It is been almost a year since the negative list of services based regime for levy of Service Tax under the Finance Act, 1994 (in short ‘the Act’) was introduced. The industry is, in fact, slowly getting acquainted with the new system. However, there are certain provisions the impact of which is required to be fully understood particularly those relating to ‘reverse charge mechanism’. In this article, we shall discuss the provisions relating to refund of Cenvat credit to service providers providing services to which the reverse charge mechanism is applicable.
Rule 5B of the Cenvat Credit Rules, 2004 (in short, ‘Credit Rules’) provides for refund of Cenvat credit availed by the service providers whose services are notified under Section 68(2) of the Finance Act, 1994. Section 68(2) of the Act provides that in respect of taxable services as may be notified by the Central Government, the service tax thereon shall be paid by such person and in such manner as may be prescribed. In addition, the proviso to this Section provides that the Central Government may notify the service and the extent of service tax which shall be payable by such persons. In accordance with Section 68(2) of the Act, Notification No. 30/2012-S.T., dated 20-6-2012 has been issued notifying certain services and the extent of service tax to be paid by the persons other than the service providers.
Coming to Rule 5B of the Cenvat Credit Rules that grants refund of Cenvat credit to service providers who are providing services covered under reverse charge mechanism, it has to be noted no notification has been issued by the Central Government till date in this regard. Even the latest budget is also silent on this aspect. However, we will examine who will be eligible for refund and upto what extent. Rule 5B provides for the refund of Cenvat credit availed by a service provider providing services which are covered under reverse charge mechanism. There are two kinds of reverse charge namely full reverse charge and partial reverse charge. We will now analyse whether all the service providers covered under reverse charge, are eligible for this refund or not.
Goods or services which are used for providing the output service qualify as input and input service respectively under Rule 2(k) and Rule 2(l) of the Cenvat Credit Rules. Output service is defined under Rule 2(p) of the Cenvat Credit Rules which inter alia excludes a service where whole of service tax is liable to be paid by the recipient of service. Thus, in cases where there is full reverse charge on a particular service, then such service does not qualify as ‘output service’. Therefore, service providers providing such services are not entitled for Cenvat credit on the inputs and input services used for providing such services as they do not qualify as ‘output service’. Consequently, they cannot claim any refund of duties/taxes paid on the goods / services used for providing such services where the full tax liability is on the service recipient.
This can be illustrated by way of an example: sponsorship service provided or agreed to be provided is covered under full reverse charge. Therefore, the sponsorship service does not qualify as ‘output service’ for the purpose of the Cenvat Credit Rules. Accordingly, the person providing sponsorship service is not entitled to avail Cenvat credit of the duty/tax paid on inputs / input services received for providing sponsorship service. Consequently, they cannot claim any refund of such duty/tax.
On the other hand, services which are covered under partial reverse charge are still covered under the definition of ‘output service’ under the Cenvat Credit Rules. Accordingly, such service providers whose services are covered under partial reverse charge can claim refund of unutilized credit availed on inputs and input services used for providing the output service.
For example, works contract service provided by a partnership firm to a company is covered under partial reverse charge and both the service provider and service recipient are liable to pay 50% of the service tax on such service. Works contract service provided by a partnership firm satisfies the definition of ‘output service’ and therefore, Cenvat credit of the duty/ tax paid on the inputs / input services can be availed and the service provider can claim refund of the unutilized Cenvat credit.
It can, therefore, be understood that Rule 5B of the Cenvat Credit Rules is applicable only to service providers who provide services which are covered under partial reverse charge mechanism. Such service providers are entitled to avail full Cenvat credit even though service tax liability on them is only partial. Accordingly, the service providers who are under partial reverse charge are in an advantageous position in terms of Cenvat credit and refund when compared to service providers providing services covered under full reverse charge mechanism.
[The authors are Senior Associates, Lakshmikumaran & Sridharan, Hyderabad]