OCTOBER 07, 2014

By Abhijit Saha, Director-Indirect Tax, BDO India

IT is a settled position of law that Service tax and VAT are mutually exclusive. If the transaction is liable to service tax then VAT is not applicable and if the transaction is liable to VAT then service tax is not applicable. Surprisingly the said legal position is not applicable to the following situation where both VAT and service tax is charged on the same transaction:

When photocopy is provided by the service provider (say, XYZ) to his customer and the paper is supplied by the customer free of cost, then the said transaction attracts both the service tax and VAT (i.e., double taxation).

Service Tax:

The service provided by XYZ does not qualify as 'works contract' service. As per section 65B(54) of the Act, 'works contract' means a contract wherein transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods and such contract is for the purpose of carrying out construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, alteration of any movable or immovable property or for carrying out any other similar activity or a part thereof in relation to such property.

It is evident from the above definition that photocopy service does not qualify as works contract service because it does not fulfil the second limb of the definition which is conjunctive although the first limb is satisfied as works contract vat is charged.

In this case, the effective control of the XYZ owned equipment is not transferred to the customer. Moreover, even the toners, fusers, cartridges etc. are being replaced by XYZ of its own equipment deployed at customer premise. It is a settled position of law that if the effective control is not transferred then the transaction does not qualify as deemed sale in the category of transfer of right to use under VAT law. Hence it will qualify as taxable service. Service is defined to include 'declared service' which has been defined under section 66E of the Act. The relevant extract has been reproduced below, for ease of reference:

The following shall constitute declared services, namely:-

………………

(f) transfer of goods by way of hiring, leasing, licensing or in any such manner without transfer of right to use such goods

(g) activities in relation to delivery of goods on hire purchase or any system of payment by instalments

(h) service portion in the execution of a works contract

In view of the above definition it may be stated that the 'declared service' includes transfer of goods without transferring the right to use such goods. Hence it may be stated that the photocopy etc. service provided by the XYZ to customer would be liable to service tax. As per section 67 of the Finance Act, 1994 read with Rule 5(1) of the Valuation Rules, it may be stated that the valuation for the purpose of service tax would be the gross amount charged by the service provider including any expenditure incurred in relation to provision of the taxable service. Accordingly the expenses incurred by XYZ on account of replacing the toners etc. shall be considered towards determining the value on which service tax would be charged.

The dominant nature of the transaction between XYZ and the customer is rendering of services. Hence, even though there may be supply of toners, cartridges, fuser agent etc., the main objective of the transaction is for provision of service by XYZ to the customer.

There is no doubt that toners etc. are used and consumed to bring photocopy into existence. It is also quite true that no service recipient goes to a service provider to buy paper, toners etc. materials. What the service recipient expects from the photocopy service provider is the photocopy. No consideration is paid separately for photocopy service and the goods used and consumed in providing such taxable service. Value of photocopy service includes all elements bringing that to the deliverable stage.

In view of the above it may be stated that there is no sale of goods as per Service tax law. The definition of sale as per Section 2(h) of the Central Excise Act, 1944 as made applicable to service tax vide Section 65(121) of the erstwhile Act [Now Section 65B(55) of the Act] stipulates that "sale and purchase with their grammatical variations and cognate expressions, means any transfer of the possession of goods by one person to another in the ordinary course of trade or business for cash or deferred payment or other valuable consideration.

It is evident from the above definition that deemed sale (as stipulated in Works Contract VAT) is not included in the sale definition which is applicable to service tax. Accordingly the value of the toner etc. would be added to the gross value for service tax since the same are incidental for provision of service.

Works Contract VAT:

Maharashtra Value Added Tax Act (MVAT) does not define works contract separately. In the definition of sale under section 2(24) of the MVAT, it has been mentioned that the following transaction would constitute as sale:

"the transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract including an agreement for carrying out for cash, deferred payment or other valuable consideration, the building, construction, manufacture, processing, fabrication, erection, installation, fitting out, improvement, modification, repair or commissioning of any movable or immovable property"

In view of the above definition it may be stated that the definition of works contract is very wide and includes any transaction whatsoever that involves a provision of service along with an element of supply of goods. The definition is much wider than the definition of 'works contract' as per service tax law. It also includes deemed sales which is not included in service tax law as explained above. So the toner etc. which are used in photocopy would be construed as transfer of property in the course of execution of works contract irrespective of the quantity of the materials involved. Only consumables is not included in the sale as the same is not transferred in the course of works contract because the same is not retained in the same form or in any other form.

