CENVAT CREDIT – ALL SERVICES USED IN RELATION TO BUSINESS OF MANUFACTURE COVERED

[Mr. M. GOVINDARAJAN]

 PROFORMA CREDIT: 

                        Central Excise & Salt Act, 1944 was enacted with a view to impose excise duty on goods manufactured in India.  The manufactured goods on which excise duty has been paid, if used as in the manufacture of final products, then excise duty was against leviable on the manufacture of final products.  Thus duty is levied on duty.  Proforma credit scheme was introduced to avoid the above said cascading effect of duty.   In this scheme excise duty and countervailing duty paid on the inputs were allowed as proforma credit while paying excise duty on the final products, provided both the inputs as well as the final products were liable to duty under the same tariff item.  

‘MODVAT’ SCHEME: 

                        Since the benefit under the proforma credit scheme was limited to a very small area, the Government introduced MODVAT (Modified Value Added Tax) scheme with effect from 01.03.1986.  The basic object of this scheme was to shift the burden of excise duty from the inputs to the final products so that the duty paid on inputs as well as the final products is ultimately passed on to the consumer.   This scheme was initially introduced by inserting Rule 57A to 57 I in the Central Excise Rules, 1944 in respect of goods falling under specified chapter of the Central Excise Tariff Act, 1985.  This scheme was extended to remaining chapters of the Central Excise Tariff later.  Capital goods were also covered under this scheme by the insertion of Rule 57Q to 57U to the Central Excise Rules.   The manufacturers were entitled to take credit of duty paid on inputs used in the manufacture of the final products and utilize the said credit in paying excise duty on the final products. 

SERVICE TAX: 

                        Service tax was introduced in the year 1994-95.   The persons rendering specified services became liable to pay service tax on services rendered.  The Supreme Court in ‘All India Federation of Tax Practitioners V. Union of India’ – 2007 -TMI - 1556 - Supreme Court held that the service tax is a value added tax, which in turn is a general tax, which applies to all commercial activities involving production of goods and provisions of services.  Thus levy of excise duty was on manufacture of goods whereas levy of service tax was on rendering specified services. 

CENVAT CREDIT: 

                        The service tax and the excise duty are ultimately born by the consumer.   The Government, therefore, decided to integrate the tax on goods and services under the Value Added Tax System.  Under this system tax is levied on the value added to any goods manufactured or services rendered each time when there is change of hand.  In implementation of the VAT system, Section 3 of Central Excise Act, 1944 was amended thereby renaming the levy of excise duty as ‘Central Value Added Tax’ (CENVAT) with effect from 12.5.2000.  During the year 2001 the Government introduced the CENVAT Credit Rules, 2001 under which Modvat on inputs/capital goods and service tax were sought to be amalgamated into one integrated scheme.  This rule was replaced by CENVAT Credit Rules, 2002.  Service Tax Credit Rules, 2002 was also framed by the Government under which the credit of service tax paid on services used in the output services was allowed to be taken. The Government later introduced CENVAT Credit Rules, 2004 to integrate the tax system totally on the goods and services superseding the CENVAT Credit Rules, 2002 and Service Tax Credit Rules, 2002. 

AVAILING AND UTILIZING OF CENVAT CREDIT: 

                        Rule 3 of CENVAT Credit Rules, 2004 (‘Rules’ for short) provides that a manufacturer or producer of final products or a provider of output service shall be allowed to take credit of excise duty, additional duty of excise, National Calamity contingent duty, service tax, education cess and Secondary and Higher secondary education paid on input or capital goods received by the factory of manufacture of final product or premises of the provider of  output service and any input service received by manufacture of final product or by the provider of output services  and the same may be utilized for the payment of- 

• any payment of excise on any final product; or
• an amount equal to CENVAT credit taken on inputs if such inputs are removed as such or after being partially processed; or
• an amount equal to the CENVAT credit taken on capital goods if such capital goods are removed as such; or
• an amount under Rule 16(2) of Central Excise Rules, 2002; or
• service tax on any output service 

The availment and utilization of CENVAT credit is subject to conditions as stipulated in the Rules. 

INPUT SERVICE: 

                        Rule 2(l) defines the term ‘input service’ as any service- 

1. used by a provider of taxable service for providing an output service; or
2. used by the manufacturer, whether directly or indirectly, in or in relation to the manufacture of final products and clearance of final products, up to the place of removal, 

and includes services used in relation to setting up, modernization, renovation or repairs of a factory, premises of provider of output service or an office relating to such factory or premises, advertisement or sales promotion, market research, storage up to the place of removal, procurement of inputs, activities relating to business, such as accounting, auditing, financing, recruitment and quality control, coaching and training, computer networking, credit rating, share registry and security, inward transportation of inputs or capital goods and outward transportation up to the place of removal. 

