Definition of “Service” As Proposed In Finance Act 2012
AS ANALYSED IN GUIDANCE NOTE ISSUED BY THE DEPARTMENT
Following are the excerpts from the Guidance Note on Service Tax on Negative List issued by the Service Tax Department. This guidance note signifies the intent of the legislature and this should be kept in mind while framing any opinion, or planning for any tax related matters.
DEFINITION OF SERVICE
In the Finance Act 2012, for the first time term “service” has been defined in the act :
“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.
Explanation 1.— For the removal of doubts, it is hereby declared that nothing contained in this clause shall apply to,––
(A) the functions performed by the Members of Parliament, Members of State Legislative, Members of Panchayats, Members of Municipalities and Members of other local authorities who receive any consideration in performing the functions of that office as such member; or
(B) the duties performed by any person who holds any post in pursuance of the provisions of the Constitution in that capacity; or
(C) the duties performed by any person as a Chairperson or a Member or a Director in a body established by the Central Government or State Governments or local authority and who is not deemed as an employee before the commencement of this section.
ANALYSIS OF THE DEFINITION
• Any activity
• For consideration
• Carried out by a person for another
• And includes a declared service
“Service” does not include
• Any activity which merely constitutes a transfer in title of
o Goods or
o Immovable property by way of sale, gift or in any other manner.
• A transaction merely in
o Money or
o Actionable Claim
• Any service provided by an employee to an employer in the course of employment
• Fees payable to a court or a tribunal set up under a law for the time being in force.
What is an Activity
Activity means an act done, a work done, a deed done, an operation carried out, execution of an act, provision of a facility etc.
Activity could be active or passive. It would also include forbearance to an act. Agreeing to the obligation to refrain from an act or to tolerate an act or a situation.
What is a consideration
Definition given in Indian Contract Act, 1872 can be adopted here
Consideration means everything received in return for a provision of service which includes monetary payment and any consideration of non-monetary nature as well as deferred consideration.
• Consideration can be received in money
• Consideration can be received NON-MONETARY, some of the examples are
o Supply of goods and services in return for provision of service
o Refraining or forbearing to do an act in return for provision of service
o Tolerating an act or a situation in return for provision of service
o Doing or agreeing to do an act in return for provision of service.
Thus the law intends to tax all type of services whether received in monetary consideration or not. In the illustrations it gives the most general transactions carried out by builders and land owners in a developer agreement.
• Person “A” agrees to construct 3 flats on land owned by “B”
• “B” agrees to provide one flat to “A” without any monetary consideration.
Now these type of transactions will grossly fall under service tax net. However the department has been raising questions over these type of transactions in the departmental audits, but never the intent of legislature is made clear about this. Now one should be extremely careful in drafting contracts or arrangements like these or to account for any liability of service tax arising out of these type of transactions.
How the non-monetary consideration will be valued?
The value of non-monetary consideration will be determined as per section 67 of the act and the Service Tax (Determination of Value) rules, 2006. Which is in summary as follows.
• On the basis of gross amount charged for similar service provided to other person in the ordinary course or trade;
• Where value cannot be so determined, the equivalent money value of such consideration, not less than the cost of provision of service
What is the significance of the phrase “carried out by one person to another”?
This phrase signifies that the services provided by one person to self are outside the purview of the service tax. But there are certain exceptions.
• Services provided by a person located in a taxable territory to the another establishment of the same person located in a non taxable territory.
• An unincorporated association or body of persons and members thereof are also treated as distinct person.
What are Declared Services?
Section 66E covers “Declared Services” and this small term can only be discussed by a separate article which we will discuss later on.
What are the exclusions from the definition of Service?
Transactions merely/only constituting transfer in title of goods or immovable property by way of sale, gift or in any other manner
• Mere transfer in title of goods or immovable property by way of sale, gift or in any other manner is not constitute a service.
o Goods are defined under section 65B as “every kind of movable property other than actionable claim and money; and includes securities, growing crops, grass and things attached to or forming part of the land which are agreed to be severed before sale or under contract of sale.
o Immovable property in General Clauses Act, 1897 is to include land, benefits to arise out of land, and things attached to the earth, or permanently fastened to anything attached to the earth.
What is the significance of phrase “Transfer of Title”?
Transfer of title means change in ownership. Mere transfer of custody or possession over goods or immovable property where ownership is not transferred does not amount to transfer of title.
What is the significance of word “Merely”?
This is probably the most important word in the definition of service. As the guidance note states
“The word “merely” signifies the transactions which involves only transfer of title in goods or immovable property is not included in service. A transaction which in addition to a transfer of title in goods or immovable property involves an element of another activity carried out or to be carried out by the person transferring the title would not be excluded from the definition of service.”
What is the significance of above paragraph?
Now by looking at the explanation given in the guidance note regarding exclusion or non exclusion of composite transactions for the purview of Service Tax, we can summarize following points.
• Are all composite transactions will be treated as “Service” under the new law?
• Is the person is not liable to get the deduction on account of value of goods provided during the provision of such service as stated in notification no. 12/2003?
