Supreme Court Clarifies Service Tax Liability in Lease Agreements: Union of India vs. Bengal Shrachi Housing (2017)

Date of the Judgment: 7 November 2017

Citation: [Not Available in Source]

Judges: R.F. Nariman, J., Sanjay Kishan Kaul, J.

Can a clause in a lease agreement override the statutory liability for service tax? The Supreme Court of India addressed this question in a dispute between the Union of India and Bengal Shrachi Housing Development Limited. This case revolves around who should bear the burden of service tax on leased commercial premises. The Supreme Court bench, consisting of Justices R.F. Nariman and Sanjay Kishan Kaul, delivered the judgment.

Case Background

The case involves a lease agreement dated 1 September 2012 between the Union of India (lessee) and Bengal Shrachi Housing Development Limited (lessor). The lease was for a period of three years, with a monthly rent of Rs. 16,34,967. Clause 6 of the lease agreement stipulated that the lessor would pay all taxes primarily leviable upon them, while taxes primarily leviable upon the occupier would be paid by the government.

A dispute arose regarding who was liable to pay service tax on the leased commercial premises. The lessor filed a writ petition before the Calcutta High Court, seeking a direction for the Union of India to pay the service tax.

Timeline:

Course of Proceedings

The learned single Judge of the Calcutta High Court, relying on judgments from the Delhi High Court in Pearey Lal Bhawan Association v. M/S. Satya Developers Pvt. Ltd. and the Allahabad High Court in M/s Bhagwati Security Services (Regd.) v. Union of India, ruled that the liability to pay service tax rested with the recipient of the service, i.e., the Union of India. The Division Bench of the Calcutta High Court upheld this decision, agreeing that Clause 6 of the lease agreement, when properly construed, would lead to the same conclusion.

Legal Framework

The Supreme Court examined the following legal provisions:

• Section 65 of the Finance Act, 1994: Defines “assessee” as a person liable to pay service tax and includes their agent. It also defines “taxable service” as any service provided for the renting of immovable property for business or commerce.
  
  “Section 65. Definitions
  In this Chapter, unless the context otherwise requires, —
  (7) “assessee” means a person liable to pay the service tax and includes his agent;”
  “…..
  (zzzz) to any person, by any other person, by renting of immovable property or any other service in relation to such renting, for use in the course of or for furtherance of, business or commerce.”
• Section 66 of the Finance Act, 1994 (as substituted in 2007): Specifies the rate of service tax at 12% on taxable services.
  
  “66. Charge of service tax – There shall be levied a tax (hereinafter referred to as the service tax) at the rate of twelve per cent of the value of taxable services referred to in sub-clauses (a), (d), (e), (f), (g,) (h), (i), (j),(k), (l), (m), (n), (o), (p), (q), (r), (s), (t),
  (u), (v), (w), (x), (y), (z), (za), (zb), (zc), (zh), (zi),
  (zj), (zk),(zl), (zm), (zn), (zo), (zq), (zr), (zs), (zt),
  (zu), (zv), (zw), (zx), (zy), (zz), (zza), (zzb), (zzc),
  (zzd), (zze), (zzf), (zzg), (zzh), (zzi), (zzk), (zzl),
  (zzm), (zzn), (zzo), (zzp), (zzq), (zzr), (zzs), (zzt),
  (zzu), (zzv), (zzw), (zzx), (zzy), (zzz), (zzza), (zzzb),
  (zzzc), (zzzd), (zzze), (zzzf), (zzzg,) (zzzh), (zzzi),
  (zzzj), (zzzk), (zzzl), (zzzm), (zzzn), (zzzo), (zzzp),
  (zzzq), (zzzr), (zzzs), (zzzt), (zzzu), (zzzv), (zzzw),
  (zzzx), (zzzy), (zzzz), (zzzza), (zzzzb), (zzzzc),
  (zzzzd), (zzzze), (zzzzf), (zzzzg), (zzzzh), (zzzzi),
  (zzzzj), (zzzzk), (zzzzl), (zzzzm), (zzzzn), (zzzzo),
  (zzzzp),(zzzzq) (zzzzr) (zzzzs) (zzzzt),(zzzzu),
  (zzzzv) (zzzzv) and (zzzzw) of clause (105) of
  section 65 and collected in such manner as may be
  prescribed:
  Provided that the provisions of this section shall not
  apply with effect from such date as the Central
  Government may, by notification, appoint.”
• Section 66B of the Finance Act, 1994 (effective from 1 July 2012): Levies service tax at 12% on all services, excluding those in the negative list.
  
  “66B. Charge of Service Tax – There shall be
  levied a tax (hereinafter referred to as the service
  tax) at the rate of twelve per cent on the value of all
  services, other than those services specified in the
  negative list, provided or agreed to be provided in
  the taxable territory by one person to another and
  collected in such manner as may be prescribed.”
• Section 68 of the Finance Act, 1994: States that the person providing the taxable service shall pay the service tax.
  