                        Many a case has been led into litigation on interpretation of the definition of ‘input service’.  On such interpretation is on activities relating to business.  In the definition it has been mentioned that activities relating to business such as accounting, auditing, financing, recruitment and quality control, coaching and training, computer networking, credit, rating, share registry and security.  The Department is taking the view that the ‘activities relating to business’ is restricted and the activities placed in the definition would cover for taking CENVAT credit.  But the Tribunals/Courts took the view that the activities mentioned in the definition are not exhaustive and illustrative since the words ‘such as’ have been used in the definition.  In this article on such interpretation made by the Bombay High Court in the case ‘Commissioner of Central Excise, Nagpur V. Ultratech Cement Limited’ – 2010 -TMI - 78203 - BOMBAY HIGH COURT is to be discussed.  The facts of the case run as follows: 

                        M/s Ultratech Cement Limited is engaged in the manufacture of cement which is excisable under Chapter 25 of the Central Excise Tariff Act, 1985.  The Central Excise authorities noticed that during the period 2004-08 the assessee had availed the credit of service tax paid on outdoor catering services and utilized the same in paying excise duty on clearance of cement manufactured by the assessee.  

                        The Assistant Commissioner, Central Excise, Chandrapur was of the opinion that the ‘outdoor catering services’ was not a ‘input service’ and therefore the assessee was not entitled to take credit of service tax paid on that service.   Show cause notices were issued to the assessee.   The assessee contended that under the Factories Act, 1948 it was mandatory for the assessee to provide canteen facilities to the employees working in the plant and administrative offices of the company.  In order to comply with the said statutory requirement the company had engaged the services of M/s Shri Krishna Catering Services.   Since the cost of food including service tax pad there on by the caterer was reimbursed by the assessee, the assessee was entitled to take the credit of service tax and utilize the same in paying the excise duty. 

                        The Assessing Officer rejected the contentions of the assessee and held that the service tax paid by outdoor caterer would not qualify as ‘Input service’ under Rule 2(o). The Assessing Officer, therefore, confirmed the disallowance of the CENVAT credit as well as the education cess and secondary and higher secondary education cess taken by the assessee on outdoor catering services and demanded the same with interest and penalty under Rules 14 and 15 of the Rules read with Section 11AB of Central Excise Act, 1944 and Section 75 of the Finance Act, 1994. 

                        The assessee filed appeal before the Commissioner of Central Excise (Appeals) against the order of the Assessing Officer.  The Commissioner (Appeals) allowed the appeal by following the Larger Bench decision of CESTAT in the case of ‘Commissioner of Central Excise V. GTC Industries Limited’ – 2008 -TMI - 31592 - CESTAT MUMBAI in which it was held that the cost of food borne by the factory would form part of the cost of production and hence credit of duty paid thereon was allowable. 

                        The Revenue filed appeal before CESTAT which upheld the order of the Commissioner of Central Excise (A).   Challenging the said order the Revenue filed the present appeal before the High Court.  The Department submitted the following contentions before the Court: 

• The Tribunal was wrong in placing reliance on the Larger Bench decision of the Tribunal in the case of ‘GTC Industries Limited’ (supra) because, in that case, duty on the final product was payable on the assessable value; whereas in the present  case, duty on the final product is payable on tonnage basis;
• The credit under Rule 2(l) is available only if the taxable service tax is used in or in relation to the manufacture of the final products;
• The outdoor catering service is not a service used in or in relation to the manufacture of cement and therefore, the assessee could not avail credit of service tax paid on outdoor catering services;
• The expression ‘such as’ in the definition of input service is exhaustive and is restricted to the services named therein. 

The assessee submitted the following contentions: 

