MARCH 17, 2012

Service defined at last – But illustrations in the Guidance Note are discouraging Needs a thorough review by TRU

By Santosh Hatwar, Advocate

THE new regime of service tax proposes to tax all services except those covered in the negative list and the most defining moment of the new regime would be the attempt by the legislature to define the word 'service’, in the year when service tax legislation is attaining the 'age of majority’.

As per clause (44) of the new section 65B, 'service’ means, "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) 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.

By virtue of three explanations appended to this definition, certain other concepts were also explained.

To explain the new concepts, the TRU has come out with a draft guidance papers as annexures to the Circular No. D. O. F. No 334/1/2012-TRU dated March 16, 2012. The Guidance Note 2 which deals with 'service’ has explained certain terms and concepts which would be regarded as 'service’. As per this, the words 'activity’ and 'consideration’ which are not defined in the new provisions were explained. As per the guidance note, the common understanding of the word 'activity’ would include an act done, a work done, a deed done, an operation carried out, execution of an act, provision of a facility etc. It is a term with a very wide connotation. It also includes forbearance to act, which is specified as a declared service under the proposed new section 66E of the Act.

Similarly, the guidance note explains that 'consideration’ has not been defined in the Act. However, it proposes that the definition of the term 'consideration’ as given in the Indian Contract Act, 1872 can be safely adopted to understand the concept of consideration. However, as per clause (55) of section 65B, words and expressions used but not defined in this Chapter and defined in the Central Excise Act, 1944 or the rules made thereunder, shall apply, so far as may be, in relation to service tax as they apply in relation to a duty of excise. Unfortunately, in the Central Excise Act, 1944 (and the rules made there under) though the term 'consideration’ was used liberally, there was no attempt made to define this term there under. Now, the guidance paper suggests that this term be understood in the manner as it is defined under the Indian Contract Act, 1872.

As per section 2(d) of the Indian Contract Act, 1872, consideration is defined as follows:

"When, at the desire of the promisor, the promise or any other person has done or abstained from doing, or does or abstains from doing, or promises to do or to abstain from doing something, such act or abstinence or promise is called a consideration for the promise".

Under the Indian Contract Act, 1872, 'consideration’ is a very important concept and it has wider implications including forbearance to do anything, abstinence from doing anything etc. In this scenario, it remains to be seen as to how this wider concept of 'consideration’ as defined under the Indian Contract Act, 1872 could be applied to 'services’, for the purpose of determining their taxability. Unfortunately, the guidance note extrapolated some of the concepts surrounding 'consideration’ in the Indian Contract Act, 1872 and illustrated them to infer that they would be taxable.

Some of the illustrations outlined in the guidance note para 2.2.4 while explaining non-monetary consideration are as follows:

In terms of paras 2.2.5 and 2.2.6 of the guidance note, TRU clarifies that the non-monetary consideration also needs to be valued for determining the tax payable on the taxable service since service tax is levied on the value of consideration received which includes both monetary consideration and money value of non-monetary consideration. The value of non-monetary consideration is determined as per section 67 of the Act and the Service Tax (Determination of Value) Rules 2006, which is equivalent money value of such consideration and if not ascertainable, then as follows:-

(i) On the basis of gross amount charged for similar service provided to other person in the ordinary course of trade;

(ii) Where value cannot be so determined, the equivalent money value of such consideration, not less than the cost of provision of service.

In para 2.2.7, TRU illustrates research grant and states that in case a research grant is given with counter obligation on the researcher to provide IPR rights on the outcome of research or activity undertaken with the help of such grants then the grant is a consideration for the provision of service of research. General grants for researches will not amount to a consideration.

In the above instances, for e.g. in the illustrations given in para 2.2.4, it remains to be seen as to how the authorities would like to value B’s clicking of a photograph when A agrees to dry clean B’s clothes and so forth. This also reminds of me one illustration given in one of my friend Jai Kumar’s article years ago about a professional receiving a client’s only daughter in marriage and the incidental property in the name of the girl and her parents for provision of service by the professional. Now, it still remains a mystery as to how the authorities will arrive at the value of the bride and her property. Also if the research scholar is pursuing a PhD from a University or an Institute, where such research projects are normally funded by industries through their R&D ventures where one of the conditions would be that the industry funding the project would wrest ownership of the IPs generated during the course of research or the ownership could be shared in a tripartite manner between the scholar, institute and the funding industry, and such PhD being a degree recognized by law, it remains to be seen as to how the research grant would be regarded as a consideration liable to tax.

Another illustration given in para 2.2.8 is extracted below:

In the above illustration, if the agreement to provide a service is cancelled and the advances received are forfeited as a consequence of this, it is stated that the forfeited deposit would represent consideration for the agreement that was entered into for provision of service. Unfortunately, the draftsman of this note has forgotten the fact that the advance was received for provision of service in pursuance of an agreement and it would have been liable to tax in terms of POT 2011, had the agreement stayed. But in the illustration given above, the agreement for provision of service is cancelled and not in existence any more, but by virtue of one of the terms of the agreement, the advance paid would be forfeited, which means, the forfeited advance would amount to a penalty for not proceeding ahead with the agreement for service. In such a scenario, it is surprising to see that this forfeited advance would be regarded as a consideration liable to tax.

In my view, every aspect of the guidance note needs to be critically and dispassionately analyzed both by the TRU as well as the trade and other stakeholders before it attains the status of a subordinate legislation in the form of a Circular or Guidance note, whatever be the nomenclature adopted by the TRU, so that the new regime of taxing all services sans negative list plus exemptions will have a smooth sail into the GST regime.