1. 1 What is the implication of this Rule?
The main rule or the default rule provides that a service shall be deemed to be provided where the receiver is located. The main rule is applied when none of the other later rules apply (by virtue of rule 14 governing the order of application of rules- see para 3.12 of this guidance paper). In other words, if a service is not covered by an exception under one of the later rules, and is consequently covered under this default rule, then the receiver’s location will determine whether the service is leviable to tax in the taxable territory.
The principal effect of the Main Rule is that:-
A. Where the location of receiver of a service is in the taxable territory, such service will be deemed to be provided in the taxable territory and service tax will be payable.
B. However if the receiver is located outside the taxable territory, no service tax will be payable on the said service.
1.2 If the place of provision of a taxable service is the location of service receiver, who is the person liable to pay tax on the transaction?
Service tax is required to be paid by the provider of a service, except where he is located outside the taxable territory and the place of provision of service is in the taxable territory.
Where the provider of a service is located outside the taxable territory, the person liable to pay service tax is the receiver of the service in the taxable territory, unless of course, the service is otherwise exempted.
Following illustration will make this clear:-
A company ABC provides a service to a receiver PQR, both located in the taxable territory. Since the location of the receiver is in the taxable territory, the service is taxable. Service tax liability will be discharged by ABC, being the service provider and being located in taxable territory.
However, if ABC were to supply the same service to a recipient DEF located in non-taxable territory, the provision of such service is not taxable, since the receiver is located outside the taxable territory.
If the same service were to be provided to PQR (located in taxable territory) by an overseas provider XYZ (located in non-taxable territory), the service would be taxable, since the recipient is located in the taxable territory. However, since the service provider is located in a non-taxable territory, the tax liability would be discharged by the receiver, under the reverse charge principle (also referred to as “tax shift”).
1.3 Who is the service receiver?
Normally, the person who receives a service and, therefore, becomes obliged to make payment, is the receiver of a service, whether or not he actually makes the payment or someone else makes the payment on his behalf.
A lady leaves her car at a service station for the purpose of servicing. She asks her chauffer to collect the car from the service station later in the day, after the servicing is over. The chauffer makes the payment on behalf of the lady owner and collects the car. Here the lady is the ‘person obliged to make the payment’ towards servicing charges, and therefore, she is the receiver of the service.
1.4 What would be the situation where the payment for a service is made by the headquarters of a business but the actual rendering of the service is elsewhere?
Occasionally, a service receiver may be the person liable to make payment for the service provided on his behalf to another person. For instance, the provision of a service may be made at the headquarters of an entity by way of centralized sourcing of services whereas the actual provision is made at various locations. Here, the central office acts only as a facilitator to negotiate the contract on behalf of various geographical establishments. Each of the geographical establishments receives the service and is obligated to make the payment either through headquarters or sometimes directly. When the payment is made directly, there is no confusion. In other situations, where the payment is settled either by cash or through debit and credit note, it is clear that the payment is being made by such geographical location. It should be noted that in terms of proviso to section 66B, the establishments in a taxable and non-taxable territory are to be treated as distinct persons.
The following example illustrates the above, by comparing the place of provision of services rendered under a Global Agreement1 vis-à-vis a Global Framework Agreement2.
AAA is a firm with its manufacturing unit and business establishment located in the taxable territory A. It has got two other manufacturing plants located in countries X and Y (say, AAA-X and AAA-Y respectively). AAA wishes to obtain IT services for a new production process for its three manufacturing plants in the region.
BBB is an IT firm located in the taxable territory (location of business establishment). BBB Ltd also has fixed establishments (subsidiaries) located in country X (say BBB-X) and in country Y (say, BBB- Y).
AAA engages BBB for meeting its IT service requirement.
