Partial Reverse Charge Mechanism - Putting Service Tax in Forward Gear

Introduction 1.0 The concept of “reverse” though important, has limited applicability in our day-to- day life. We are familiar with reve...

Introduction

1.0 The concept of “reverse” though important, has limited applicability in our day-to- day life. We are familiar with reversing a vehicle for limited purposes. A vehicle cannot be driven in reverse for moving forward. However, when it comes to levy of taxation it is not the case. Under the ST, till 30th June, 2012 the concept of levying tax on “reverse charge” (RC) had limited applicability as only few types of transactions were covered there under. With effect from 1st July, 2012 the things are going to change dramatically.

1.1 Another interesting development in this respect has been introduction of “Partial Reverse Charge” (PRC) meaning thereby requiring the Service Recipient (SR) to pay ST partially. It should be noted that the term PRC has not been defined in the statute but it has been referred to in the Guidance Note (GN) issued by the Central Board of Excise and Custom (CBEC). In the case of following three services, ST is required to be borne by the SR partially in the proportion as mentioned in Notification No. 30/2012 dt. 20-6-2012.

(a) renting of a motor vehicle designed to carry passengers on non-abated value to any person who is not engaged in a similar business, or

(b) supply of manpower for any purpose, or

(c) service portion in execution of a works contract;

1.2 Applicability of these provisions does not depend only on the nature of service but to “who” and by “whom” as well. Looking to these conditions, following three factors are important for determining applicability of PRC.

a) Nature of the service

b) Status of Service Provider (SP) and c) Status of SR.

How PRC will operate?

2.0 CBEC says as follow:

“The service provider shall issue an invoice complying with Rule 4A of the ST Rules. Thus the invoice shall indicate the name, address and the registration number of the service provider; the name and address of the person receiving taxable service; the description and value of taxable service provided or agreed to be provided; and the service tax payable thereon. As per clause (iv) of sub-rule (1) of the said rule 4A "the service tax payable thereon' has to be indicated. The ST payable would include service tax payable by the service provider”.

2.1 It means that SP shall mention the nature and type of service in the invoice. What will happen if the SP is not having any tax liability? Naturally, he will not refer to whatever has been stated above. In that case, how SR will comply with the provisions? According to CBEC, “the liability of the service provider and service recipient are different and independent of each other”, SR will have to determine nature of service and apply the provisions of ST accordingly.

Nature of Service

3.0 As explained above, it is the duty of the SR to determine correct nature of service received, determine provisions relating to abatement, valuation etc. and pay the ST accordingly. It means that if the SP makes any mistake in determining nature of service provided, SR cannot have an excuse that he has followed the description given on the invoice issued by SP. SR will have to apply his judgement and determine the liability.

Status of SP

4.0 Status of SP will affect SR in two ways.

a) SP’s nature of entity i.e. Proprietary firm/ Partnership Firm etc.

4.1 In some of the cases PRC is applicable to services provided by Proprietary firm, Partnership firm etc. It is not applicable to the same type of services provided by corporate bodies. Why? Looking to the justification provided in Guidance Note, one can assume that all the corporate assesses are honest and discharge their tax liability. The problem arises in the case of proprietary firm and partnership firm only.

b) SP’s nature with respect to applicability of ST

4.2 Here, SP’s nature with respect to tax liability will be determining factor i.e. whether SP is Small Service Provider (SSP) or not. If it is SSP, there will not be any tax liability for him. A question will arise herein how will the PRC mechanism work? If SP is not required to pay ST, naturally there is no question of SR paying the ST. However, it is not so. According to CBEC, even in such cases, SR will have to pay ST for availing such services. Read the following explanation by CBEC.

“The liability of the service provider and service recipient are different and independent of each other. Thus, in case the service provider is availing exemption owing to turnover being less than Rs 10 lakhs, he shall not be obliged to pay any tax. However, the service recipient shall have to pay service tax which he is required to pay under the partial reverse charge mechanism.”

4.3 According to CBEC, the tax liability of SP and SR are different and independent.

Yes, they are different. However, it is “independent” in what respect? Is the tax liability of SR not dependent on nature and type of service provided by SP? If it is so, should it not get the same tax treatment as in the case of SP?

Status of SR

5.0 Status of SR will impact in two ways viz.

a) SR’s nature of entity i.e. Proprietary firm/ Partnership Firm etc.

