EY Tax Alert. Executive summary

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1 19 September 2014 EY Tax Alert Bombay HC decides - CENVAT credit refund ineligible in respect of onsite services provided by foreign subsidiaries to overseas clients prior to 27 February 2010, as the same does not constitute export of service Tax Alerts cover significant tax news, developments and changes in legislation that affect Indian businesses. They act as technical summaries to keep you on top of the latest tax issues. For more information, please contact your EY advisor. Executive summary This Tax alert summarizes the recent decision of the Bombay High Court [TS HC-2014 (BOM) -ST] wherein it was held that onsite services rendered at the client locations abroad by the appellant s foreign subsidiaries do not fulfil the requirement of services provided from India as contained in Rule 3(2)(a) of the Export of Service Rules, 2005 and hence, it would not qualify as export of service by the appellant. Consequently, appellant is not eligible for refund of unutilized CENVAT credit for the period prior to 27 February 2010 in respect of such onsite services.

2 Background and facts Appellant s contentions The appellant is engaged in the provision of information technology software services to overseas customers by way of entering into direct contracts with them, where onsite work such as requirement study, testing, implementation, upgradation etc. is executed by its foreign subsidiaries / branches at client location abroad. For undertaking onsite services, the appellant entered into back to back agreements with its subsidiaries who acted as sub-contractors to the appellant. The appellant treated the onsite work carried out by its subsidiaries for the overseas client as export of services and filed refund claims under Rule 5 of CENVAT Credit Rules, 2004 for unutilized CENVAT credit. For the period prior to 27 February 2010, for a transaction to be considered as export, one of the conditions required to be satisfied was that such service is provided from India and used outside India which was omitted w. e. f. 27 February The appellant framed its first argument around section 66A of the Finance Act, 1994 (the Act) as applicable at that point in time. The said section made the service recipient in India liable to pay Service tax in case services were received from outside India. As per the section, service recipient himself was deemed to have provided such service in India and hence this legal fiction would extend to all the provisions of Service tax law including the Export Rules. Therefore, onsite services provided by subsidiaries in the present case would be deemed to be services provided by the appellant. Consequently, such services have to be considered as provided from India, for the purpose of Rule 3(2)(a). It was argued that Service tax is a transaction based tax leviable on each contract of service. The Service tax liability flows from the contract and follows the contract. In this case, the contract is only between the appellant and the overseas client and hence, there is no privity of contract between the subsidiary and overseas client. The appellant relied on following judicial pronouncements Revenue rejected certain refund claims filed for the period prior to 27 February 2010 proportionately to the extent of value of onsite work carried out by appellant s subsidiaries on the grounds that such onsite work did not fulfil the condition of services provided from India as envisaged under Rule 3(2)(a) of Export of Services Rules, 2005 (Export Rules) and hence it did not qualify as export. CESTAT upheld the contention of the Revenue and decided in its favour. Aggrieved by the Tribunal s order, the appellant filed an appeal before the High Court. All India Federation of Tax Practitioners vs. Union of India 1 Commissioner of Service Tax vs. SGS India Private Limited 2 Privy Council judgment in Commissioner of Inland Revenue vs. Databank Systems Limited 3 Customs and Excise Commissioner vs. Redrow Group PLC 4 The appellant also argued that conditions under rule 3(2) are common to all the three categories of services under the Export Rules. Hence, if literal interpretation of the condition service (7) STR 625 (SC) TIOL 580 (HC-Mum-ST) 3 Privy Council Appeal No. 39/1989 decided on Decision of House of Lords reported in (1999) 1 Weekly Law Report 408

3 provided from India is to be made, then immovable property based services and performance based services would never qualify as export. The appellant claimed that amendment made on 27 February 2010 by way of deletion of words service provided from India from Rule 3(2)(a) is clarificatory in nature and would also govern pending claims. If it is accepted that onsite services are provided by subsidiaries from outside India, then such services cannot be considered to be received in India. Hence, tax paid by the appellant under reverse charge on payments made to subsidiaries should be refunded under Section 11B of the Central Excise Act, 1944 (CEA). Revenue Contentions The Revenue contended that onsite services provided by the subsidiaries to the overseas client could not be treated as export of service because it did not satisfy the condition of services being provided from India and used outside India. Section 66A of the Act is framed for making provisions in law for payment of service tax by service recipient in India for services received from abroad. If the appellant is paying service tax on reverse charge basis under section 66A on services received from its foreign subsidiaries, then such services cannot be considered as export of services within the meaning of Rule 3(2)(a) of Export Rules. The argument is selfcontradictory and confusing. Revenue argued that, plea for refund of tax paid under reverse charge under section 11B of CEA should not be entertained as it did not satisfy procedural requirements i.e. proper application for refund within time limit prescribed. High Court Ruling High Court upheld Tribunal s finding that the first condition as regard to provision of service from India and its use outside India has not been satisfied. The services have been performed at customers site by the subsidiaries of the appellant. There may not be any privity of contract between the subsidiaries and customers, but the situs of the service and its provision are both outside India. Since service providers (i.e. appellant s subsidiaries) and the service recipient (i.e. the overseas client) are outside India, the Export Rules should not be relied on. The Court confirmed the Tribunal s view that subsidiaries are independent contractors and providing onsite services to the appellant s overseas customers and hence, the services cannot be said to be provided from India. Further, nature of onsite services and activities undertaken reveal that they cannot be provided from India. HC dismissed appellant s reliance on section 66A of the Act, noting that the section provides for charge of Service tax on services received from outside India and it should be understood in that context only. The cases referred to by the appellant in support of its submissions that there is no privity of contract and that Service tax is a transaction based tax, were not of assistance to the appellant s case as the issues posed therein were different. Court dismissed appellant s contention that deletion of words service provided from India through an amendment on 27 February 2010 is clarificatory and would govern pending claims. While dismissing appellant s alternate plea of refund claim under Section 11B of CEA, Court ruled that the refund claim will have to be decided in accordance with the provisions and after the compliance is made with the procedural formalities.

4 Comments Bombay High Court judgment will have far-reaching implication on IT and ITeS companies, which had claimed the refund of CENVAT credit upto February, 2010, considering total exports including the onsite portion. While interpreting the provisions of Rule 3(2)(a) of the Export Rules, Court has proceeded on literary construction of the expression provided from India instead of constructive interpretation. Having regard to the intent behind amending the Rule in February, 2010, giving it a retrospective effect would have certainly benefitted the IT industry.

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