Service Taxation in India - A Global Perspective

[Dr. Sanjiv Agarwal]

Depending on the socio-economic compulsions, each country evolved a taxation system adapting either a comprehensive approach or a selective approach. All services are taxable under the comprehensive approach unless they are specifically excluded, whereas under the selective approach only specified services are taxable — a system which our country has adopted.

Service tax had been imposed as an indirect tax which is demanded from one person on the expectation and intention that such person shall indemnify at the expense of other person who is consuming such service. The tax is levied on services and not on income or profits, thus carrying the tax to the point of consumption.  

Globally, service tax is levied in almost all countries of world is one form or the other - service tax, value added tax, goods and service tax (GST) etc.

Goods & Service Tax (GST)

GST is levied in over 130 countries across the globe. In Europe, it exists for over fifty years and is a preferred form of indirect tax. There are different models in different countries, i.e., single rate for all taxing subjects; a tax rate with zero rate or exemption; taxing only select goods and services etc. But, the overall experience suggests that GST is a better structured and transparent indirect tax. It provides revenues to the Government as well as facilitates economic growth.

Alternative Models of GST

Some of the popular GST models being practised in various countries or those being suggested are -

(a)   Canadian model — Being a Federal State, Canada follows dual GST between Union and States having three components — Federal GST and Provincial Retail Sales Tax (PRST) being administered separately; joint federal and provincial VAT being administered federally and separate federal and provincial VAT being administered provincially only for Quebec. Indian situation resembles to that of Canadian model.

(b)   Australian model — Australia follows a single GST which is a federal tax collected by Centre and distributed to States. Indian situation is similar but States may not like to lose their autonomy.

(c)   Other possibilities

·         Kelkar had suggested unified goods and services tax to merge Central excise, service tax and value added tax in one common base.

·         Bagchi had suggested a combination of Central excise, service tax and VAT to be levied by both — Centre and States separately.

India needs to adopt a GST system which is politically acceptable and administratively feasible.

Internationally, there are three practices followed. GST is levied either on invoice system where GST is claimed on the basis of invoice and claimed when invoice is received irrespective of payment. In payment system, GST is claimed and availed when payments are received or made. Presently, service tax in India is based on payment system only where service tax is required to be deposited only when payment is collected. In yet another system, hybrid approach is followed wherein GST is claimed on the basis of invoice but accounted for on the basis of payment.

International Perspective

Unlike direct taxes where various countries enter into tax treaties, service tax does not have any tax treaty and as such it is an internationally accepted practice that services are generally taxed in the country of consumption   i.e., the recipient of service bears the brunt of service tax (importer of service). In case of export of service, subject to definition of exports, services exported are not taxed in the hands of service provider but are taxed at importer's end. In provision of service, services attain international or global dimension in case of export of services or import of services.

In India, both, export and import of services are governed by Finance Act, 1994 (as amended) and relevant rules, i.e.,

  Export of Services Rules, 2005 (w.e.f. 15.3.2005)

  Taxation of Services (Provided from Outside India and Received in India) Rules, 2006 (w.e.f. 19.4.2006)

Taxation of Export of Services

What is Export of Services

According to Rule 3 of Export of Services Rules, 2005, three categories of taxable services have been specified for qualifying as export of service i.e., taxable services relation to immovable property, taxable services performed out of India and certain taxable services used or provided out of India subject to some conditions.

Following criteria explains the classification for treating export of services:

A.    Taxable services provided in relation to an immovable property which is situated outside India.

B.    Services performed, either fully or partly, outside India.

        It may be noted that it is not stated in the rules as to what percentage of work should be performed in India or outside India. It will cover services or transaction which have been partly performed in India.

C.    Services provided and used in or in relation to commerce or industry and the recipient of such service is located outside India. If otherwise provisions o service should be to a recipient located outside India at the time of provisions of service.

        If such recipient has any commercial of industrial establishment or any office relating thereto, in India, such taxable service shall be treated as export of services only if order for only if order for provision of such service is made by the recipient of such service from any of his commercial or industrial establishment or any office located outside India;

For all services, exports should satisfy the following two conditions -

(a)   service is delivered and used outside India;

(b)   payment for service provided outside India is received by service provider in convertible foreign exchange.

w.e.f. 1.3.2007, the words, 'delivered outside India and used outside India' have been substituted by 'provided from India and used outside India'.

