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Service tax bogey returns to haunt MFs
November, 14th 2006

The Street felt it was long dead and buried, but tax authorities have exhumed something that fund houses would abhor.

A fortnight ago, the investigation wing of the revenue department had made a strong case for charging service tax on the entry and exit loads linked to mutual fund schemes.

Loads are charges that investors bear while buying or selling MF units, and MFs use it to recover scheme expenses on distribution, marketing, advertisement and roadshows.

It works out this way: An investor buying units would pay an entry load over and above the net asset value (roughly the market price) of the unit, but while selling the units the investor would receive less than the prevailing NAV to the extent of the exit load applicable. Now, if service tax is passed on to an investor, the per unit price one pays will go up.

Its learnt that the Directorate General of Central Excise Intelligence (DGCEI) has sent a 50-odd page response to the apex body, the Central Board of Excise & Customs, to drive home the point. According to a senior government official, the Directorate reckons that the charge (entry and exit load) is a consideration by a non-banking financial entity (such as mutual funds) for providing services in relation to asset management and thus be liable to service tax.

Sometime in May, the Directorate had shot letters to fund houses to find out whether they were paying service tax on entry and exit loads.

This was reported by ET in its edition dated May 30. With tax authorities not pressing the matter further, MFs were under the impression that the move will not be pursued by the government.

While there are doubts whether it eventually will, the issue has resurfaced. Now the CBEC is expected to take a final view on the matter after factoring in the responses of DGCEI and the mutual fund industry. Officials did not rule out a clarification by the board.

According to Prasad Paranjape, director, indirect tax, RSM & Co, the industry should take this up with the government now that the Budget exercise is gathering pace. Fund houses argue that there mere receipt of money is not enough for levy of service tax since; unlike banking services, this is not specified under any head. Secondly, loads are not accounted as income for the fund.

The DGCEI is only concerned with the legal interpretation of the service tax legislation. However, if the government does not intend to charge service tax on entry and exit loads linked to mutual fund schemes, it can either make a policy change or give a specific exemption, said sources.
According to a fund official, the department may think that if an investor is paying more than the NAV, it has to be against a service. But, since brokerage to MF distributors are paid after deduction of service tax, levying a tax on the load could mean double taxation, he said.

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