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Sweeping changes in services taxation
November, 28th 2011

Previous articles in this column had discussed in detail the concept paper on taxation of services based on the negative list released by the Central Board of Excise and Customs (CBEC) for public debate in August 2011. Based on the feedback received from various stakeholders, the CBEC has recently released a revised concept paper (paper). This paper has been put out in the public domain again and the CBEC has solicited suggestions and feedback from all stakeholders.

On the principle of service taxation based on the negative list, the paper informs that there is overwhelming support for such a basis of taxation and that a long positive list is not considered to be sustainable any longer. On the timing of the introduction of the negative list, the paper indicates that opinion is divided. However, while the paper ostensibly refrains from taking a position and the Chairman of the CBEC has, in a recent interview, left it to the government to take a final decision in the matter, it does appear that the negative list would be likely introduced in the forthcoming budget.

There shall be levied a tax (hereinafter referred to as service tax) at the rate of . per cent of the value of services provided or to be provided by a taxable person to another person and collected in such manner as may be prescribed.

Further, a taxable person is now proposed to be defined as any person who independently carries out any economic activity, whether or not for a pecuniary profit.

The paper states that these definitions are illustrative and could change, should the negative list be introduced along with GST. It is also stated that the intent is to confine taxation to services provided by persons engaged in an economic activity on their own account. Accordingly, wage earners, employees and members of legislature will stand excluded from the purview. Further, since economic activities are carried for a consideration, activities carried out free of charge, as also statutory fines and penalties, would also not be taxed. Deemed supplies of goods would also be excluded from service taxation. It is clarified however that the presence of a profit motive is not necessary in order to construe an activity an economic one and that, in any event, the government is always authorised to declare any activity as a provision of service.

As to the revised negative list, the paper now has seven defined categories and a residual one. The exclusion is with regard to agriculture and animal husbandry and the reasons provided for its exclusion are not really tenable and the apprehension with regard to the potential abuse of the exclusion appears misplaced.

The first category is regarding services provided by the government, other than those notified and hence taxable. The notified services are those where the government competes with the private sector. However, the paper recognises that there are significant definitional problems and acknowledges there are better ways to treat such services than subject them to the tax. The paper has left this area open for future debate.

On the second category of services provided by social welfare and public utilities, the paper appears to have significantly tightened up the provisions thereto.

Regarding financial sector services, while the exemptions from the tax have been marginally extended, the overall schema for taxing the sector appears not to have changed.

The category relating to transport has been amended in order to incorporate non AC second class railway transport as also all categories of metro travel in the negative list. This was an omission in the earlier paper. Further, the entry relating to transport of goods to a destination outside India has been deleted since the paper acknowledges that this would qualify to be outside the ambit of the tax anyway.

Major changes have been brought about in the next category pertaining to construction and real estate services. The paper questions whether such activities should at all form part of the negative list but does state that a case can be made for including large infrastructure projects therein. Accordingly, the inclusions in the list are now limited to specified infrastructure, as also residential buildings comprising of a single dwelling unit and rented personal dwellings of a monthly rental of upto Rs 1 lakh.

On education, some minor changes have been effected to the entries in the negative list.

Significant changes have been made in the category relating to health. Of the earlier two options i.e. i) exclusion of services by clinical establishments below the threshold level of turnover and ii) exclusion to hospital, medical care, diagnostics or para medical services provided by clinical establishments, the paper limits itself to retaining the second option alone.

Moreover, the exclusions from the negative list have been extended.

As to the residual category, there are nine entries therein as opposed to the 10 in the original paper. Further, seven of the original 10 entries have been retained and the balance three have been replaced by two new ones. These do not appear material. The paper concludes by stating that in order to operationalise the negative list as above, it will be necessary to move to comprehensive place of supply rules for services and that such rules will be released shortly for public debate.

A key point is that the paper continues to be silent on zero rating of services. This principle is critical for several key sectors such as financial services, education and health.

The distinction between exempting something from the tax and zero rating it under the tax is an important one as the benefit of input tax credit offsets or refunds will only accrue with regard to zero rating. Exemptions result in stranded tax costs, which could be significant.

It is hoped that this omission will be addressed when the negative list sees the light of day.

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