Hence the toner and developer supplied will result in printing on the copies taken out from the machines. Thus the toner and developer used are transformed into the form of print, so they are in existence in another form. But the fuse oil supplied is used for smooth and proper functioning of the machines which will be consumed during the process of functioning and will not be in existence in any tangible form after the work is over. Accordingly supply of toner and developer amounts to deemed sale in the course of execution of works contract whereas the supply of fuse oil does not qualify as deemed sale being consumable in nature.

In the case of Commissioner of Sales Tax, Mumbai v. Hari and Company [2006] 148 STC 92 (Bom), the Hon'ble High Court held that the object of the Constitutional amendment introduced in the year 1982 by the Constitution (Forty Sixth Amendment) Act, 1982 was to create a legal fiction of transfer of goods within the works contract in order to levy a tax on the goods involved in the execution of works contract. Hence, irrespective of whether the transfer of property is incidental or ancillary to a works contract, once a works contract involves transfer of property, the provisions of Article 366(29A) of the Constitution of India are attracted not withstanding that the value of the goods may represent a small percentage of the amount paid for the execution of works contract.

In view of the above it may be stated that Works Contract Vat would be applicable on the transfer of toner etc. in course of execution of works contract and XYZ is liable to pay VAT on such deemed sale.

Double Taxation

As regards the double taxation, it may be stated that service tax does not recognise deemed sale and accordingly there is no sale under service tax law and also the fact that it does not qualify as works contract service under service tax law. However, as per VAT law, deemed sale is liable to VAT and hence VAT is to be paid since the transaction qualifies as works contract under VAT law.

In this regard it may be mentioned that the tax is required to be paid as per the definition of sale as per VAT law (which includes deemed sale) and service tax law (which does not include deemed sale). So, as per the VAT law there is VAT liability and as per service tax law also there service tax liability since the scope of sale is different in VAT law and Service Tax law. Dominant Intention theory applies to service tax law and the entire transaction qualifies as pure service contract but in case of VAT law deeming fiction applies and accordingly Dominant Intention theory does not apply.

In the case of Imagic Creative Pvt. Ltd vs Commissioner of Commercial Taxes - 2008-TIOL-04-SC-VAT it was held that the payment of service tax as also the VAT is mutually exclusive. However, as per author's understanding the said mutual exclusivity should be supported by the statute. If the VAT Statute construed deemed sale as sale  and if the service tax statute construe the deemed sale as service, then such lacuna in the legislation cannot be resolved unless the VAT law and Service Tax Law is made compatible to each other. In such a non-aligned definition of sale in VAT Act and Service Tax law, Dominant Intention Theory applies to service tax in absence of deeming fiction and the element of material becomes incidental to providing service. Whereas in the case of Works Contract VAT Dominant Intention Theory does not apply because the sale definition includes deemed sale.

In BSNL vs. Union of India - 2006-TIOL-15-SC-CT-LB it was observed - Para 82 - the Centre cannot include the value of the SIM cards, if they are found ultimately to be goods, in the cost of service. As was held by us in Gujarat Ambuja Cements Ltd. v. Union of India - 2005-TIOL-96-SC-CT-LB - "This mutual exclusivity which has been reflected in article 246(1) means that taxing entries must be construed so as to maintain exclusivity. Although generally speaking, a liberal interpretation must be given to taxing entries, this would not bring within its purview a tax on subject - matter which a fair reading of the entry does not cover. If in substance, the statute is not referable to a field given to the State, the Court will not by any principle of interpretation allow a statute not covered by it to intrude upon this field."

In the instant case the field is given to both the VAT law by way of deeming fiction and also to the service tax law by applying the dominant intention theory. Hence to conclude it may be stated that so long as the VAT law definition and Service Tax law definition of sale is not aligned, both the taxes are imposable as per the respective statutes  and the same is legally valid and double taxation does not make the statute invalid.

In view of the above, in order to avoid double taxation and also to uphold the settled position of law that service tax and VAT are mutually exclusive, the VAT laws and Service Tax laws should be aligned so that the citizen of the country are not subject to unnecessary double taxation.