customer/client relationship is necessary for being liable for service tax.
In this connection, attention is drawn to the Ban-galore tribunal ruling in the case of Precot Mills Ltd. vs. CCE (2006) 2 STR 495 (Tri – Bang) wherein it was held as under :
“Technical Guidance provided by applicant to its own constituent (a Sister Concern), cannot be brought with the ambit of Management Services and Service Tax in the absence of Consultant – Client relationship between the two”.
Attention is drawn to the following observations of Tribunal in Rolls Royce Industrial Power (I) Ltd v Commissioner (2006) 3 STR 292 (Tribunal):
“…………Thus, there are no two parties, one giving advise and the other accepting it. Service tax is attracted only in a case involving rendering of service, in this case, engineering consultancy. That situation does not take place in the present case. Therefore, we are of the opinion that the duty demand raised is not sustainable………..”
Magus Construction Pvt. Ltd. Vs. UOI (2008) 11 STR 225 (GAU)
In the said ruling, the Honourable Gauhati High Court observed:
“In the light of the various statutory definitions of “service”, one can safely define “service” as an act of helpful activity, an act of doing something useful, rendering assistance or help. Service does not involve supply of goods; “service” rather connotes transformation of use/user of goods as a result of voluntary intervention of “service provider” and is an intangible commodity in the form of human effort. To have “service”, there must be a “service provider” rendering services to some other person(s), who shall be recipient of such “service”. (Para 29)
In the context of construction services, it has been repeatedly clarified that, in case of self supply of services there can be no liability to service tax. In this regard, useful reference can be made to the department circular dated 17/9/04 on estate builders, Master Circular dated 23/8/07 in regard to applicability of service tax to real estate builders/developers and department Circular dated 29/1/09 regarding imposition of service tax on builders.
In the context of cross border transactions, a deeming fiction was introduced in section 66A of the Act w.e.f. 18/4/06 (relevant upto 30/6/12), whereby reverse charge liability was triggered in cases of payments made by an establishment based in India to an establishment based outside India, despite the fact that the said establishments are part of one legal entity.
In this regard, attention is drawn to the para 4.2.5 from department circular dated 19.4.06:
“Provision of service by a permanent establishment outside India to another permanent establishment of the same person in India is treated, for the purpose of charging service tax, as provision of service by one person to another person. In other words, permanent establishment in India and the permanent establishment outside India are treated as two separate legal persons for taxation purposes.”
It is pertinent to note that, there was no deeming fiction on similar lines, under the Export of Services Rules, 2005 (ESR) which were in force upto 30/6/12.
Taxability of transactions between mutual concerns and their members
The terminology employed in Explanation 3 [Para (a)] inserted in section 65B (44) of FA 12 which defines ‘Service’, w.e.f. 1/7/12, is identical to that employed in Explanation to section 65 (105) of the Act which was in force upto 30/6/12. Hence, it would appear that, principles of mutuality upheld by the Calcutta High Court in Saturday Club and Dalhousie Institute and Jharkhand High Court in Ranchi Club would continue to be relevant.
Further, under sales tax law, a constitutional amendment was carried out to enable States to levy sales tax on sale of goods by a club or association to its members. No such amendment is carried out for service tax.
However, it needs to be expressly noted that the issue is likely to be a subject of extensive litigation.
Taxability in case of self supply of services within India
As discussed above, upto 30-06-2012 it is a reasonably settled position to the effect that, in the absence of a service provider – client relationship transactions between divisions/units within a legal entity would not result in any service tax liability.
In the context of Negative List based taxation of services introduced w.e.f. 01-07-2012, it would appear that, the above stated position would continue. However, in regard to transactions between units located in India and J & K, the implications discussed below would be relevant to note.
Taxability in case of self supply of services in cross border transactions
As regards the position upto 30-06-2012 as discussed above, deeming fiction enacted in section 66A of the Act would be triggered, resulting in service tax liability under reverse charge in case of payments made by an establishment based in India to an establishment based outside India despite the fact that two establishments are a part of one legal entity.
However, in the absence of deeming fiction under ESR, if the cross border transactions between two establishments of one legal entity satisfy the conditions of ‘export’ under ESR, there may not be any liability to service tax.
To conclude, it would appear that, whether cross border transactions in the nature of self supply of services can be made liable to service tax at all, needs to be judicially tested inasmuch principles of taxability of self supply of services discussed above would be relevant.
As regards position w.e.f. 1/7/12, vide Explanation 3 [Para (b)] to section 65B (44), a legal fiction has been created whereby two establishments of a person, one located in the taxable and other in non–taxable territory are to be treated as two separate persons. The obvious intention of the deeming fiction is to tax the transactions between two branches or between head office and branch office, where one is located in the non–taxable territory and other is located in the taxable territory.
For example, in a case of a head office in India remitting salaries for its staff employed at branches in 50 different countries world wide, section 65B (44) of FA 12 specifically excludes services provided by employees from the definition of ‘service’. However, an issue could arise, as to whether deeming fiction created in Explanation 3 [Para (b) ] to section 65B (44) can be triggered and a view adopted that transactions between two separate entities cannot be regarded as “salary”, but on an application of deeming fiction transactions are in the nature of supply of services between two persons liable to service tax. This would be an extreme and highly controversial view which could result in extensive litigation.
There could be similar issues in case of several other transactions between head office and overseas branches. For example, disbursements by head office to sales offices for meeting establishment ex-penses and funding of losses in the initial set up period. By invoking the deeming fiction stated earlier, reverse charge provisions could be triggered, if the transactions are not excluded in terms of 66B (44)/ Negative List/Exempted List of Services.
Let us now discuss the implications in case of cross borders transactions between head office/branches which result in inward remittances in India in convertible foreign exchange. These transactions could be either genuine ‘export’ transactions or could be for salary disbursements, establishment disburse ments etc. to branches/sales offices set up in India by an overseas company based outside India.
In this context, it is very important to note that para 1(f) of Rule 6A of ST Rules which defines “Export of Services” specifically excludes transactions between two establishments within one legal entity. Hence, even if all the other conditions for ‘export’ specified under Rule 6A of ST Rules are satisfied, the benefit of export would be denied, resulting in a possible service tax liability.
It has been a stated policy of the Government to the effect that, we should export our goods & services and not taxes. However, it seems provisions of Rule 6A of ST Rules would result in export of taxes, which is clearly contrary to the policy of the Government. This needs to be addressed immediately.
To conclude, it would appear that, deeming fiction created through Explanation 3 [Para (b)] to Section 65B (44) of FA 12 read with Para 1(f) of Rule 6A of ST Rules, is likely to have far reaching implications on cross border transactions under Negative List based taxation regime and is likely to increase costs of international transactions. This needs to be appropriately addressed to encourage cross border business and avoid litigations as well.
However, though deeming fictions are to be construed strictly, whether cross borders transactions between two units of one legal entity in the nature of self supply of services can be taxed at all in the absence of service provider client relationship, needs to be judicially tested.