5.1 In some of the case PRC is applicable to services provided to corporate bodies only.

b) SR’s nature with respect to applicability of ST

5.2 An interesting issue will arise here i.e. whether status of SR can make any difference?

What will happen if SR is not required to pay any ST as he is not providing any services at all or SR is SSP as his value of service is less than Rs. 10 lacs. Whether such SR will have to pay ST? Looking to the provisions of the Finance Act, it appears that SR will have to pay ST. This is for the reason that SR is a business entity. This will have serious implications for various small business entities carrying on small business and more particularly retail trading business. As we shall see later on, the most challenging compliance will be in the case of Works Contract (WC) Service.

Allowance of CENVAT Credit

From the Perspective of SP

6.0 As far as SP is concerned, he will be in a somewhat comfortable position, as his liability to pay ST will be lower. It is true that in few cases, it may turn out to be lower than entitlement of CENVAT Credit (CCr). For such cases, provision has been made in Rule 5B of CENVAT Credit Rules (CCR) for claiming refund of

excess CCr. In majority of the cases, it will not pose any problem as the quantum of CCr is permitted in such a way that it forms miniscule part of the total tax liability.

From the Perspective of SR

6.1 Following scenarios can be visualized for SR.

a) SR being liable to pay Excise Duty / ST

6.2 In such cases, there should not be problem as the amount paid by SR will be permitted as CCr subject to compliance of various conditions laid down therein.

b) SR being SSP or a Retail Trader

6.3 The most problematic cases are of SSP and Retail Trader. In such case, as we have seen, PRC will apply. However, amount of tax so paid will not be permitted as CCr. It should be noted that the amount paid by SR is not in discharge of liability as “Output Service Provider” (OSP). Hence, the question of claiming the said amount as refund does not arise.

6.4 Secondly, Rule 3(1) of CCR allows CCr by provider of OS. It reads as “ provider of output service shall be allowed to take credit of …”. What is output service?

Definition of the term OS in clause (p) of Rule 2 of CCR specifically exclude “a service where the whole of service tax is liable to be paid by the recipient of service.” Thus, amount paid by SR cannot be considered as payment of tax towards provision of OS.

6.5 Thirdly, rule 4(7) of CCR provides for credit in respect of input service only. What is input service? As per Rule 2(l) of CCR “Input Service” means any service “used by a provider of out put service for providing an output service”. In the instant case, tax paid by SR is not input service and hence it is not permitted to be claimed.

Payment of ST

At what point of time SR and SP will be required to pay the ST?

7.0 Timing aspect for the payment of ST will have to be examined in both the cases from different perspective.

Payment of ST by SP

7.1 In the case of SP, it will be an output service. Hence, Rule 3 of PoTR will apply.

In terms of Rule 6 of Service Tax Rules (STR), it is required to be paid by 5th of the next month / quarter depending upon nature of SP.

Payment of ST by SR

7.2. A problem will arise in the case of SR. In such cases, SR will be making payment of ST in two ways i.e. direct and indirect. Under the direct method he will be discharging ST liability as SR. As per amended Rule 7 of Point of Taxation of Rules (PoTR), Point of Taxation (PoT) in such cases is required to be computed with reference to the date on which payment is made. Therefore, ST liability will have to be discharged by SR by 5th of the next month / quarter in which the payment has been made to SP.

7.3 Proviso to the said Rule 7 also provides that if the SP is not paid within the period of six months, PoT is to be determined as if Rule 7 does not exist. In that case, Rule 3 of PoTR will apply and due date of payment of ST will be applicable retrospectively. See below the explanation provided in the GN.

10.1.5 What shall be the point of taxation for the service recipient? When will he need to pay the service tax in respect of his liability?

Both the service provider and service recipient are governed by the Point of Taxation Rules 2011 in respect of the service provided or received by him. Usually it is the invoice or date of receipt of payment which is the point of taxation for the service provider. However for the service recipient, in terms of rule 7 of the said rules, point of taxation is when he pays of the service. Thus in the case where the invoice is issued in say July 2012 and the service recipient pays for the same in August 2012 the point of taxation for the service provider will be the date of issue of invoice in July 2012. The point of taxation for the service recipient shall be the date of payment in August 2012. The service provider would be required to pay tax (to the extent liability is affixed on him) by 5th/6th August, 2012 or 5th/6th October 2012 depending upon the admissibility of benefit under the proviso to Rule 6 of the Service Tax Rules 1994. The service recipient would need to pay tax (to the extent liability is affixed on him) by 5th/6th September 2012.

