One hand gives, the other hand taketh away. Or so it would seem according to the telecom industry, which is exercised over the possibility of spectrum trading— seen as a key reform by companies— being liable for either service tax or value added tax (VAT).

Tax officials are of the opinion that transfer of spectrum will attract service tax.

"Prima facie it looks that it would attract service tax," said a senior official. Another officer handling indirect taxes concurred. They argue that spectrum trading involves the transfer of 'right to use' of licences for a consideration.

"There is a strong likelihood that the authorities would treat this as a 'service' and impose service tax, contending that the dominant objective is to provide services, unless there is a specific exemption to this effect," said Pratik Jain, partner, KPMG India.

The Cabinet had on September 9 approved long-pending norms for spectrum trading, providing an exit route for financially stressed mobile operators saddled with unused airwaves and allowing those facing a shortfall to get much-needed frequencies.

Service tax or VAT? Lack of clarity over spectrum trading bothering telecom companies "There is already the issue of double taxation (higher spectrum usage charge and the licence fee to be paid by both the parties), which we feel will discourage trade of spectrum," Rajan Mathews, director general of the Cellular Operators Association of India (COAI) lobby group, said. "If you are also going to be charged a service tax on a commodity, it will really take away most of the differential of lower-cost benefit which would have accrued through spectrum trading."

Telecom minister Ravi Shankar Prasad said service tax was the finance minister's prerogative and there was no substance in the double taxation argument of the telcos. "Some operators will be happiest if I don't charge them a fee and give them spectrum free of cost." the minister told ET. The service tax issue arises because, under the negative list regime, "any activity carried out for a consideration" faces the levy. However, "transfer of right to use goods" is not liable to service tax and comes under the purview of value added tax, which is imposed by states.

Service or Goods?

But whether spectrum would qualify as goods or a service is yet to be clearly established in law. While telcos can offset the service tax payment, no such relief will be available in the case of VAT.

Some court rulings have favoured the treatment of licences as goods. In 2008, the Supreme Court held that licences have an intrinsic value that makes them a market commodity and thus would qualify as goods for the purpose of the levy of sales tax.

This was in a case related to the Duty Entitlement Passbook Scheme.

Tax experts have called for clear guidelines from the government so that spectrum trading can start. "The trading of spectrum is a transaction involving right to use air waves," said Bipin Sapra, partner, EY. "To avoid ambiguity in its treatment and litigation, the government needs to clarify whether it's a transfer of right to use goods or provision of service, so that VAT or service tax may accordingly be charged by the spectrum owners."

Whether considered as goods or a service, spectrum trading is likely to be taxed. Under the negative list regime, every service, unless specifically exempted, is taxed. On the other hand, if treated as goods, VAT will be levied on such transfers.

Although service tax would be allowed as an offset, this could be a hurdle for smaller companies, Jain said. Such players could have large credits on the balance sheets and may take a long time to use the tax paid, Jain said. Companies won't get any credit if VAT is levied.

Industry feels the levy of service tax will discourage trading.

"If all of a sudden spectrum is going to be treated like a service, it will open a Pandora's box. There could possibly be a lot of litigation on this," said Mathews of COAI. "When currently no service tax is paid on purchase of spectrum through auctions, why should one have to pay service tax if it is bought from the secondary market?"

The matter may get resolved when the goods and service tax regime kicks in. This is scheduled to start on April 1 next year, although key legislation related to this is yet to be approved.

ET View:Don't Tax Telcos to Death

Spectrum sales cannot attract service tax. So, it is absurd for the tax department to demand the levy from telcos. Rightly, these companies do not want the spectrum sale proceeds to be merged with aggregate revenue, of which they pay a licence fee, as they had bought spectrum in the auctions. However, if the tax department persists with the demand, it will impose higher costs on operators who, in turn, will pass it on to consumers. The larger good lies in maximising the spread of mobile data networks and boost economic growth. Higher growth will automatically bolster tax collections for the government.