Scenario 1 [See Flow Diagram F 2 below]
AAA enters into a Global (centralized purchasing) agreement with BBB for provision of IT services for the whole group. Following are the different transactions under which services are provided:-
a) Under the global agreement, some component of IT service is provided by BBB to AAA in country A (say, Transaction 1).
b) To meet the requirements of providing IT solutions specific to the plants AAA-X and AAA-Y in countries X and Y, BBB enters into agreements with its subsidiaries BBB-X (in country X) and BBB-Y (in country Y), under which they provide IT services to BBB (say, Transaction 2 and Transaction 3). Though these services are provided by BBB-X and BBB-Y to BBB, these are rendered as under:-
• By BBB-X to AAA-X (in country X)- under transaction 2, and
• By BBB-Y to AAA-Y (in country-Y) – under transaction 3.
c) AAA enters into separate agreements with AAA-X and AAA-Y, under which AAA Ltd provides IT services to them (transaction 4 and transaction 5).
The transactions and provision of service under each are illustrated in the Flow diagram titled ‘Scenario1’ in the following page.
Scenario 2 [See Flow Diagram F 3 below]
AAA enters into a Framework Agreement with BBB for provision of IT services for the whole group. The Framework agreement covers the broad contours of supply between the two parties, payment milestones, obligations relating to confidentiality, penalty for default, limitations of liability and warranties etc, which would apply as and when group companies enter into separate agreements, in accordance with the terms envisaged in the framework agreement. BBB-X and BBB-Y could then enter into separate and independent business agreements with AAA-X and AAA-Y, in countries X and Y respectively, for provision of IT services. There are four agreements, but only three transactions involving provision of services, as indicated in the Flow diagram- Scenario 2 below.
PROVISION OF SERVICES UNDER A ‘GLOBAL AGREEMENT’- Scenario 1
FLOW DIAGRAM F 2
Place of provision for service 1 is taxable territory
Place of provision for service 2 is taxable territory
Place of provision for service 3 is taxable territory
Place of provision for service 4 is country X
Place of provision for service 5 is country Y.
PROVISION OF SERVICES UNDER ‘FRAMEWORK AGREEMENT’- Scenario 2
FLOW DIAGRAM F 3
Agreement 1 is not transactional, has no consideration, and does not create a provision of service. Agreement 1 stipulates the terms and conditions which are activated only when the parties (i.e. group subsidiaries on either side enter into separate and independent business agreements, in accordance with the terms specified in the framework agreement.
Under Agreement 2, service 1 is provided by BBB Ltd to AAA Ltd, and the place of provision of this service, under the main rule, is the location of the receiver i.e within the taxable territory. Under Agreement 3, service 2 is provided by BBB-X to AAA-X, and the place of provision of this service, under the main rule, is country X i.e outside the taxable territory. Under Agreement 4, service 3 is provided by BBB-Y to AAA-Y, and the place of provision of this service, again under the main rule, is country Y i.e outside the taxable territory.
1.5 What is the place of provision where the location of receiver is not ascertainable in the ordinary course of business?
Generally, in case of a service provided to a person who is in business, the provider of the service will be in a position to ascertain the location of the recipient’s registered location, or his business establishment, or his fixed establishment etc, as the case may be. However, in case of certain services (which are not covered by the exceptions to the main rule), the service provider may not be in a position to ascertain the location of the service receiver, in the ordinary course of his business. This will also be the case where a service is provided to an individual customer who comes to the premises of the service provider for availing the service and the provider has to, more often than not, rely on the declared location of the customer. For instance, an individual may go to the office of a Custom House Agent to obtain his services for clearance of imported personal effects, and furnish an address to which the goods are to be delivered. Normally in such cases, the provider will not be expected to make any detailed enquiry from a customer regarding his ‘location’, in the ordinary course of business. In such cases, it will be deemed that the place of provision of the service is the location of the service provider (in the taxable territory).
1 A ‘Global Contract or Agreement’ is between two parent companies for provision of services from one to the other, where actual provision of services is to be made to subordinate offices of the recipient company in different tax jurisdictions.
2 A ‘Global Framework Agreement’ is between two parent companies for provision of services, but here, the ‘framework agreement’ only specifies the broad terms of the agreement i.e fees, terms and conditions, the list of recipient branches/offices or even the details of provision of services to be made. The subsidiaries in different locations then enter into separate and independent business agreements, for provision of services and payments.