• The decision of the Tribunal is in consonance with the scheme of Value Added Tax and if the contention of the Revenue is accepted, it would defeat the very object of CENVAT scheme;
• The CENVAT scheme introduced under 2004 Rules envisages integration of tax on goods and services and used in relation to the manufacturing business and therefore, credit of service tax paid on any taxable service that forms part of the assessable value of the final product has to be allowed under the said Rules;
• The expression ‘input service’ cannot be restricted to the services used in or in relation to the manufacture of final products, but is liable to be extended to all services that are used in relation to the business of the manufacturer;
• The assessee, carrying on the business of manufacturing cement, is mandatorily required under the Factories Act, 1948 to supply food to the employees which is relating to the business of the assessee covering under the definition ‘input service’;
• The inclusive part of the definition of ‘input service’ under Rule 2(l) makes it clear that credit of service tax paid on services which are used in relation to the business such as accounting, auditing, .. etc., would be allowable even if the said services are not per se use in or in relation to manufacture of the final product;
• The very object of the Cenvat Scheme is to allow final product and service tax paid on services used in relation to the manufacture of final products as well as the services used in relation to the business of manufacture;
• The expression ‘such as’ used in Rule 2(l) is merely illustrative and not exhaustive.  Therefore, credit of service tax paid on any service used by the assessee in relation to the business of manufacturing cement has to be allowed;
• The business activity is an integrated/continuous activity and is not confined/restricted to mere manufacturing activity;
• Business activity covers all activities that are related to carrying on business.  Therefore the term ‘in relation to business’ in Rule 2(l) cannot be given a restricted meaning so as to cover only those activities which churn out the final product from the raw materials;
• The expression ‘activity relating to business’ in Rule 2(l) clearly denotes that the legislature intended to give wider meaning and not narrower meaning;
• The service tax is a value added tax, which, in turn is a destination based consumption tax i.e., a tax on commercial activities and it is not a charge on the business, but a charge on the consumer. 

The High Court considered the arguments put forth by both parties.  The question to be considered by the Court is whether the service of an outdoor caterer used by the assessee is an ‘input service’ used in the manufacture of cement.  The Court analyzed the definition of Rule 2(l).  The definition consists of three categories of services- 

• The first category covers services which are directly or indirectly used in relation to the manufacture of final products;
• The second category covers the services which are used for clearance of the final products up to the place of removal;
• The Third category includes services, namely:-

• Services used in relation to setting up, modernization, renovation or repairs of a factory;
• Services used in an office relating to such factory;
• Services like advertisement or sales promotion, market research, storage up to the place of removal, procurement of inputs;
• Activities relating to business such as, accounting, auditing, financing, recruitment and quality control, coaching and training, computer networking, credit rating, share registry and security, inward transportation of inputs or capital goods and outward transportation up to the place of removal.

Thus the definition of ‘input service’ not only covers services, which fall in the substantial part, but also services, which are covered under the inclusive part of the definition. 

                        The services covered under the inclusive part of the definition of input service are services which are rendered prior to the commencement of manufacturing activity (such as services for setting up, modernization, renovation or repairs of a factory) as well as services rendered after the manufacture of final products (such as advertisement, sales promotion, market research etc.,) and includes service rendered in relation to business such as auditing, financing etc.,   Thus the substantive part of the definition ‘input service’ covers various services used directly or indirectly in or in relation to the manufacture of final products, whereas the inclusive part of the definition of ‘input service’ covers various services used in relation to the business of manufacturing the final products.  In other words the definition of ‘input service’ is very wide and covers not only services, which are directly or indirectly used in or in relation to the manufacture of final products but also includes various services used in relation to the business of manufacture of final products, be it prior to the manufacture of final products or after the manufacture of final products.To put it differently, the definition of input service is not restricted to services used in or in relation to manufacture of final products, but extends to all services used in relation to the business of manufacturing the final products.                   

                        The High Court further held that the expression ‘activities in relation to business’ in the definition of ‘input service’ postulates activities which are integrally connected with the business of the assessee.   If the activity is not integrally connected with the business of manufacture of final product, the service would not qualify to be a input service under Rule 2(l).

                        The High Court further referred to the decision of Supreme Court in ‘Maruti Suzuki Limited V. Commissioner of Central Excise’ – 2009 -TMI - 34348 - SUPREME COURT.  The Supreme Court, in the said case, considered the expression ‘used in relation to the manufacture of final product’ in the definition of ‘input’ under Rule 2(k).  For this purpose the definition of ‘input’ is reproduced as follows:

                        ‘Input’ means –

• all goods, except light diesel oil, high speed oil and motor spirit, commonly known as petrol, used in or in relation to the manufacture of final products whether directly or indirectly and whether contained in the final product or not and includes lubricating oils, greases, cutting oils, coolants, accessories of the final products cleared along with the final product, goods used as paint or as packing material, or as fuel, or for generation of electricity or stream used in or in relation to manufacture of final products or for any other purpose, within the factory of production;
• all goods, except light diesel oil, high speed diesel oil, motor spirit, commonly known as petrol and motor vehicles, used for providing any output service;

Explanation 1 – The light diesel oil, high speed diesel oil or motor spirit, commonly known as petrol, shall not be treated as an input for any purpose whatsoever;

Explanation  2 – Input include goods used in the manufacture of capital goods which are further used in the factory of the manufacture.

