CENVAT Credit in India – Creditless

While every budget introduces additional tax burdens, it should bring certain encouraging incentives. About two decades ago, one such event was the introduction of proforma credit scheme to tackle with the problem of double taxation. The fundamental idea behind the evolution of credit scheme has always been to curtail the cascading effect of indirect taxes. The paradigm shift from proforma Credit scheme to Modvat Scheme to the present day CENVAT Scheme stands testimony to the concept of ‘Tax on value addition’ that is based on principles of equity.

No law is perfect and no regime is ever complete which result in multitude of disputes and litigations. In order to make CENVAT Credit scheme better and effective, following are certain suggestions which the Revenue authorities should introspect.

CENVAT Credit blockage by the Revenue authorities

On support structure

1. An important issue causing substantial litigation is availability of CENVAT Credit on inputs/ input services/ capital goods used in the civil structures of factory/ the fabrication of structural items in the factory of manufacture such as the building, the plant skeleton/ supporting structures for heavy machineries, etc.

2. The history of this dispute dates back to decision of Tribunal in the case of Bhushan Steels and Strips Limited [2008(223) ELT 517] along with certain judicial precedents dictated by High Courts that allowed credit on such items. Such decisions provoked the legislature to amend the definition of inputs and with effect from 07 July 2009, CENVAT credit on such items was barred.

3. Consequently, the larger bench of the Tribunal in the case of Vandana Global Ltd. v/s CCE, Raipur [2010 (253) ELT 440] pronounced judgment-disallowing credit on support structure of capital goods. Basis this pronouncement, the Revenue authority started issuing demands even if the inputs are used for manufacture/ fabrication of capital goods instead of support structure of capital goods.

4. The above stand of the Revenue seems illogical and inequitable. As per the said principle, the Revenue authorities believe that a machinery is required for business, however, a factory building or support structure for such producing the goods is not required. Further, it is important to note while a machinery is considered indispensable for manufacture, the supporting metal and concrete structures without which the machinery can neither be installed nor operated, is considered to have no nexus with manufacture.

5. It is pertinent to note that the Revenue authorities consider structures for capital goods as ‘movables’ and thus are subject to excise duty. However, on the other hand CENVAT credit of such structure is not allowed to the manufacturer.

On rent-a-cab

6. Every manufacturer/ service provider wishes to understand the reason for keeping CENVAT Credit of such services outside the ambit of credit chain.

7. In case, a manufacturer rents a place in order to open a marketing office, the manufacturer has an option to avail CENVAT Credit of service tax paid on the rent for the office. This process is possible by registering the marketing office as an Input Service Distributor and transferring CENVAT Credit to the factory. The manufacturer would thus be eligible to adjust the transferred CENVAT Credit against its output excise liability. However, if the sales representative directly visits client’s office through a cab to market/ promote the product/ procure an order/ sell the product, CENVAT Credit on such service received by the Company is considered inadmissible by Revenue authorities.

8. In case a service provider rents a place to open an office from where taxable services would be rendered, CENVAT Credit of service tax paid on the rent shall be available. However, in case the service provider visits his client’s office using a cab to perform such taxable services, he shall not be eligible to avail the CENVAT Credit of service tax charged by the cab.

Employee Benefit

9. Another important aspect to analyze is the clause added in the exclusion portion of definition of ‘input service’. The said clause debars availment of CENVAT Credit on services which are provided for employee benefit. The relevant portion of the definition is ‘when such services are used primarily for personal use or consumption of any employee’.

10. It is often observed that basis the above exclusion, the Revenue authorities have tendency to disallow CENVAT credit on mandatory business expenses. In case of a service provider/ manufacturer who is liable to mandatorily deposit ESIC and PF basis salary of its employees. The mandate is regulated by statutory provisions and attract penal consequences in case of default. In order to comply with the requirement of statute, a consultant is hired who computes the amount of ESIC and PF and assist with its compliances. In many cases, it is observed that the Revenue authorities are denying the benefit of CENVAT Credit on such consulting services. The reason for denying benefit is after considering such services are for ‘employee benefit’.

