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Foreign PEs seeking advice here may bear service tax
November, 21st 2006

Global private equity investors seeking advice from consultants based in India may have to bear the burden of a service tax levied on their local advisors.

Many of these investors, who are currently big on India, are hiring management consultants to advice them on investment opportunities and to do the due diligence.

Are these management consultants liable to pay service tax by virtue of the fact that the services rendered by them are used by their clients to invest in India? Government sources admit that there could be differences among field formations in the interpretation of the term use.

This may well mean that management consultants would be liable to pay the service tax if such services do not qualify as exports. While the service tax department has not issued letters or notices yet, some of the top consulting firms have decided not to take any chances.

They are set to approach the finance ministry to seek clarity on the interpretation of the term delivery and use in the export of services rules. These rules lay down certain conditions which have to be complied with if services are to be treated as exports and given a tax exemption.

Going by these rules, management consultants have to deliver the service to clients outside India. The service should be used outside India and the service provider should receive payments in foreign exchange. These three conditions have to be met for the service to qualify as an export and be eligible for an exemption from service tax.

While the service is delivered outside the country, the consultants report may result in an action in India. Simply put, the foreign private equity fund may make strategic investments in India based on the advice of the management consultant. But the investment decision per-se is outside India, reckons a tax expert.

Some tax authorities are, however, of the view that there is no ambiguity in the principle laid down in the export of services rules the service has to be delivered abroad and used abroad. According to them, the onus will be on the management consultant to prove that the service has been delivered and used abroad if there is any litigation.
 
In any case, if the foreign equity fund has a fixed place of business in India (or a permanent establishment), the management consultancy firm is liable to pay tax. This is because the service is rendered within India the report is delivered to the PE in India, said the tax expert.

What is needed is greater clarity in the interpretation of the terms delivery and use, particularly in cases where the services are intangible in nature, according to Harishanker, partner, indirect taxes, PricewaterhouseCoopers.

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