Dear Professional Colleague,

Service tax paid by Service provider, on being pointed out by Department, can be treated as business expenditure

We are sharing with you an important judgment of the Hon’ble High Court of Gujarat in the case of Commissioner of Income Tax-III Vs. Kaypee Mechanical India (P.) Ltd. [(2014) 45 taxmann.com 363 (Gujarat)] on the following issue:

Issue:

Where assessee had not collected and deposited Service tax but on being pointed out, deposited the same along with Interest, can it be treated as expenditure deductible under Section 37 of the Income Tax Act, 1961?

Facts & background:

The Department conducted an audit of records of Kaypee Mechanical India (P.) Ltd. (“Kaypee” or “the Assessee”) for the Financial Year 2003-04 to 2006-07. During the audit, the authorities raised an audit objection pointing out that the Assessee had not collected the service tax on mechanical erection and installation of plant and machinery, structure work, piping work, etc., for the period from financial year 2003-04 to 2006-07. Therefore, a demand of service tax of Rs. 23,07,450 along with interest of Rs. 9,36,353 was raised on Kaypee.

The Assessee deposited the amount of Rs. 32,44,004 towards the demand raised by the Department out of its own pocket. Further, Kaypee claimed the deduction of Service tax paid along with interest as business expenditure.

The Revenue contended that the Assessee should not be allowed to claim deduction of the Service tax paid along with interest as expenditure since the amount has been paid by Kaypee as an infraction of law.

The Commissioner (A) and the Hon’ble CESTAT accepted the contention of the Assessee. The Hon’ble CESTAT held that Kaypee has rightly debited the Service tax and interest thereon as expenses in the P/L account. The Revenue did not produce any material on record that the Service tax including interest which is debited in the P/L A/c had been recovered by Kaypee from its Service recipients. Therefore, the Service tax and interest thereon shall be treated as expenses of the Assessee, which were incidental and arising out of the business of Kaypee. The interest payment is compensatory in nature. Accordingly, it was held that the expenses incurred by the Assessee have direct nexus with the business operation of Kaypee. Therefore, the expenses are allowable under Section 37 of the Income Tax Act, 1961 (“the IT Act”) as incurred wholly and exclusively for business purposes.

The Revenue filed an appeal against the order of the Hon’ble CESTAT with the Hon’ble Gujarat High Court.

Held:

The Hon’ble Gujarat High Court also upheld the view taken by the Hon’ble CESTAT and held that the amount was expended by the Assessee during the course of business, wholly and exclusively for the purpose of business. If the Assessee had taken proper steps and charged Service tax to the Service recipients and deposited with the Government, there was no question of the Assessee expending such sum. It is only because the Assessee failed to do so, that he had to expend the said amount, though it was not his primary liability. Be that as it may, this cannot be stated to be a penalty for infraction of law.

It is equally well settled that payment of interest is compensatory in nature and would not partake of the character of penalty.

Accordingly, it was held that Service tax and interest paid by the Assessee were rightly claimed as deductible business expenditure under Section 37 of the IT Act.

Therefore, the contention of the Revenue was rejected and the case was decided in favour of the Assessee.

Hope the information will assist you in your Professional endeavours. In case of any query/ information, please do not hesitate to write back to us.

Thanks & Best Regards
 
Bimal Jain
FCA, FCS, LLB, B.Com (Hons)
Flat No. 34B, Ground Floor,
Pocket-1, Mayur Vihar, Phase–I,
Delhi – 110091
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Email: bimaljain@hotmail.com