The Central Board of Indirect Taxes (“CBIC”) has issued Circular No. 214/1/2023-Service Tax dated 28.02.2023 (“Circular”) clarifying the applicability of service tax on declared services.
Section 66E(e) of the Finance Act, 1994 (“Finance Act”) deems ‘Agreeing to the obligation to refrain from an act, or to tolerate an act or a situation, or to do an act’ as a declared service. It has long been a bone of contention whether service tax would be leviable on payments arising out of breach of contract in cases such as notice pay, forfeiture of earnest money etc. under Section 66E(e) of the Finance Act.
The CBIC vide the Circular has clarified as below:
- The activities contemplated under Section 66E(e) of the Finance Act are the transactions where the agreement specifically refers to an activity and there is a flow of consideration towards the same. Sufficient nexus between the service and the consideration is necessary for an activity to qualify as a declared service under the said Section.
- Adjudicating authorities must take note that while taxability in each case shall depend on facts of the case, the guidelines as above and jurisprudence that has evolved over time, may be followed in determining whether service tax on a transaction needs to be levied by treating it as a declared service.
- The CBIC has decided not to pursue appeals in certain pending litigations wherein it has been held that service tax is not payable under Section 66E(e) of the Finance Act in the absence of nexus where payments were received on account of shortfall in lifting of coal, shortfall in quantity of supply agreed, non-adherence to the time schedule agreed etc.
- It is relevant to refer to Circular No. 178/10/2022-GST dated 03.08.2022 issued under Goods and Service Tax (“GST”) regime which inter alia provides clarification on applicability of GST on liquidated damages, compensation and penalty arising out of breach of contract or other provisions of law. The provisions under GST are pari materia to provisions under erstwhile Service Tax laws – Schedule II para 5(e) of the Central Goods and Services Tax Act, 2017. The present Circular provides similar clarification on the issue under the service tax regime and also mentions that reference may also be made to GST circular.
- However, whether any payment qualifies as consideration for a service and hence taxable or liquidated damages not subject to tax may still continue to be a debatable issue as the transactions are required to be analyzed on a case-to-case basis under both GST and service tax regime. Both the circulars also echo the same, advising the field formations that while guidelines provided in the circular and jurisprudence evolved over time may be followed, taxability needs to be determined basis facts of each case.
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