  “68. Payment of service tax . – (1) Every person
  providing taxable service to any person shall pay
  service tax at the rate specified in section 66B in
  such manner and within such period as may be
  prescribed.
  (2) Notwithstanding anything contained in sub-
  section (1), in respect of such taxable service as
  may be notified by the Central Government in the
  Official Gazette, the service tax thereon shall be
  paid by such person and in such manner as may be
  prescribed at the rate specified in section 66B and
  all the provisions of this chapter shall apply to such
  person as if he is the person liable for paying the
  service tax in relation to such service:
  Provided that the Central Government may notify
  the service and the extent of service tax which shall
  be payable by such person and the provisions of
  this Chapter shall apply to such person to the extent
  so specified and the remaining part of the service
  tax shall be paid by the service provider.”
• Rule 2(1)(d) of the Service Tax Rules, 1994: Defines the “person liable for paying service tax”. In the case of renting immovable property by the government, the service provider is liable to pay the tax.
  
  “2. Definitions
  (1) In these rules, unless the context otherwise
  requires, –
  ….
  (d) “person liable for paying service tax”, –
  (i) in respect of the taxable services notified under
  sub-section (2) of section 68 of the Act, means,-
  …….
  (E) in relation to services provided or agreed to be
  provided by Government or local authority except,-
  (a) renting of immovable property, and
  (b) services specified sub-clauses (i), (ii) and (iii) of
  clause (a) of section 66D of the Finance Act,1994,
  to any business entity located in the taxable
  territory, the recipient of such service;
  ……
  (ii) in a case other than sub-clause (i), means the
  provider of service.”
• Section 83 of the Finance Act, 1994: Extends the application of Section 12B of the Central Excise Act, 1944, to service tax.
  
  “12B – Presumption that incidence of duty has
  been passed on to the buyer – Every person who
  has paid the duty of excise on any goods under this
  Act shall, unless the contrary is proved by him, be
  deemed to have passed on the full incidence of
  such duty to the buyer of such goods.”

Arguments

Appellants’ (Union of India) Arguments:

• The appellants argued that under the Finance Act, 1994, and the Service Tax Rules, 1994, the person primarily liable to pay service tax is the service provider, i.e., the lessor.
• They contended that Clause 6 of the lease agreement, which states that the lessor shall pay all taxes primarily leviable on them, should be interpreted to mean that the lessor is responsible for service tax.

Respondents’ (Bengal Shrachi Housing) Arguments:

• The respondents argued that service tax, being an indirect tax, is essentially a value-added tax on the consumption of service, and therefore, the levy should fall upon the lessee.
• They contended that various judgments of the Supreme Court indicate that the person on whom the tax is primarily leviable is the lessee.
• They relied on Section 83 of the Finance Act, 1994, which extends Section 12B of the Central Excise Act, 1944, to service tax, arguing that there is a presumption that the incidence of duty is passed on to the buyer (lessee).

Issues Framed by the Supreme Court

The Supreme Court framed the following issue for consideration:

1. What is the meaning of the expression “primarily leviable on the lessor” in Clause 6 of the deed of lease dated 1.9.2012?

Treatment of the Issue by the Court

Authorities

The Supreme Court considered the following authorities:

Judgment

How each authority was viewed by the Court?

• Tamil Nadu Kalyana Mandapam Assn v. Union of India & Ors., (2004) 5 SCC 632*: The Court used this case to explain that service tax is an indirect tax on the service and not on the service provider.
• All India Federation of Tax Practitioners & Ors. v. Union of India & Ors., (2007) 7 SCC 527*: The Court relied on this case to clarify that service tax is a value-added tax and a consumption tax.
• Association of Leasing & Financial Service Companies v. Union of India, (2011) 2 SCC 352*: The Court used this case to reiterate that service tax is a value-added tax and a tax on activity.
• Babu Ram Jagdish Kumar & Co. v. State of Punjab, (1979) 3 SCC 616*: The Court cited this case to distinguish between the taxable event (provision of service) and the taxable person (service provider).
• Chhotabhai Jethabhai Patel and Co. v. The Union of India and Anr., 1962 Supp. (2) SCR 1*: The Court used this case to clarify that the fact that a tax may not be passed on does not alter its nature as an indirect tax.
• Central Provinces and Berar Sales of Motor Spirit and Lubricants Taxation Act , 1938 RCP, A.I.R. 1939 Federal Court 1*: The Court referred to this case to establish that excise duty is a duty on the manufacture of excisable articles.
• R.C. Jall vs. Union of India, 1962 Supp. (3) SCR 436*: The Court relied on this case to explain that excise duty is primarily on production or manufacture, and the incidence falls on the consumer.
• Peekay Re-Rolling Mills (P) Ltd. v. Assistant Commissioner and another, (2007) 4 SCC 30*: The Court cited this case to clarify that “levy” includes “assessment” but not “collection”.
• Pearey Lal Bhawan Association v. M/S. Satya Developers Pvt. Ltd., (2010) 173 DLT 685*: The Court distinguished this case by stating that the observations made on law have to be read in light of the facts of that case.
• Satya Developers Pvt. Ltd. and Ors. v. Pearey Lal Bhawan Association and Ors, (2015) 225 DLT 377*: The Court distinguished this case by highlighting that the parties intended to include existing taxes, not future taxes.
• Raghubir Saran Charitable Trust v. Puma Sports India Pvt. Ltd., 2013 SCC OnLine Del 1972*: The Court distinguished this case by stating that the judgment turned on the language of the particular clauses in the lease deed.