This has wider scope than earlier one as now exports will not be limited to only delivery outside India. Any service provided (not only delivered) from India may be considered as export provided other conditions are also fulfilled. Thus, a service provided from India which even if not actually delivered outside India, may be considered as export if used outside India.

What is now important and relevant for export of service under rule 3(2) is that both the conditions are to be fulfilled i.e.,

—    Service should be provided from India.

        This means that it must be performed (provided from) in India but may be delivered outside India or in India itself.

—    Service should be used outside India.

        The use outside India will, of course, take place, only when service has been performed and delivered, whether in India or abroad.

Also, payment for such services should be received by the service provider in convertible foreign exchange.

Services not subject to Export Rules

Following two taxable services do not form part of the categorization for the purpose of Export of Service Rules. These are -

(i)    Air transport of passengers embarking in India for international journey;

(ii)   Transport of person by a cruise ship embarking in any port in India.

The Circular F. No. B1/4/2006-TRU, dated April 19, 2006 clarifies that the 'two services have not been mentioned in the said categorization of services, as they are services provided in India'.

Export of Services without Payment of Tax

According to Rule 4 of the Export of Services Rules, 2005, any taxable service, as defined in Section 65(105) of the Finance Act, 1994 may be exported without payment of service tax. If a taxable service is being exported, service provider need not charge any service tax on such service meant for export. What is 'export of service', shall be governed by Rule (3) of the Export of Services Rules, 2005.

Rebate Claim for Exports

Exporters can claim the benefit of rebate in case of exports under any one of the following options —

(a)   Under rule 5 of Cenvat Credit Rules, 2004 which deals with refund of accumulated credit arising out of export of goods or services vide Notification No. 05/2006-CE (NT) dated 14.3.2006.

(b)   Under rule 5 of Export of Services Rules, 2005 vide Notification No. 11/2005-ST dated 19.4.2005 which provides for rebate of service tax and education cess paid on export of taxable service.

From convenience point of view, Cenvat credit procedure is simpler as no prior declaration or verification is required whereas in export of service rules, documentation and procedural formalities (including prior declaration) may pose difficulties. While in Cenvat rules, it is refund, in export rules, it is rebate which is granted. Assessees are advised to choose one based on facts and circumstances of cash case.

Option Available to Exporters

An exporter of taxable service has following options to claim benefit —

(i)    To export the taxable services without payment of service tax.

        He may utilize the accumulated Cenvat credit against tax payable on other output services, if any.

(ii)   To export the taxable service without payment of service tax and claim rebate of duty paid on inputs and service tax paid on input services.

(iii)  To export the taxable services on payment of service tax and claim rebate of service tax paid on taxable services exported.

        He may also utilize the Cenvat credit for payment of service tax.

Taxation of Import of Services

(Taxation of services provided from out side India and received in India )

Finance Act, 2006 has inserted Section 66A to levy service tax under reverse charge method on taxable services provided from outside India to a recipient in India. At the same time, explanation at the end of Sub-section (105) of Section (65) which was inserted in 2005 has been omitted which also provided for the similar provision.

Section 66A imposes two conditions which needs to be satisfied for taxation of service tax on such imported services -

·         service must be received by a person in India

·         service provider must be situated outside India

If both the above conditions are fulfilled, then only the question of levy of service tax arises. Import of services not meant for commercial use or business use shall not be taxable. Thus, services of personal nature such as photography, videography, beauty parlour, health club etc. may not get covered under this Section.

Section 66A levies service tax on taxable services provided or to be provided by a person, who has established a business or has a fixed establishment from which the service is provided or to be provided or has his permanent address or usual place of residence, in a country other than India, and received by a person who has his place of business, fixed establishment, permanent address or usual place of residence, in India such service shall, for the purposes of this section, be a taxable service.