11. As the above mentioned clause is descriptive and not exhaustive, the Revenue authorities have often tried to construct their own theory on employee benefit and thus resulting in litigation. One such example is in the case of consulting service. A Company engaged in providing high end advisory services procured an insurance for its senior management to safeguard against any future law-suits (i.e. for any incorrect advisory rendered). The insurance policy did not cover life or medical of such senior management. The only aspect covered was in the event of any law suit, the insurance would indemnify on behalf of the Company. It is pertinent to note that in case such insurance policy was not procured, the Company would have to pay to the claimant and not the senior management. Thus the existence of policy was in of no help to the senior management. However, the Revenue department rejected the benefit of CENVAT Credit on insurance premium after considering it on account of ‘employee benefit’.

12. Thus, it has been noted on various occasions that the Revenue authority often rejects CENVAT Credit without application of mind and without diving deep in the business model. For some industry an expense may be incidental whereas for certain industry, the same expense may be imperative.

13. It is in the interest of the industry, the ultimate consumer, the exchequer and ultimately the economy to ensure that such credit is not denied. The following reasons support entitlement to credit on such items.

  • The entire purpose of the credit regime is to ensure that the limitation of ‘tax on tax’ is removed and transparency be established.
  • Aforesaid restrictions add fuel to unnecessary litigation and increase cost in the functioning of the business.
  • Credit is driven by the idea that the burden of indirect tax is not meant for the businessmen but the ultimate consumer. The denial of such credit is thereby defeating this very object.
  • The denial of such credit would eventually burden the economy as a whole as it would tantamount to inflation.
  • It is imperative for GST that there is 100% credit transparency.

14. Basis the above, following is recommended:

  • CENVAT Credit should be allowed on capital structures including factory construction and rent-a-cab
  • CENVAT credit should not be denied on account of employee benefit. In case, an expense is considered as legitimate business expense, then the benefit corresponding CENVAT credit should not be denied
  • Strict action should be taken against officers denying the benefit of CENVAT Credit which is already settled by Higher Courts.

Accumulation of CENVAT Credit

15. The state indirect tax legislations have inherent mechanism to provide cash refund of excess credit of tax suffered at input stage. In such cases, the assesse has an option to either carry forward the excess credit to the next financial year or apply for a cash refund of the excess input VAT credit.

16. However, as per CENVAT Credit Rules there exist no such mechanism to refund the accumulated CENVAT Credit except for Rule 5 which provides refund due to export of services.

17. However, there are certain scenarios/ transactions wherein CENVAT credit gets accumulated for reasons other than exports. In addition, where duty structure is inverted, there is a natural tendency of credit accumulation. A fine example of such a situation is in the case of suppliers to Mega Power Projects. In such cases, supply of goods to Mega Power Projects qualify under exemption of excise duty. Thus the supplier is not required to charge excise duty on its output. However, the supplier would have accumulated CENVAT credit on inputs procured. As supplies by the supplier do not qualify as exports, thus it would not be able to apply for a refund. In such cases, the CENVAT Credit would remain unutilized and consequently form part of the cost.

18. It may be argued by the Government that other options of deemed export drawback and advance license is always available to supplier. The said options are not commercially suitable to industry at large and only suits a selected few.

19. Lastly, an asset in books of accounts of service provider/ manufacturer is of no use if the same cannot be liquidated timely. Once the Central Government has allowed availment of CENVAT credit on, there is no logic in denying timely and appropriate liquidation of the same.

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Bhishm Ahluwalia and Ujjwal PawraAuthored by Bhishm Ahluwalia, Partner, Mimansa Law Offices and Ujjwal Pawra, Senior Manager,International Business Advisors. Bhishma can be reached at bhishm.ahluwalia@gmail.com and Ujjwal can be reached at ujjwal.pawra@ibadvisors.co

International Business Advisors (www.ibadvisors.co) is a boutique audit, tax and consulting firm run by ex-BIG4 professionals and working extensively with multinational companies operating in varied sectors including e-commerce, mobile, manufacturing, real-estate and hospitality. IBA operate out of its offices in Delhi, Mumbai and Bangalore.

Mimansa Law Offices is the legal arm of International Business Advisors that manages all tax litigations at CESTAT, High Court and Supreme Court. IBA along with Mimansa have litigated on various matters at different courts.

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