What weighed in the mind of the Court?

The Supreme Court’s reasoning was primarily based on the statutory provisions of the Finance Act, 1994, and the Service Tax Rules, 1994. The Court emphasized that the “taxable person” is the service provider, i.e., the lessor, and not the recipient of the service. This was based on a plain reading of the relevant sections and rules. The Court also clarified that while service tax is an indirect tax in economic terms, this does not mean that the recipient of the service is primarily liable under the law. The Court rejected the argument that Section 12B of the Central Excise Act, 1944, which presumes that the incidence of duty is passed on to the buyer, determines who is primarily liable for service tax. The Court also took into account the specific facts of the case, including the sanction letter and the letter from the Deputy Inspector General, which stated that the Union of India was liable to pay service charges.

Logical Reasoning:

The Court considered the argument that service tax is an indirect tax and should be borne by the recipient of the service, but rejected it on the grounds that the statutory provisions clearly state that the service provider is the person liable to pay the tax. The Court also considered Section 12B of the Central Excise Act, 1944, but clarified that it is for refund purposes and does not determine who is primarily liable for service tax.

The Supreme Court observed that the judgments of this Court which referred to service tax being an indirect tax have reference only to service tax being an indirect tax in economic theory and not constitutional law. The fact that service tax may not, in given circumstances, be passed on by the service provider to the recipient of the service would not, therefore, make such tax any the less a service tax.

The court also noted that in the present case, the expression “primarily leviable upon” has reference to the “taxable person”, i.e. the person who is liable to pay the tax. The tax that is levied on “service” may be collected either from the service provider or the recipient of the service. The person assessed to tax, who is primarily liable to pay the tax is, on the facts of this case, the lessor.

The court also rejected the argument that Section 12B of the Central Excise Act, 1944, which presumes that the incidence of duty has been passed on to “the buyer” (lessee), determines who is primarily liable. The court clarified that this section is part of the machinery for refund and does not determine who is primarily liable to pay service tax.

The court also considered the sanction letter dated 27th April, 2012 and a letter dated 30th April, 2012, which indicated that the Union of India was liable to pay service charges. However, the court clarified that though in law and under clause 6 of the lease deed the Appellant is not required to pay service tax, the court refused to exercise its discretion under Article 136 of the Constitution of India in favor of the Union of India, given the sanction letter and letter dated 30th April, 2012.

The Supreme Court quoted the following from the judgment:

• “It is thus clear, on a conspectus of the authorities of this Court, that service tax is an indirect tax, meaning thereby that the said tax can be passed on by the service provider to the recipient of the service. Being a tax on service, it is not a direct tax on the service provider but is a value added tax in the nature of a consumption tax on the activity which is by way of service.”
• “In the present case, therefore, the “taxable event” is the provision of the service of renting out immovable property, and the “taxable person”, that is the person liable to pay tax, is the service provider, namely the lessor.”
• “The question with which we are faced is the meaning to be given to the expression “primarily leviable on the lessor” in Clause 6 of the deed of lease dated 1.9.2012.”

Key Takeaways

• Service Tax Liability: The Supreme Court clarified that the service provider (lessor) is primarily liable to pay service tax under the Finance Act, 1994, and the Service Tax Rules, 1994, even if the tax is an indirect tax.
• Interpretation of Lease Agreements: The term “primarily leviable upon” in a lease agreement refers to the person on whom the assessment is made under the Act, which is the service provider.
• No Overriding Contract: A clause in a lease agreement cannot override the statutory liability for service tax.
• Indirect Tax Nature: Although service tax is an indirect tax, this does not mean the recipient is primarily liable under the law.
• Implications for Lease Agreements: Parties entering into lease agreements should be aware that the statutory liability for service tax lies with the service provider, regardless of any clauses in the agreement.

Final Order

The Supreme Court upheld the decision of the Calcutta High Court, but clarified that though in law and under clause 6 of the lease deed the Appellant is not required to pay service tax, the court refused to exercise its discretion under Article 136 of the Constitution of India in favor of the Union of India, given the sanction letter and letter dated 30th April, 2012. The appeals filed by the Union of India were dismissed.