The Indian government introduced tax on services in 1994 with the objective of generating revenue from the one of the fastest growing sectors in the economy. It was a positive list based taxation, only the notified services were taxed and rest were not liable. The government started by covering 3 services under the tax net and gradually expanded the same to approximately 120 service categories by 2011.
In the Union Budget 2012 (tabled before the Indian Parliament last month), the current system of positive list based taxation is proposed to be replaced by negative list based taxation, only the notified services shall be exempt and rest would be taxable.
After 18 years of introduction of tax on services, the term ‘service’ is proposed to be defined as an activity which does not constitute supply of goods or transaction in actionable claims. Having converted the basis of taxation, the government as of now is proposing to continue with most of the exemptions available today, for example medical services, education, and basic infrastructure.
Further, heeding to long standing demands of certain sectors and also taking cognizance of transactions on which state level taxes are leviable, some of the currently taxed services are proposed to be exempt like copyright of movies, advertisement through billboards, and hoardings. However, as expected from the conversion of positive list based taxation to negative list based taxation, certain service, hitherto not taxable, would become liable to tax.
Some example of services which would expressly get covered are non-compete fee, high end rail travel. However, wider impact would unfold over a period of time when more and more of transactions would get revealed where implications may arise. As regards composite contracts, involving supply of goods as well as services, the theory of dominant intention is proposed to be applied, which may lead to tax on goods portion as well. Current double taxation on transactions like licensing of software may not get addressed under the proposed regime as well.
Another important piece of regulation, which would be rolled out along with the negative list based taxation is Place of Provision of Services Rules. These Rules, as the name suggests, will determine the place of services, which in turn would decide whether services are provided in India or outside India.
Services provided outside India shall not be liable to service tax. Currently, there are Import and Export Rules which provide the same outcome. Three different criteria have been prescribed under the current Rules in order to determine the place of taxability of the services. The current Rules shall be abolished once the Place of Provision of Services Rules are implemented. Against the three criteria, 10 principles have been propounded to determine the place of provision of services. It would be left upon to the person liable to determine the principle that shall be applicable in the situation, which would always be open for the authorities to challenge.
Further, there may be change in criteria for services, leading to situations where the export benefit may no longer be available. Taxability is proposed even in situations where services are rendered outside India provided the service provider and recipient are in India. Mechanism may also be introduced to tax services which are rendered in India while both provider and recipient are located outside India. Additionally, there may be possible tax implications where services are rendered by Indian Head Office/ Branch to Branch/ Head Office located outside India.
The negative list based taxation regime shall be applicable in India from a date that shall be notified by the government after the Finance Bill is passed by the Legislative Assembly as well as the Council and receives presidential assent.
Being a paradigm shift in the way services have been taxed in India till date, a lot of teething problems are anticipated. Despite this, industry is welcoming this proposition, as it is in the direction of moving to a national-wide GST. Internationally, generally wherever GST/ VAT is applicable, services are taxed on the basis of negative list. Further, since under Indian GST regime, states would also levy tax on services, the Place of Provision of Services Rules shall provide the basis of identifying the state where tax is to be paid.
As the implementation of GST is the next step, as of now, government has sought feedback from the trade and industry so that current proposals can be further refined/ fine-tuned. Accordingly, it is crucial on the part of the businesses to review their transactions to analyse taxability under negative list regime and identify points for representation before the authorities. Further, companies should examine the impact on input and output side to take a call regarding passing on/ bearing the effect. Tax clauses in customer/ vendor contracts should also be reviewed to establish whether the new levy can be recovered.
The next few months in Indian tax landscape promise to be eventful.