Service tax - Point of Taxation Rules

Service tax – Point of Taxation Rules

 

Service tax applies when specified taxable services are rendered.  Currently, tax is payable to the Revenue only upon collection of the service fee (except in case of associated enterprises). 

 

The Revenue has issued draft "Point of Taxation (for services provided or received in India) Rules" or Draft Rules for public comments by September 1, 2010. 

 

The Revenue has also issued a letter along with the Draft rules, which interestingly states that tax would be payable on occurrence of any one of the following events:

 

·         Provision of service

·         Billing

·         Collection

 

Effectively, service tax would be due on an accrual basis.  The stated objective is to rationalize provisions under service tax and align them with similar provisions under central excise or value added tax regulations.  The letter further suggests that these rules are aligned to international best practices and may also be employed in the GST regime for determining the time of collection of GST on services.   

 

In this update, we have summarized the key aspects of the Draft Rules.

 

Point of taxation of services:

 

With a view to rationalize point of levy for service tax, it is proposed that services shall be treated as provided when it is actually rendered or billed or collected (including advances) whichever is earlier.

 

Thus, the point of levy of service tax would be the first of any of the three events.

 

Special provisions for change in rates or exemption between service provision, billing and collection [other than new services]:

 

Service tax provisions currently do not specifically address how change in tax rates should be dealt with.  This has led to tax disputes.  The Draft Rules propose a framework to precisely determine what should be the rate of tax, or point of time when status of exemption (or the lack of it) can be applied.

 

To determine rate of tax, the following guideline is proposed:

 

Provision of taxable service	Billing for the services	Collection of payment for the services	Taxable event (determining the rate of tax)
Before change in rate/ exemption	After	After	Billing or collection, whichever is earlier
Before	Before	Collection within 30 days	Billing
Before	Before	Collection after 30 days	Collection
After	Before	After	Collection
After	Before	Before	Billing or collection, whichever is earlier

 

In summary, it is suggested that taxable event for change of rate or withdrawal of exemption would be billing or collection, whichever is earlier, except where:

 

·         Services provision and billing are before the change, and collection is after the change and is also beyond 30 days of billing (in such cases taxable event would be collection); or

 

·         Service provision and collection is after the change (in such cases taxable event would be collection)

 

Special provisions for point of supply for services where service tax is introduced for the first time [other than continuous services]:

 

Similar to the discussion above, several matters have been under litigation on what should be the trigger for applying tax on services freshly introduced to tax – whether rendering of the service, or billing, or collection of payment.  Lower courts (tribunals) have consistently held that "rendition" should be the correct basis; however, the matter is still being debated. 

 

To address this, for new services made liable for the first time, the Draft Rules provide that no tax would apply if services are provided prior to effective date of levy.  No tax would also apply for services provided after effective date if billing and collection are prior to such date

 

Also no tax would also apply for services provided after effective date; collection is prior to such date and the invoice is issued within 14 days from the date of collection

 

The draft provisions can be summarized as under:

 

Provision of taxable service	Billing for the services	Collection of payment for the services	Taxable event (determining the rate of tax)
Before introduction of the levy	Before or After	Before or After	No tax
After	Before	Before	No tax
After	After, but within 14 days from the date of receipt of payment	Before	No tax

 

Continuous supply of services:

 

Another aspect related to taxation of services was in relation to services that are provided over a long period of time under a single arrangement (and possibly a single invoice). 

 

It is proposed that for transactions where services are supplied for a period exceeding 6 months (or such contracts as may be notified) would be treated as "continuous supply of services" and special rules would apply to determine taxability and rate.

 

Essentially, the taxable event would be as per the contract – being billing or payment terms agreed.  If such terms are not specified in the contract, taxable event would be billing(s) or collection(s), whichever is earlier.

 

Detailed provisions are summarized in the table below:

 

Date of payment	Billing for the services	Collection of payment for the services	Taxable event (determining the rate of tax)
As per contract	Before or after date as per contract	Before or after date as per contract	Due date of payment as per contract; irrespective of actual billing or collection date   No tax payable on payment received prior to service becoming taxable
Linked to completion of an event (milestone)	At any time	At any time	Time of completion of event
Not provided under the contract and not linked to completion of an event	At any time	At any time	Billing or collection, whichever is earlier   No tax payable on payment received prior to service becoming taxable

 

Special provisions for transactions between associated enterprises:

 

The current provisions of taxing such transactions have been retained.  Therefore, tax on Associated Enterprises transactions would apply with reference to date of collection, or debit or credit in the books or issuance of debit or credit notes, whichever is earlier.

 

Special provision for royalties and similar payments:

 

The provisions specifically relate (only) to cases where consideration is not ascertainable at the time of provision of the services.  In such event, it is provided that point of taxation would be billing or collection whichever is earlier.

 

Summing up:-

 

Overall, the attempt to introduce point of taxation is a welcome move as in the near term it would resolve some of the open points under the current service tax regime, and simultaneously also provide a pre-cursor to the taxation of "supply" of services under the proposed GST (to be implemented in April 2011).

 

There are certain aspects in the draft that could result in more complexity than the current regime. For example:

 

·         Letter accompanying the Draft Rules suggests that the payment of tax is linked to provision of service, raising of the invoice or payment for service provided or to be provided, whichever is the earliest.  However, the Draft Rules do not clearly reflect this point.  If what is suggested in the Letter is the intent, this could be a significant deviation from the current taxing principles

 

·         Draft Rules purport to be single regulation prescribing multiple taxable events (ie provision of service, billing or collection).  To this extent it appears that the Draft Rules traverse beyond the Finance Act, 1994 (wherein the taxable event is the provision of services)

 

·         The two concepts of point of taxation (ie, when the tax becomes payable to the Government) and the taxable event (ie, an event which causes the tax liability to arise) are conflicting and confusing

 

·         No tax is payable on interest free refundable deposit, which suggests that tax is payable on interest bearing refundable deposit.  It is surprising that service tax is sought to be levied on a refundable deposit

 

·         In case a service is provided and invoice is raised prior to rate change but the payment is received 30 days after raising of invoice, the rate of tax is the date of receipt of payment

 

o    In such cases, if the rate is revised upwards, commercially the service provider would have to recover the additional tax from the customer

 

o    Also though the payment of tax would be linked to the invoice the rate of tax and the amount of tax would be dependent on the date of collection (which may not be determinable upfront)

 

·         There is no clarity as to how would bad debts, discounts, cancellation of invoices, etc would be treated

 

·         Consequently it is not clear as to how would the credit availability be governed in the above situations

 

Given that inputs have been sought by September 1, 2010, a further detail study of the potential pain points may be identified and appropriate inputs may be provided to the Revenue.