                        The Supreme Court observed that the expression ‘used in or in relation to the manufacture of the final product’ in the specific/substantive part of the definition is so wide that it would cover innumerable items as ‘input’ and to avoid such contingency the Legislature has incorporated the inclusive part after the substantive part qualified by the place of use.   For example on of the categories mentioned in the inclusive part is ‘used as packing material’.   Packing material by itself would not suffice till it is proved that the item is used in the course of manufacture of final product.   Mere fact that the item is a packing material whose value is included in the assessable value of final product will not entitle the manufacturer to take credit.  Oils and lubricants mentioned in the definition are required for smooth running of machines, hence they are included as they are used in relation to manufacture of the final product.   The intention of the legislature is that inputs falling in the inclusive part must have nexus with the manufacture of final products.  The Supreme Court further held that the expression ‘used in or in relation to the manufacture’ have many shades and would cover various situations based on the purpose for which the input is used.   However, the specified input would become eligible for credit only when used in or in relation to the manufacture of final product. 

                        The High Court is of the opinion that the ratio laid down by the Supreme Court in the above case in the context of the definition of ‘input’ in Rule 2(k) would equally apply while interpreting the expression ‘activities relating to business’ in Rule 2(l).  No doubt that the inclusive part of the definition of ‘input’ is restricted to the inputs used in or in relation to the manufacture of final products, whereas the inclusive part of the definition of input service extends to services used prior to/during the course of/after the manufacture of final products.   The fact that the definition of ‘input service’ is wider than the definition of ‘input’ would make no difference in applying the scope of ‘input service’   Accordingly the High Court held that the services having nexus or integral connection with the manufacture of final products as well as the business of manufacture of final product would qualify to be input service under Rule 2(l).

                        The High Court did not accept the contention of the Revenue that not only the ratio but also the decision of the Supreme Court in ‘Maruti Suzuki Ltd’ (Supra) must be applied ipso facto to hold that the credit of serviced tax paid on outdoor catering services is allowable only if the said services are used in relation to the manufacture of final products.  Unlike the definition of input, which is restricted to the inputs used directly or indirectly or in relation to the manufacture of final products, the definition of ‘input service’ not only means services used directly or indirectly in or in relation to manufacture of final products but also includes services used in relation to the business of manufacturing the final products.   Therefore, the High Court held that while interpreting the words used in the definition of ‘input service’ the ratio laid down by the Apex Court in the context of the definition of ‘input’ alone would apply and not the judgment in its entirety.  By applying the ratio laid down by the Supreme Court, it cannot be said that the definition of ‘input service’ is restricted to the services used in relation to the manufacture of final products, because the definition of ‘input service’ is wider than the definition of ‘input’.    Therefore, the definition of input service read as a whole makes it clear that the said definition not only covers services, which are used directly or indirectly in or in relation to the manufacture of final product, but also includes other services, which have direct nexus or which are integrally connected with the business of manufacturing the final product. 

                        The High Court also did not accept the contention of the Revenue that the expression ‘such as’ in the definition of ‘input service’ is exhaustive and is restricted to the services named therein.  The substantive part of the definition of ‘input service’ as well as the inclusive part of the definition of ‘input service’ purport to cover not only services used prior to the manufacture of final products, subsequent to the manufacture of final products, but also services relating to the business such as accounting, auditing… etc.,   Thus the definition of ‘input service’ seeks to cover every conceivable service used in the business of manufacturing the final products.  More over the categories of services enumerated after the expression ‘such as’ in the definition of ‘input service’ do not relate to any particular class of category of services, but refer to variety of services used in the business of manufacturing the final products.  There is nothing in the definition to suggest that the legislature to restrict the definition to any particular class or category of services used in the business, it would be reasonable to construe that the expression ‘such as’ in the inclusive part of the definition of input service is only illustrative and not exhaustive.  Therefore the High Court held that all the services used in relation to the business of manufacturing the final product are covered under the definition of ‘input service’.

                        The High Court observed that in the present case the assessee carrying on the business of manufacturing cement by employing more than 250 workers is mandatorily required under the provisions of Factories Act, 1948 to provide canteen facilities to the workers.  Failure to do so entails penal consequences under the Factories Act.   To comply with the above statutory provision, the assessee had engaged the services of an outdoor caterer.   The use of services, thus, has nexus or integral connection with the business of manufacturing the final product, namely, cement.  The Tribunal was justified in following the Larger Bench decision of the Tribunal in the case of ‘GTC Industries (supra) and the assessee is entitled to the credit of service tax paid on outdoor catering service.

                        But the present scenario has completely changed.   The terms ‘activities relating to business’ have been removed from the definition of the term ‘input service’.   Now it is the burden of the assessee to prove that the activity for which he claimed credit for input services is in relation to provision of output service or manufacturing of final products.