Section 66A shall not be applicable to individuals receiving the service otherwise than for use in any business or commerce. All provisions of Chapter V shall apply on such recipient of service. Notes to clauses to Finance Bill, 2006 state that the Section 66A is being inserted with a view to levy service tax on taxable services provided or to be provided from outside India and received in India. The title of the section also indicates receipt of service from outside India.

As per Section 66A, the conditions for taxability of Import of services, are as follows—

(a)   The service falls under any of the services between Section 65(105)(a) to Section 65(105)(zzzw)

(b)   The service provider in a country other than India, has,

(i)    established a business or

(ii)   a fixed establishment from which the service is provided or is to be provided or

(iii)  his permanent address or usual place of residence.

When the above conditions are fulfilled the recipient of taxable service himself, is treated as the provider of taxable service and the services are taxed in the hands of the recipient.

Rule 3 of Import of Service Rules categorizes three segments as follows —

(i)    Services provided in relation to immovable property situated in India

(ii)   Services involving physical performance

(iii)  Services in relation to business or commerce.

It may be noted that —

(a)   Service provider has a business, fixed establishment, permanent address or usual place of residence outside India. Service receiver must have a place of business, fixed establishment, permanent address or usual place of residence in India.

(b)   The provisions do not state that the services should be received or consumed in India.

(c)   Any service other than in the nature of Business or Commerce is exempt. In other words, services received by an Individual otherwise than for the purposes of business or commerce is exempt. This is as per Section 66A(1) proviso.

(d)  The deemed service provider (Service receiver in India as said above) is not entitled to take Cenvat Credit as per Cenvat Credit Rules.

(e)   All the services will be treated as taxable services.

(f)   Service receiver will be treated as a service provider under the reverse charge mechanism.

(g)   The services provided from outside India and received in India are only taxable.

(h)  Taxability of services is categorized on the similar lines of "Export of Service Rules, 2005".

•      Property centric services like architect, interior decorator, real estate agent, construction services, site formation and clearance, dredging, survey and mapmaking etc are taxable if the immovable property is situated in India.

•      Performance based services like CA/CS/ICWA, event management, business exhibition, credit rating, photography, security agency, management, maintenance or repairs etc. are taxable if performed in India, be it fully or partly.

•      The residual, recipient based services such as telephone, management consultant, advertising, sponsorship, business auxiliary services etc. are taxable if they are received by a recipient for use in relation to business in India.

(i)    Services received by an Individual for non-business purposes are not liable to be taxed as per the present rules.

(j)    In case of multiple establishments of the service provider, the permanent establishment from where the service is provided will be considered for the taxability provisions.

(k)   Permanent establishment in India and permanent establishment outside India of a same person will be treated as service by one person to another person for the purpose of taxation.

In Orient Crafts Ltd. v. Union of India & Another 2006 -TMI - 643 - HIGH COURT (DELHI), the court scrutinized the constitutional validity of Taxation of Services (Provided from Outside India and received in India) Rules, 2006 and held that the said rules notified under section 66A of Finance Act, 1994 (as amended by Finance Act, 2006) are constitutionally valid and only services provided from outside India and received in India are taxable.  In the instant writ petition, where the constitutional validity was challenged by a exporter who had availed services of a foreign commission agent for procuring export orders on the ground that any service that was obtained by a person having fixed place of business/fixed establishment/permanent address in India was liable to service tax for services availed by him in a foreign country, the High Court found the argument unconvincing. It held that the rules are absolutely clear that taxable service provided from outside India and received in India is liable to service tax. While the court found nothing unconstitutional, it held that it was open to petitioner to contend that he did not received the services of commission agent in India but this will have to be decided by Assessing Officer or the Appellate Authority.

Thus, the levy of service tax under reverse charge method in case of import or deemed import of services is there to stay. It is an international practice being followed in many countries. The charging of service tax under reverse charge method from recipient of service where the service is rendered by a person situated in a country other than that of service receiver is an accepted international practice. What needed in such cases is that the revenue should carefully examine the facts of each case and apply the rules on merits. Contrast to goods, it may not be that easy for the revenue to decide upon delivery, usage and receipt of such services in India.

