FINANCIAL LEASING-SERVICE TAX-APPLICABILITY

N. VIJIAKUMAR

ADVOCATE


INTRODUCTION

‘Service tax’ evolution is not only informative but also interesting. This levy was imposed by the Finance Act 1994, and subsequent Finance Acts amended this Act to expand the base and increase the levy. This is the only instance in Indian Legislative history where a later Finance Acts amend an earlier one. This statute is the only one on the statute book which has no statement of Objects and Reasons, and one of few statutes that has not been considered either by a Parliamentary Standing Committee or a Select Committee of Parliament. Notwithstanding these features, this statute through convenient and clever legislative amendments has been used to widen the ‘service tax’ not using the flexible pretext of the term ‘service’: The word ‘service’ having not been statutorily defined in the Act.

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Association of Leasing & Financial Service Companies-v-Union of India (2010) 29 STT 316 (SC)

Appellant was an Association of leasing and financial companies. Section 137 of the Finance Act 2001 substituted Section 65 of the Finance Act 1994 by a new Section 65 which defined "banking and other financial services". Subsequently, this definition also underwent some changes by way of Section 90 of the Finance Act 2004, and Section 135 of the Finance Act 2007.

The relevant part of the definition contained in Section 65(12) of the Finance Act 1994 was as follows:-

"65. In this Chapter, unless the context otherwise requires-

12 "banking and other financial services" means-

 (a)  the following services provided by a banking company or financial institution including a non banking financial company or any other body corporate or commercial concern namely-

  (i)  financial leasing services including equipment leasing and hire purchase."

Appellant being aggrieved by the inclusion of hire purchase and leasing services within the service tax net by Section 65(12)(a)(1) challenged the Amendment of 2001 as ultra vires the legislative competence of Parliament by filing writ petitions before the Madras High Court. During the pendency Union of India issued a Notification ST dated March 1, 2006 exempting 90 per cent of the amount repayable under hire purchase/equipment leasing agreement(s) from service tax on the ground that the said 90 per cent represented interest income earned by the service provider. The High Court dismissed the writ petitions.

In the appeals to the Supreme Court, the appellant-assessee contended that by reason of the introduction of Article 366(29A) by the Constitution (Forty-Sixth Amendment) Act, the entire power of taxation in respect of hire purchase transactions is vested only in the States under Entry 54 of List II, and thus having characterized constitutionally the subject matter of hire purchase as a sale (deemed sale), it is not open to the Parliament to tax the same subject-matter under Entry 97 List I.

The issue before the Supreme Court was: whether hire purchase and leasing transactions involved any element of service, for service tax to apply, especially where such transactions were explicitly chargeable to Value Added Tax (VAT), being a tax in relation to goods, and whether there could be a charge of both the goods and the services tax on the same transaction, thereby resulting in double taxation.

The Supreme Court held:

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(2) Today with the technological advancement there is very thin line which divides a ‘sale’ from ‘service’. Applying the principle of equivalence, there is no difference between production or manufacture of saleable goods and production of marketable/saleable services in the form of an activity undertaken by the service provider for consideration, which correspondingly stands consumed by the service receiver. It is this principle of equivalence which is inbuilt into the concept of service tax under the Act. Service tax is therefore tax on an activity. Service tax is a value added tax. The value addition is on account of the activity which provides value addition for example, an activity undertaken by a Chartered Accountant or a broken is an activity undertaken by him based on his performance and skill. This is from the point of view of the professional. However, from the point of view of his client, the chartered accountant/broker is his service provider. The value addition comes in on account of the activity undertaken by the professional like tax planning, advising, consultation etc. It gives value addition to the goods manufactured or produced or sold. Thus, service tax is imposed every time service is rendered to the customer/client. This is clear from the provisions of Section 65(105)(zm) (as amended). Thus, the taxable event is each exercise/activity undertaken by the service provider and each time service tax gets attracted. Thus, every tax may be levied on an object or on the event of taxation. Service tax is, thus a tax on activity, whereas sales tax is a tax on a sale of a thing or goods.

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(4) When one reads Entry 97 of List I with Article 246(1), it confers exclusive power first to make laws in respect of matters specified in Entries 1 to 96 in List I and secondly, it confers the residuary power of making laws by Entry 97. Article 248 does not provide any express powers of the Parliament but only for its residuary power. Article 248 adds nothing to the power conferred by Article 246(1) read with Entry 97 List I. In the context of an exhaustive enumeration of subjects of legislation what does the conferment of residuary power mean? Entry 97 List I which confers residuary powers on Parliament provides ‘any other matter not enumerated in List II and List III including any tax not mentioned in either of these lists’. The word ‘other’ is important. It means ‘any subject of legislation other than the subject mentioned in Entry 1-96’.

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(6) The taxable event is the service which is rendered by the finance company to the customer(s). The value of taxable services under Section 67 is the income by way of interest/finance charges (measure of tax) which is not determinative of the character of the levy. Thus, Section 67 of the Finance Act 1994 seeks to tax financial services rendered by the appellant(s) with reference to the income which the appellant(s) earn by way of interest/finance charges.

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CONCLUSION

In the Association of Leasing & Financial Companies Case (supra), the controversy pertained to the validity of sections 65(12) and 65(105)(zm) of the Finance Act 1994 as amended in so far as the sought to levy service tax on leasing and hire purchase. The Three Judge Bench presided by the Hon’ble Chief Justice of India observed: (1) NBFCs are essentially loan companies, and basically conduct their business as such. In addition thereto they are in the business of equipment leasing, hire purchase finance and investment. What the Finance Act 1994 seeks to do is to tax the financial facilities extended to customers by NBFCs under Section 66 as amended as they come under ‘Banking and other financial services’ under Sec. 65(12). ‘The finance lease’ and ‘the hire purchase finance’ thus squarely come under ‘Financial leasing service’ in Section 65(12). (2) There are different types of financial leases, viz. a tax-based financial lease, a leverage lease and an operating lease. Section 67 seeks to tax financial services rendered by the assessee with reference to the income which the assessee earns by way of interest/finance charges: (3) While State Legislature is competent to impose tax on ‘sale’ by legislation relatable to Entry 54 List II of Seventh Schedule tax on the aspect of ‘services’, vendor not being relatable to any entry in the State List, would be within the Legislative competence of Parliament under Article 248 read with Entry 97 of List I of the Seventh Schedule to the Constitution. (4) The earlier decisions in K.L. Johar & Co.-v-Dy. CTO AIR 1965 SC 1082 para 30 and Bharat Sanchar Nigam Ltd.-v-Union of India (2006) 3 STT 245 (SC) para 39 were distinguished, and differentiated in the instant case.

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With the Goods and Services Tax (GST) Bill under preparation, and the Constitution Amendment Bill 2011 under consideration, it is just, appropriate and necessary that the Supreme Courts decides the issue at the earliest.



[Full text of the Article will be published in forthcoming issues of SERVICE TAX TODAY - A FORTNIGHTLY JOURNAL ON SERVICE TAX]

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