EMPLOYERS FACE CHALLENGE ON SERVICE TAX FRONT.

[Dr. Sanjiv Agarwal]

Under the new service tax regime, services other than those mentioned in the negative list (section 66D) will be subjected to Service Tax, if not otherwise exempt. According to section 65B (44) which defines salary, services provided by an employee to employer in the course of employment are exempt from Service Tax.  If the service it self is not taxable, any consideration arising out of it, directly or indirectly, or in cash or kind should not be taxable.

According to departmental understanding, if services are provided against a portion of the salary foregone by the staff, then it will be considered as having been made for a consideration and thus liable to tax. However, facilities that are available to employees without any charges or reduction from salary by the employer will be outside the tax net. Companies will be able to claim credit for such service tax paid. Independent directors would also be liable to service tax on the remuneration paid by companies to non - whole time directors / independent directors.

It seems that the government is now seeking to stretch the definition of ‘service’ too far to cover almost every thing which comes in its imagination. For example, remuneration to directors on company boards has been made taxable whereas India is still struggling for efficient, effective and impacting persons on company boards so as to enhance corporate governance. The sitting fee and other remuneration payable to them will attract Service Tax. This does not at all seem to be justified. Most of these directors are people of high eminence, retired bureaucrats or professors or professionals or even celebrities. Surprisingly, in case of nominee directors, Service Tax will not be charged from directors but from their institutions.  There will be no tax on government directors (as if they do not provide any service or that it is a sovereign function). Non-executive directors get compensated in the form of a nominal or at best reasonable sitting fee for the meetings attended, commission or ESOPs etc. Government may not get even Rs. 5 crore as tax revenue from this as a high percentage of such directors may not be having total income over Rs. 10 lakh.  But this is bound to create unpleasantness between company officials and directors. The company secretary will ultimately face the music. Going by what the valuation rules are, government will expect such directors to charge Service Tax on gross amount including reimbursements towards hotel, traveling, conveyance etc. This is going to be a grey area. It won’t be a surprise if the revenue officials also eye at cost of water bottle, lunch and snacks consumed during the meetings. Infact, SEBI and MCA should oppose it and seek exemption.

Salary package of employees offered by corporates are flexible and often ‘Cost to Company’ (CTC) approach is followed. Now going by Government’s intention, if any service / facility is provided by employer to employee at a confessional rate / charge, it will be a service provided by employer to employee and Service Tax charged despite it being a part of package. This appears to be absurd. In fact the entire consideration ought to be out of the ambit of Service Tax.

Another likely silly interpretation is charging Service Tax on salary paid to partners in the absence of employer – employee relationship, though it is legal to pay salary to partners, both under Income Tax and partnership laws. Moreover, payment of salary to partners is very common in India and abroad and this needs to be clarified – sooner the better.

Generally, employees are provided certain facilities or perquisites for a concessional or subsidized amount but such activities will be taxed in the hands of service provider (employer) as if he is providing services to employees, although it is a part of salary package. Even apex court has ruled that perquisite is nothing but a salary.

Examples could include subsidized working lunch, use of motor vehicle etc. However, any activity available to all the employees free of charge without any reduction from the emoluments shall not be considered as an activity for consideration and will thus remain outside the purview of the service tax liability (facilities like crèche, gymnasium or a health club which all employees may use without any charge or reduction from the salary will be outside the tax net (but if employer charges some amount, it will be taxed). Reimbursements to employees in course of employment would not be taxed but logically going by rules it should be taxed as employee not being a service provider is not a pure agent.

In case of group companies, it is a common practice that staff belonging to one company is deputed to other group company (say a subsidiary company) and cost of employee is defrayed. Even such cases will be covered as manpower supply as the contractual employment continues to be with holding company and Service Tax levied. However, joint employments will not be taxed. Companies will now rejig their arrangements to meet the understanding of officials responsible for drafting such interpretations.

The supplies made by the employer to the ex-employees or pensioners will be of same status as those to an employee and thus would accordingly attract taxability. This does not have any strong legal basis. The reimbursements to pensioners will also be treated at par with those of current employees when such reimbursements arise out of the initial employment contract or are in relation to that employment. For this purpose, government equates employees and ex-employees.

Thus, effective 1^st July, 2012, employers will have to be careful while employing people and draft the appointment letters keeping both, Income Tax and Service Tax in mind.

 

 

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Discussions to this article

[S Sivakumar, Director S3 Solutions Pvt Ltd, Bangalore]

I fully agree with Dr Sanjiv Agarwal. The draft circular dated July 27, 2012, is extremely mischievous and could spell a lot of trouble for the corporate sector vis-v-vis payments made to employees, in terms of the CTC.

As rightly pointed out by Dr Agarwal, partnership firms are in a for a lot of trouble, as partners cannot be treated as employees of the firms and consequently, amounts paid to partners by the firms, whether registered or not, would come under the service tax net.

I greatly enjoy reading Dr Agarwal's articles.

Best wishes and kind rgds

S Sivakumar

Bangale

[JAMES PG]

Another grey area is the tax liability on Notice pay of resigned employees. It is quite natural that an employee may shift his job to another employer during the course of employment for better prospects and convenience. As per the contractual obligations, most of the Companies prescribe notice period  of three months for releiving. If employee opts to get relieved at shorter duration, as per the contract, salary for remaining period of three months has to be paid back.

As per MOF presentation on Service Tax it is said that recovery of pay for breach of contract by employer from employee is taxable