Whether SR can pay ST by utilising CENVAT Credit?

7.4 It may so happen that SR may be having unutilized CCr. Whether the balance lying therein can be utilized for the payment to be made under PRC? No. Explanation to Rule 3(4) of CCR provides that “CENVAT Credit cannot be used for payment of service tax in respect of services where the person liable to pay tax is the service recipient.” Therefore, SR has no option but to make payment of ST and claim the same as CCr thereafter.

What will happen in the cases wherein service has already been provided before 1-7-2012?

7.5 According to GN, in such cases since point of taxation of the service has already been determined and whole liability has been affixed before 1.7.2012, the new provisions will not apply. Merely because payments are being made after 1.7.2012 will not add any additional liability on the service receiver in respect of such services.

Registration by SR

8.0 It may so happen that SR may not be providing any service at all. Therefore, he might not have got himself registered. However, under PRC, the SR will be required to discharge the ST liability. For the said purpose, he will have to get himself registered. In fact, Section 69 categorically requires a person in such cases to get registered. The said section reads as follow:

“Every person liable to pay the service tax ……… shall make an application for registration”

8.1 As can be seen, the liability to get registered is for the person who is liable to pay the ST. It does not differentiate between SP and SR. Therefore, Registration is a must.

Filing of ST-3 by SR

9.0 If SR is required to obtain registration, the question of filing of periodical return i.e. ST-3 will arise. In terms of provisions of Section 70 “every person liable to pay the service tax himself assess the tax due on the services provided by him and shall furnish ………. a return in such form and in such manner…”. Period.

Whether SR can avail exemption limit of Rs. 10 lacs?

10.0 Proviso to the First para of Notification No. 33 relating to basic exemption limit of Rs. 10 lacs for SSP issued provides as follow:

“Provided nothing contained in this notification shall apply to a. Such value of taxable services in respect of which service tax shall be paid by such person and in such manner as specified under sub- section (2) of section 68 of the said Finance Act read with Service Tax Rules, 1994”

10.1 As can be seen, the SR is not permitted to avail basic exemption limit of Rs. 10 lacs.

“Business Entity”

11.0 In number of cases, PRC is applicable to “business entities”. S. 65B(17) defines it as “any person ordinarily carrying out any activity relating to industry, commerce or any other business or profession;”. 

A question that arises is whether these provisions are applicable to activities carried on by Charitable Trusts (CT). It should be noted that CT are not exempt per se. Item No. 4 of Notification No. 25/2012 relating to Exemption provides for it as “Services by an entity registered under section 12AA of the Income tax Act, 1961 (43 of 1961) by way of charitable activities (CA)”. Thus, exemption is granted for charitable activities carried on by CT. Clause 2 (k) of the said Notification defines CA as follow:

2. Definitions. - For the purpose of this notification, unless the context otherwise requires, –

(k) (v) advancement of any other object of general public utility up to a value of,-

(a) eighteen lakh and seventy five thousand rupees for the year 2012-13 subject to the condition that total value of such activities had not exceeded twenty five lakhs rupees during 2011-12;

(b) twenty five lakh rupees in any other financial year subject to the condition that total value of such activities had not exceeded twenty five lakhs rupees during the preceding financial year;

11.1 Does it mean that if a CT is not qualified by the above two conditions, will it be subject to PRC? However, it should be noted that clause 2 of the said Notification specifically provides that these definitions are applicable for the restricted purposes of the said Notification only. Therefore, the said definition can not be applied for any other purpose.

Analysis of various entries of RC

12.0 Analysis of various entries falling under RC is given under Tabular form for easy understanding.

Sl. No.	Description of service	Provided		Percentage of  ST payable by the person providing service	Percentage of ST payable by the person receiving the service
		By	to
1	Insurance	Insurance Agent	Any           person carrying          on insurance business	Nil	100%

Note: SR has to be an insurance company.

2	Transportation of   goods   by road	Goods     Transport Agency (GTA)	Any         Factory registered    under the Factories Act	Nil	100%
			Society registered under  the Societies Regi. Act
			Co-operative society established by or under any law
			Dealer              of excisable goods registered under the   Central Excise Act
			body     corporate established  under any law
			Partnership firm / Association      of persons

Note: GTA can be any type of entity i.e. Proprietary Firm / Partnership firm / AoP / Corporate Bodies. However, GTA services should have been rendered to the categories of persons as referred to above.