In answer to above queries, the department is giving following justifications.
• The manner of treatment of such composite transaction for the purpose of taxation whether they are to be treated as ‘Sale of Goods’ or ‘Provision of Service’, has been laid down in the case of BSNL Vs Union of India (2006) by Supreme Court of India. Following is the relevant text of the judgment regarding this matter.
o 42. Of all the different kinds of composite transactions the drafters of the 46th Amendment chose three specific situations, a works contract, a hire purchase contract and a catering contract to bring within the fiction of a deemed sale. Of these three, the first and third involve a kind of service and sale at the same time. Apart from these two cases where splitting of the service and supply has been Constitutionally permitted in clauses (b) and (g) of Clause 29A of Art. 366, there is no other service which has been permitted to be so split.
o For example the clauses of Art. 366(29A) do not cover hospital services. Therefore, if during the treatment of a patient in a hospital, he or she is given a pill, can the sales tax authorities tax the transaction as a sale? Doctors, lawyers and other professionals render service in the course of which can it be said that there is a sale of goods when a doctor writes out and hands over a prescription or a lawyer drafts a document and delivers it to his/her client? Strictly speaking with the payment of fees, consideration does pass from the patient or client to the doctor or lawyer for the documents in both cases.
“Dominant Nature Test” : The new tool of Service Tax Authorities
In para 43 of the BSNL’s case, the Supreme Court of India has used this term “Dominant Nature Test” which is explained as below in the judgment.
• 43. The reason why these services do not involve a sale for the purposes of Entry 54 of List II is, as we see it, for reasons ultimately attributable to the principles enunciated in Gannon Dunkerley’s case, namely, if there is an instrument of contract which may be composite in form in any case other than the exceptions in Article 366(29-A), unless the transaction in truth represents two distinct and separate contracts and is discernible as such, then the State would not have the power to separate the agreement to sell from the agreement to render service, and impose tax on the sale. The test therefore for composite contracts other than those mentioned in Article 366(29A) continues to be – did the parties have in mind or intend separate rights arising out of the sale of goods. If there was no such intention there is no sale even if the contract could be disintegrated. The test for deciding whether a contract falls into one category or the other is to as what is the substance of the contract. We will, for the want of a better phrase, call this the dominant nature test.”
Following principles emerge from the said judgment for ascertaining the taxability of composite transactions.
• Except in cases of works contracts or catering contracts [exact words in article 366(29A) being – ‘service wherein goods, being food or any other article of human consumption or any drink (whether or not intoxicating) is supplied in any manner as part of the service’] composite transactions cannot be split into contracts of sale and contracts of service.
• The test whether a transaction is a ‘composite transaction’ is that did the parties intend or have in mind that separate rights arise out of the constituent contract of sale and contract of service. If no then such transaction is a composite transaction even if the contracts could be disintegrated.
• The nature of a composite transaction, except in case of two exceptions carved out by the Constitution, would be determined by the element which determines the ‘dominant nature’ of the transaction.
o If the dominant nature of such a transaction is sale of goods or immovable property then such transaction would be treated as such.
o If the dominant nature of such a transaction is provision of a service then such transaction would be treated as a service and taxed as such even if the transaction involves an element of sale of goods.
• In case of works contracts and ‘service wherein goods, being food or any other article of human consumption or any drink (whether or not intoxicating) is supplied in any manner as part of the service’ the ‘dominant nature test’ does not apply and service portion is taxable as a ‘service’ This has also been declared as a service under section 66E of the Act.
• If the transaction represents two distinct and separate contracts and is discernible as such then contract of service in such transaction would be segregated and chargeable to service tax if other elements of taxability are present. This would apply even if a single invoice is issued.
Why is notification 12/2003-ST proposed for deletion?
Notification 12/2003 – ST exempted so much of the value of all taxable services as was equal to the value of goods and materials sold by the service provider to the service recipient subject to condition that there is documentary proof of such value of goods and materials. Under the negative list scheme, transactions that involve transfer of title in goods are excluded. Therefore if goods are being sold by a service provider under a distinct and a separate contract then sale of such goods is excluded from the definition of service. If it is a ‘composite contract’ and dominant nature of the contract is that of provision of service then value of goods cannot be excluded and if the dominant nature is sale of goods then the contract is not taxable as service. In view of the above notification 12/2003-ST has been proposed to be deleted.
• This whole change in the law is a major shift from the already set conventions and rules that service tax is not levied on the value of goods or materials sold during the course of provision of service
• Now on, the department have this new tool of “Dominant Nature Test”, by which they will try to interpret the terms and conditions of the contracts between the parties and test the nature of the composite transactions. If they find that the dominant nature is of Service, they will impose tax on the whole value of transaction without giving effect to the value of materials.
• This whole new concept will require in depth analysis of new contracts where there are elements of both goods and services involved in it. One will have to be very careful in drafting contracts of such nature so as to avoid the complications of Service Tax.
CA Amit Mundhra
Author is a member of ICAI and he can be reached at firstname.lastname@example.org