Taxation of Services Rules

Government has prescribed Taxation of Services (provided from outside India and received in India) Rules, 2006 for prescribing rules for levy of service tax on taxable services provided from outside India and received in India. Accordingly, these rules define 'India' input, input service and output service and provide for -

(a)   taxable services provided from outside India and received in India

(b)   registration and payment of service tax

(c)    taxable services not to be treated as output services

Categorization of services under rule 3 of Export of Services Rules, 2005 is adopted for the purpose of the Taxation of Services (Provided from outside India and received in India) Rules, 2006.

Ten specified taxable services, which are provided from outside India in relation to an immovable property situated in India fall under rule 3(i).

Specified taxable services, which involve physical performance, fall under
rule 3(ii) and the same are treated as services provided from outside India and received in India if such services are partly or wholly performed in India. For charging service tax in such cases, the total value is to be taken for the purpose of levy of service tax. Corresponding provision to this effect [rule 7(2)] has been incorporated in the Service Tax (Determination of Value) Rules, 2006.

Taxable services, not covered under the two categories specified above, are placed under rule 3(iii). Services under this category are treated as taxable service provided such taxable services are received by a recipient located in India for use in relation to commerce or industry.

Taxable services, namely general insurance, survey and map making and auctioneer provided other than in relation to an immovable property situated in India fall under rule 3(iii).

Services provided in respect of air transport of passengers embarking in India for international journey and in relation to transport of persons by a cruise ship embarking in any port in India have not been mentioned under any of the three categories as services tax in such cases is charged from the service provider in India.

The recipient of service, being a taxable person, is required to take registration and comply with other provisions of the Finance Act, 1994 and the rules made there under. Rule 4 specifically states the obligation of the recipient of services.

The treatment of the recipient of service, as the deemed service provider under section 66A is only for the purpose of charging service tax on taxable services received from outside the country. Services provided from outside India and received in India, therefore, not treated as taxable service provided by the recipient for the purpose of CENVAT Credit Rules, 2004. However, where such service is used as an input for providing any taxable output, the service tax paid on such service can be taken as input credit. 

Registration & Payment of Service Tax (Rule 4)

The service receiver shall have to obtain service tax registration under Section 69 of the Finance Act, 1994 and pay service tax as per provisions applicable to service tax.

Registration & Payment of Service Tax (Rule 4)

The service receiver shall have to obtain service tax registration under Section 69 of the Finance Act, 1994 and pay service tax as per provisions applicable to service tax.

Taxable Services not to be treated as Output Services (Rule 5)

Rule 5 provides that taxable services provided from outside India and received in India (as per Rule 3) shall not be treated as output services for availing of Cenvat credit of duly as are paid on input or input services under Cenvat Credit Rules, 2004.

Final Note

In view of the prevailing Service Tax law in India, levy of Service Tax has become inevitable. One can not dream to live without Service Tax - as service provider or service receiver. Even for an exporter, one needs to pay Service Tax on input services and then claim rebate or refund .

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Discussions to this article

[Bakul N Gandhi]

Following criteria explains the classification for treating export of services: A. Taxable services provided in relation to an immovable property which is situated outside India. B. Services performed, either fully or partly, outside India. It may be noted that it is not stated in the rules as to what percentage of work should be performed in India or outside India. It will cover services or transaction which have been partly performed in India. C. Services provided and used in or in relation to commerce or industry and the recipient of such service is located outside India. If otherwise provisions o service should be to a recipient located outside India at the time of provisions of service. What is now important and relevant for export of service under rule 3(2) is that both the conditions are to be fulfilled i.e., — Service should be provided from India. This means that it must be performed (provided from) in India but may be delivered outside India or in India itself. Some clarity is required to appreciate the above propositions. On one hand, it is stated that Part B- Services may be partly or fully performed in Inida- Now if it is a case where the service is fully performed outside India- then the other condition-the service must be provided from India, can not be complied with.Does this mean that when entire service is provided/performed outside India( implies that service is not provided from India)- it is not an Export of service? The other issue is of jurisdiction. If there are two parties, both registered under Service tax, and if one provides the service to other outside Indian territory,and if it is a view that it is neither export of service nor import of service as both aprties are in India but performance is fully outside India, so Service Tax Law is not apllicable?