3

Sponsorship

by any person

Anybody corporate or partnership firm located    in    the

Nil

100%

taxable territory

Note: SR can be of only two types viz. company or partnership firm.

4

Arbitral

Arbitral Tribunal

any         business entity located in the taxable territory

Nil

100%

5

Legal service

Individual Advocate or firm of advocates

any         business entity located in the taxable territory

Nil

100%

Note: Applicable to all the types of entities i.e. Individual / Proprietary Firm / Partnership

firm / AoP / Corporate Bodies. These entities should be “business entities”. Services rendered by an Advocate to an individual not relating to its business are not covered herein.

6

Support Service

Government        or local authority

Nil

100%

7	Renting         / hiring any motor vehicle designed to carry passenger   on abated value	i)  any individual ii)       HUF iii)       Proprietary firm iv)       partnership firm v)        Association of Persons located      in      the taxable territory	i)       Any company registered  under the    Companies Act ii)      business entity registered     as body corporate located    in    the taxable territory	Nil	100 %
	Renting         / hiring any motor vehicle designed to carry passenger   on non-abated value	i) any individual ii) HUF iii)  Proprietary firm iv)  partnership firm v)   Association  of Persons	i)    Any company registered under          the Companies Act ii)   business	60%	40%

located      in      the taxable territory

located    in    the taxable territory

Note: WC service provided by a corporate body is not covered herein. Moreover, WC

service rendered to Proprietary Firm / Partnership Firm / AoP etc. are not covered.

8.

Supply        of manpower  for any purpose

i) any individual ii)      HUF iii)    Proprietary firm iv)     partnership firm v)      Association of Persons located      in      the taxable territory

i)    Any company registered under          the Companies Act ii)   business entity registered     as body corporate located in the taxable territory

25%

75 %

Note: WC service provided by a corporate body is not covered herein. Moreover, WC

service rendered to Proprietary Firm / Partnership Firm / AoP etc. are not covered.

9.

Works Contract

i)   any individual ii)  HUF iii) Proprietary firm iv) partnership firm v)  Association    of Persons located in the taxable territory

i)   Any company registered under        the Companies Act ii)  business entity registered   as body corporate located in the taxable territory

50%

50%

read Detailed Analysis of  Provisions related to works Contract ,Meaning , Valuation, effective Service Tax rate on works contract  and reverse charge on works contract wef 01.07.2012

Note: WC service provided by a corporate body is not covered herein. Moreover, WC service rendered to Proprietary Firm / Partnership Firm / AoP etc. are not covered.

Here, definition of WC will play an important role. Section 65B (54) defines it as a “contract wherein transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods and such contract is for the purpose of carrying out construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, alteration of any movable or immovable property or for carrying out any other similar activity or a part thereof in relation to such property”. As can be seen, it covers moveable property as well. By linking the definition of WC with taxability of such transactions as sale of goods, SP will be required to look to its definition under local VAT laws. All the State Governments have drafted VAT laws providing large number of transactions falling into it. For example, in the state of Gujarat, photocopying and printing of stationery is considered as WC. Since such services are very common, there is hardly any businessman not availing it. Does it mean that each and every businessman availing services of photocopying or printing will have to pay ST under PRC? Yes. As explained above, since threshold limit is not available, every businessman will have to get himself registered, pay ST and file ST-3 periodically.

10

any      taxable services     i.e. imported

any person located in    a    non-taxable territory

any            person located    in    the taxable territory

Nil

100%

Note: This is an interesting item as it differs from all the entries as mentioned above. As far as SP is concerned, it should be provided from outside India. Type and nature of entity of SP is not relevant. Nature of service rendered is also not relevant.

As far as SR is concerned, it is applicable to “any person”. Such a person i.e. SR need not be “business entity”. Does it mean that it will be applicable to any individual importing services for personal use and not for business purposes? Yes, it will be applicable to any individual even though not carrying any business activities. It will be interesting to see how the ST Department trace such transactions and collect tax thereon.

Conclusion

13.0 So far it was believed that ST has made life difficult for SP. However, PRC has made life difficult for SR as well. As all of us know, momentum under reverse is always slow as compared to forward. However, one should not be surprised, if the classic provision of PRC making collection of ST surpassing that of under the forward gear.

CA. Pradip R Shah E mail: pradip@pradiprshah.com