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Tax on new services needs a relook
April, 09th 2007
In accordance with the policy of the government to widen the service tax base, the Finance Bill, 2007, has proposed to bring seven new services in the service tax net. These include renting of immovable property and services in relation to execution of works contracts. 
Perhaps the most controversial is renting of immovable property for the furtherance of business or commerce. It is controversial because renting of property can arguably not be considered as a service in the manner the term is generally understood. However, since similar categories such as the transfer of the right to use trade marks have already been subjected to service tax, this argument may not take us very far. The bigger point is whether it is appropriate to impose such a levy at this point. It is a fact that rentals of immovable property used for business or commerce are chargeable to GST (goods and services tax) in several countries which follow the VAT system. However, it is also equally true that in such countries, a well developed and integrated GST system exists whereby the GST on rentals of commercial property is a pass- through cost for almost all businesses and is therefore similar to any other element of input taxes. In India, however, in the absence of an integrated VAT, the levy may cause imbalances in the cost structures of many industries. The retail sector will be majorly hit since there will be no opportunity to offset these taxes against output taxes, given that this tax cannot be offset against the state VAT. A similar predicament will be faced by a large section of the IT & ITeS sectors. It appears that the government has introduced this proposal in view of the exceedingly high realty prices. However, the proposal needs to be relooked at. 
Another major category is the execution of works contracts. The proposed taxable service is that related to the execution of works contracts in relation to construction, erection, commissioning or installation and turnkey projects including Engineering, Procurement and Construction or Commissioning (EPC) projects. 
The taxable base would be the portion of the value of the works contract which represents services and this would need to be determined on the basis of records maintained by the service provider. Alternatively, the service provider can opt for a composition scheme wherein he can pay, as service tax, a sum equivalent to 2% of the total value of the works contract. The proposed levy could possibly bring to an end the ambiguity surrounding the service taxability of such works contracts. However, it covers only specified works contracts, the erstwhile ambiguity continues with respect to other works contracts involving services such as maintenance and repair. Further, the identification of the taxable value of such contracts on the basis of records maintained by the assessee is problematic. The alternate option of discharging service tax at 2% under the composition mode, on the total value of works contract, is comparatively simple to administer and on a backward computation, would result in taxing about 17% of the total contract value towards services. Pending the introduction of the levy and of the composition scheme, a debate has started as to whether the services of erection, commissioning or installation provided under a works contract would be more specifically covered under the category of erection, commissioning or installation services or under the proposed category. 
The idea seems to be to possibly deny the benefit of the composition scheme under the new definition to service providers covered under this category. A far more important point is whether the introduction of the new taxable category would mean that the services in relation to the specified works contracts were not taxable earlier. 
Another service proposed to be made taxable is in relation to mining of mineral, oil and gas. It has been clarified by the government that activities of site formation and clearance, excavation and earth moving, drilling wells for production/exploitation, well testing services, sub-contracted services and outsourced services are covered under this head. As a result, service tax has been comprehensively extended to the upstream oil and gas sector. However, as crude oil & natural gas are not subjected to excise duty, the input service taxes would be sticking costs and thus result in a substantial increase in operating costs for exploration companies. Here again, the question of whether these activities were taxable under certain erstwhile headings is relevant. 
The proposal to group disparate telecommunication related services, which were earlier, covered under separate taxable categories, under a single taxable category of telecommunication services and broadbasing it is a good move. It would help in doing away with the various practical difficulties associated with ascertaining the appropriate classification of the several individual services. Also, the broad basing of the definition would ensure that all telecommunications services without exception are charged to tax. 
Another proposal is to tax development and supply of content for use in telecommunication, advertisement and internet or websites. As a consequence of the introduction of this levy, mobile value added services including, inter alia, music, movie clips & ring tones would now fall within the service tax net. This appears to make only a marginal addition to the total tax base as some of such services are already leviable to service tax under the heading of business support services. 
The proposed taxable services in relation to asset management would cover such services of asset management as are provided by a person other than those already covered under the heading of banking and other financial services. As most of these services were already taxable under the head of banking and other financial services, practically the only expansion to the tax base as a result of introduction of this head would be in relation to cash management services. 
In sum, out of the seven taxable heads proposed in the Finance Bill, the services of renting of immovable property and execution of works contracts are very problematic and require the government to respond sagaciously so that there are no significant cost escalations. 
S Madhavan
The writer is leader, indirect tax practice,PricewaterhouseCoopers 
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