Analysis of Service tax applicability on Chit Fund

CA Saurabh Chokhra

Introduction:

Chit has been defined under section 2 (b) of the Chit Fund Act, 1982 as under chit “means a transaction whether called chit, chit, fund, chitty or by any other name by or under which a person enters into an agreement with a specified number of persons that every one of them shall subscribe a certain sum of money by way of periodical installments over a definite period and that each such subscriber shall, in his turn, as determined by lot or by auction or by tender or in such other manner as may be specified in the chit agreement, be entitled to the prize amount.

Chit Fund is a kind of savings & financing scheme prevalent in India. It is generally for those people who do not have credit worthiness to obtain finance from banks & other financial institutions.

How a Chit Fund works:

Let us understand it through an example:

Suppose, ABC Ltd is a chit fund company which has 50 members/subscribers contributing Rs. 1,000 per month for a tenure of 50 months. At the end of every month the monthly fund of the chit i.e. Rs. 50,000/- will be auctioned among the members and will be sold to the member offering the highest discount. For, the first month Mr. Amit (a member) offered the highest discount of Rs. 14,000/- by purchasing the fund of Rs. 50,000/- for Rs. 36,000/- . Thus, Mr. Amit will be paid Rs. 36,000/- .

The amount of Rs. 14,000/- as above representing the discount to be distributed to among all the 50 members as dividend after deducting a fixed amount representing the commission payable to the foremen. A foremen is normally a person who organizes the auction and conducts the proceedings, in our case the chit fund company is a foremen.

Let us assume that the commission @ 5% is payable to foremen then the dividend distributable among members is Rs. Rs. 11,500/-(Rs. 14,000-2500).

Thus, every subscriber will be paid dividend of Rs. 230/-. The auction would be repeated in the subsequent months and the same procedure is followed.

Salient Features of a Chit Fund Scheme:

1. Every chit fund has two participants – Subscribers and Foremen.

2. Every subscriber is liable to contribute a fixed sum every month or at such other periodical intervals as the terms of scheme provides.

3. The fund of chit is auctioned periodically and sold to the person offering the highest discount.

4. Every subscriber has to subscribe the fund once in the tenure of the fund and not more than once.

5. Foremen of the fund can also be member.

6. It is highly liquid and risky scheme.

Legal battle- Delhi Chit Fund Associations vs. Union of India (Delhi HC)

The word “service” has been defined for the first time under 65B(44) inserted by Finance Act,2012.The definition is wide enough to cover everything except certain exceptions specifically provided for which ,inter alia, includes ‘transaction in money’.

Would a chit fund come under ‘transaction in money’ so as to be excluded from the definition of service?

–The Education guide on Service tax clarified that the commission paid to foremen is consideration for the services provided by foremen in relation to chit fund and as such the same is not a transaction only in money. Thus, foremen commission is chargeable to service tax.

Legal Provisions:

Section 65B (44) of the Finance Act, provides for the definition of ‘service’ as under: “service” means any activity carried out by a person for another for consideration, and includes a declared service, but shall not include ,inter alia, an activity which constitute merely a transaction in money or actionable claim.

Further, Explanation 2 to Sec 65B (44) [before amendment in Budget 2015) provides that any activity relating to 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 shall not be transaction in money.

Further, as per entry 8 of Notification No. 26/2012 70% value of gross commission paid to foremen of the chit fund is taxable i.e. abatement of 30% is available provided Cenvat credit on inputs ,input services and capital goods used for providing chit fund services are not taken.
Decision of Hon’ble Delhi High Court:

In a chit business, the subscription is tendered in any one of the forms of ―money. It would, therefore, be a transaction in money. So considered, the transaction would fall within the exclusionary part of the definition of the word ―services being merely a transaction in money. –

In other words, the only service in relation to a transaction in money or actionable claim, which is taxable, according to the Explanation to Sec 65B(44), being the activity relating to the use of money or its conversion from one form, currency or denomination to another form currency or denomination for which a separate consideration is charged.

Thus, the explanation exclude only the money changing services from the definition of transaction in money which implies that all other services rendered in connection with a transaction in money or actionable claim, including the services rendered by the foremen of a chit business, stand excluded from the definition of service . It is accordingly submitted that the commission received by the foremen or any other person conducting the chit business is not subject to service tax.

Decision of Hon’ble Supreme Court:

Revenue challenged the decision of Hon’ble Delhi High Court by filling SLP against HC’s order. The Hon’ble Supreme Court dismissed the SLP filed by the Union of India against the judgment of the Hon’ble Delhi Court on the similar reasoning appreciated by the High Court. Accordingly, the consideration received for providing services in relation to the chit fund business, being merely a transaction in money, falls outside the purview of the term ‘service’ as defined under Section 65B(44) of the Finance Act. Hence, it is not chargeable to service tax.

Amendment proposed by Finance Bill, 2015 :

Explanation 2 is inserted to the definition of service as defined u/s 65B (44) to specifically state that transaction in money shall not include any activity carried out, for a consideration, in relation to, or for facilitation of, a transaction in money or actionable claim, including the activity carried out by foremen of chit fund for organising a chit in any manner

Further, an explanation is being added in entry (i) of section 66D to specifically state that these activities are not covered by the Negative List

Services provided by foremen for a consideration i.e commission is a service provided to facilitate a transaction in money and as per the amendment every service provide to facilitate transaction in money will amount be treated as transaction in money.

Thus, services provided by foremen even being in relation to a transaction in money (chit fund)) is included in the definition of service by excluding the same from definition of transaction in money.

Thus, the foremen commission being consideration for chit fund services chargeable to tax as a result of said amendment by Finance Bill, 2015 thereby overruling the above judgments.

Crux of the Amendment:

Conclusion:

It has become a trend of complicated laws, litigations and thereafter amendments to overrule the judgments of courts.

Form, the above amendment made by Finance Bill, 2015 by way of insertion of explanation to Sec 65B(44) , it is clear that the Govt. intends to collect the service tax on foreman commission . However, it is well settled position of the law that the any explanation bringing the new activity into tax net would not be having a retrospective effect unless the explanation being inserted retrospectively, which is not so in this case. Thus, the tax chargeable on chit fund service will be prospective i.e from the date of enactment of Finance Act, 2015.

(Author can be reached at (e)[email protected] Mobile-+91 8108393226.)