JULY 19, 2010

By Hiral Raja

THERE are a number of assessees who are engaged in provision of taxable services as well as sale of traded goods or are engaged in the manufacture of dutiable goods as well as sale of traded goods. In case of such assessees, there would be input services specifically pertaining to traded goods as well common input services that are used both for duitable goods/taxable services and for traded goods.

The question that arises in such cases is whether the assessee is entitled to take credit in respect of input services that are specifically pertaining to traded goods as well as common input services that are used both for dutiable goods/taxable services and for traded goods?

Section 37 of the Central Excise Act, 1944 and Section 94 of the Finance Act, 1994 provides powers to the Central Government to make rules to provide for credit of duty or service tax paid/deemed to have paid on the goods used in, or in relation to manufacture of excisable goods or provision of taxable services. In exercise of these powers, the Central Government has made Cenvat Credit Rules, 2004.

Rule 3 of the Cenvat Credit rules provide that a manufacturer of final product or provider of taxable service shall be allowed to take credit (Cenvat credit) in respect of any input service received by the manufacturer of final product or by provider of output service.

Rule 2(1) defines ‘input service' to mean any service:-

 i) used by a provider of taxable service for providing an output service; or

 ii) used by the manufacturer, whether directly or indirectly, in or in relation to the manufacture of final products and clearance of final products, upto the place of removal,

and includes services used in relation to setting up, modernization, renovation or repairs of a factory, premises of provider of output service or an office relating to such factory or premises, advertisement or sales promotion, market research, storage upto the place of removal, procurement of inputs, activities relating to business, such as accounting, auditing, financing, recruitment and quality control, coaching and training, computer networking, credit rating, share registry, and security,  inward transportation of inputs or capital goods and outward transportation upto the place of removal;

Above definition makes it clear that input service would mean only those services which are used by a provider of taxable service for providing output service or used by a manufacturer in or in relation to manufacture . Hence any services exclusively used for traded goods would not get covered under the definition of input service and cenvat credit would not be available for the same.

Rule 6 provides the mechanism for availment of cenvat credit by a manufacturer of dutiable and exempted goods and providers of taxable and exempted services. Let's try to see to analyse and see whether traded goods can be considered as exempted goods or exempted services.

Rule 2(d) defines “exempted goods” as excisable goods which are exempt from the whole of the duty of excise leviable thereon, and includes goods which are chargeable to “NIL” rate of duty.

In order to get classified as “exempted goods”, the goods should be first excisable goods i.e. excise duty should be leviable on the same and then there should be an exemption from payment of excise duty or it should be chargeable at NIL rate of duty. Obviously excise duty is not leviable on the traded goods and hence traded goods would not fall under the category of “exempted goods”.

Rule 2(e) defines “exempted services” as taxable services which are exempt from whole of the service tax leviable thereon, and includes services on which no service tax us leviable under section 66 of the Finance Act.

Bare reading of the above definition shows that the definition is wide and even covers all the services on which service tax is not leviable. However trading activity on which VAT/CST is charged cannot be called service and therefore cannot be considered as an exempted service also.

Hence on the perusal of above definitions, it is clear that traded goods would neither fall under the category of dutiable /exempted goods or taxable/exempt services and hence Rule 6 would not apply in determining the eligibility of cenvat credit in respect of common input services used in providing dutiable goods/taxable services and traded goods.

Hon'ble CESTAT in the case of M/s. ABB Ltd. and Others vs. Commissioner of Central Excise and Service Tax, Bangalore (2009-TIOL-830-CESTAT-BANG-LB) has held that the words “activities relating to business” in the inclusive part of the definition of input service is a term of wide import and credit would be available in respect of all input services related to the business activities. Hence based on this, one view can be taken that cenvat credit in respect of common input services used in providing dutiable goods/taxable services and traded goods, would be available by treating them as services related to business activities.

However such an interpretation would not be fair on account of the following reasons:

 i) Services referred to in the inclusive definition of the input services under Rule 2(1) are required to be used in or in relation to the manufacture of final product of provision of taxable services and inclusive definition only suggest that some services which may seemingly not appear to be used in relation to the manufacture of final product would nevertheless deemed to be so used [Prima facie view in the case of Colgate Palmolive (I) Ltd. Vs. Commissioner of Central Excise Mumbai (2007-TIOL-485-CESTAT-MUM).

 ii) In case assessee undertakes an activity, which cannot be called service or cannot be called manufacture, that activity goes out of the scope/purview of the Excise Act as well as Finance Act and hence to interpret that service tax credit will be allowed in respect of common input services utilized for providing one activity covered under the Act and another outside the ambit of the Act would not be fair;

iii) Even on the grounds of equity, in case an assessee undertakes 100% of this business activity as trading, he would not be entitled to credit of any input services. Hence merely because the assessee also provides dutiable goods/taxable services, in addition to trading activity, he should not be entitled to full credit of service tax credit in respect of common inputs without the express authority of law.

Hon'ble CESTAT in the case of M/s. Orion Appliances Ltd. vs. CST, Ahmedabad [2010-TIOL-752-CESTAT-AHM], while dealing with this issue has held as under:

i) Trading activity is nothing but purchase and sales and is covered under sales tax law; it cannot be called a service and hence cannot be considered as an exempted service also.

ii) Since trading activity is not an exempted service, it is not correct to apply Rule 6 of the Cenvat credit rules as well as Rule 3 of the Service tax credit Rules.

iii) In cases where an assessee is undertaking activity which cannot be called a service or manufacture, that activity goes out of the purview of both Central Excise Act as well as Finance Act, 1994.

iv) An assessee would not be eligible to take input service tax credit on an output which is neither a service nor excisable goods.

v) There are no provisions in the law to cover situations where an assessee is providing a taxable service and is undertaking another activity which is neither a service nor manufacture.

vi) In such a situation, the only correct legal position appears to be that it is for the appellant to choose and segregate the quantum of input service attributable to trading activity and exclude the same from the records maintained for availment of credit.

vii) Naturally this cannot be done in advance since it may not be possible to forecast what would be the quantum of trading activity and other activity which is liable to excise duty/service tax. The only obvious legally correct solution would be to be to ensure that once in a quarter or once in a six months, the quantum of input service tax credit attributed to trading activities according to standard accounting principles is deducted and the balance only availed for the purpose of payment of service tax of output service.

viii) There are several decisions of various High Courts and also of the Tribunal wherein a view has been taken that subsequent reversal of credit amounts to non availment of credit.

Further while appreciating that the decision reached by the Hon'ble CESTAT was not as proposed in the show cause notice or in the appeal, the bench also stated that the procedure adopted by the department was also not correct and at the same time, as per the law the assessee is not eligible for service tax paid on input service attributable to trading activity and hence the only solution that can be thought of has been discussed above.

The above judgement really deserves kudos because the Hon'ble CESTAT has preferred a very well reasoned and fair judgement on an issue, which has wide ramifications to majority of the assessees across the country as well as for the department. Also it needs to be appreciated that the members of the bench have also prescribed the way and the periodicity for reversal of credit, taking into consideration practical difficulties faced for working out the same.