1. Introduction
Service tax levy was introduced by Finance Act 1994 as an indirect tax on services rendered. The initial list of services which were covered within the ambit of the levy was limited to just 3 services. Over time, the contribution of service sector to the economy started to increase and more and more services were added to the service tax net. We have moved on from a definition based service tax levy to a negative list wherein except for the services captured in the negative list, all other services are liable to service tax. Today, it can be said that every person in this country is impacted by service tax. It could be levied in the following two methods:
It could be levied from the service recipient under a reverse charge mechanism who pays it to the Government (“reverse charge mechanism”).
Service tax is generally levied on the service provider who collects the same from the service recipient and pays to the Government (“normal mechanism”); and
The controversyTDS provisions are given in Chapter XVII-B of the Income-tax Act (“Act”). A look at various sections shows that the language used in each of the sections is different. Certain sections use the phrase “…any income by way of…” (like sections 194A[i], 194H[ii], 194-I[iii], etc.) whereas the other sections are worded as “…paying any sum …” (like sections 194C[iv] and 194J[v]). The difference in the wordings of various TDS sections gives rise to a doubt in the minds of the taxpayers as to whether tax needs to be deducted on the amount inclusive of service tax or amount excluding the service tax component. Consider the following example:A Ltd avails services from B Ltd for which B Ltd raises an invoice on A Ltd for Rs 10,000 plus a service tax of Rs 1,236. A Ltd is liable to make a payment of Rs 11,236 to B Ltd. The issue being analysed in this article is whether when a service recipient avails some services tax deduction at source (“TDS”) is applicable on the gross amount of invoice including service tax (Rs 11,236) or on merely on the service payments (Rs 10,000).3. Analysisa. TDS on service tax paid under the normal mechanism
Where the invoice amount is inclusive of service tax
This is a case where there is no break-up of service tax in the invoice. A consolidated amount inclusive of the service tax is charged and paid. In such a case, TDS is to be deducted on the entire amount which would include the service tax element as well.
Where the section uses the words “any income by way of”
In this regard, specifically with respect to section 194-I of the Act, the Central Board of Direct Taxes (“CBDT”) vide Circular 4/ 2008 dated April 28, 2008 has clarified that taxes are not required to be withheld on the service tax on rental payments as the service tax component does not partake the nature of “income” of the landlord and he merely acts as a collecting agency for the government. Going by the same analogy, sections which use the words “any income by way of” should not attract TDS on the service tax component of the payments.
However, it is possible that the Tax Authorities take a stand that the Circular is restricted to the application of section 194-I of the Act i.e. rental payments alone and cannot be applied in respect of other sections like 194A and 194H.
Where the payment for service tax is made separately from the fees / charges under the contract
Recently, the Rajasthan High Court (“HC”) in the case of Rajasthan Urban Infrastructure[vi] has held that the service tax component of the payment made under section 194J of the Act was not liable to TDS as the service tax amount was paid separately. It should be noted here that the conclusion reached by the HC was purely based on the facts of the circumstances and strictly going by the terms of the contract. Accordingly, in cases where the contract provides for payment of service tax separately from the fees / charges, it may be said that tax need not be withheld on the service tax component of the payment.
Where the section uses the words “any sum paid”
A doubt could arise as to whether the CBDT Circular 4/ 2008 referred above as well as the HC decision could be applied in this scenario as well. A careful reading of section 194J / 194C shows that these sections also require payers to “deduct an amount equal to … per cent of such sum as income-tax on income comprised therein”. The Supreme Court (“SC”) while interpreting this phrase in Associated Cement Company[vii] held as follows:
“Indeed, it is neither possible nor permissible to the payer to determine what part of the amount paid by him to the contractor constitutes the income of the latter. It is not also possible to think that the Parliament could have intended to cast such impossible burden upon the payer nor could it be attributed with the intention of enacting such an impractical and unworkable provision. Hence, on the express language employed in the sub-section, it is impossible to hold that the amount of two per cent required to be deducted by the payer out of the sum credited to the account of or paid to the contractor has to be confined to his income component, out of that sum.”This makes it clear that the argument that service tax is not income of the recipient may not be relevant for TDS under sections 194C and 194J.
The above mentioned HC decision in the case of Rajasthan Urban Infrastructure could also be distinguished since there was a specific undisputed finding of fact that, contractually service tax was required to be paid separately. It may not be applicable where a single payment is made as consideration for services as well as for the service tax portion.
In the context of section 194J of the Act, the CBDT vide Letter F.No. 275/73/2007 IT(B) dated June 30, 2008 has specifically clarified that the scope of Circular 4 / 2008 cannot be extended to section 194J which covers “any sum paid”. Unlike rental payments under section 194-I of the Act where it was construed that the service tax component cannot be regarded as income of the landlord, “any sum paid” as professional or technical fees would comprise the aggregate amount of payment including the service tax element.
Accordingly, TDS will be required to be withheld even on the service tax component of payments made under section 194J. Similar analogy should apply to other sections which use the words “any sum paid” wherein the service tax component of the sum paid should also attract tax withholding.
b. TDS on service tax paid under the reverse charge mechanism
Under the reverse charge mechanism, the service recipient is liable to pay service tax. For example, in the case of insurance auxiliary services, it has been provided in the service tax laws that the person liable to pay service tax will be the concerned insurance company who has appointed the insurance agent. Accordingly, the service tax amount is never paid / payable to the agent and remains a liability in the books of the insurance company till the same is deposited into the government treasury. In other words, the service tax amount is never credited to the account of the agent nor is it paid to the agent. Therefore, the service tax component may not be considered as “income” of the insurance agent for withholding tax purposes. Where the section uses the words “any sum paid”, the same conclusion should apply since no payment or credit is made to the service provider in respect of service tax amount.
Accordingly, under the reverse charge mechanism, since the service tax component cannot be considered as income of the service provider or sum paid to service provider, there should be no tax withholding on such component.
4. Conclusion
TDS is effectively a tax collection mechanism and the onus is upon the person responsible for making payments to the recipient of income to comply with the provisions. In view of the severe penal consequences like disallowance of expense, interest, penalty, etc. it is advisable to take a conservative stand in complying with these provisions. However, the recent amendment in section 201 of the Act provides some relief to the deductors from interest and disallowance where the recipient of income has included the said amount in his return of income, has paid taxes on it and has furnished his return of income.
[i] TDS on Interest other than “Interest on securities” [ii] TDS on Commission or brokerage [iii]TDS on Rent [iv]TDS on Payments to contractors [v] TDS on Fees for professional or technical services [vi] Income Tax Appeal No.235/2011 [vii]201 ITR 435
Disclaimer The article is meant for general understanding purposes only. Views expressed by the authors in this article are personal. Readers are advised to consult experts on specific issues.
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