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Expansion of reverse charge mechanism in India

04 December 2012

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Pratik Jain of KPMG looks at what the expansion of the reverse charge mechanism means for taxpayers in India

The transaction tax for services in India is called service tax. The Union Budget 2012 (with effect from July 1 2012), has significantly revamped the service tax law, including amendments to the rules on zero rating, exports, set-offs, credits and the definition of service.

Another change includes expanding the scope of the reverse charge mechanism, making the service recipient liable to pay service tax, instead of the service provider. Under the previous regime, the reverse charge mechanism was limited to services such as goods transport agencies, sponsorships or import transactions.

The scope is now also expanded to include services such as legal services by individual lawyers or firms of lawyers, specified support services provided by the government, works contracts services, supplies of manpower and services provided by directors, cab rentals etcetera. In addition to increasing the number and type of services, for certain services such as (a) renting a motor passenger vehicle to any person who is not in a similar line of business, (b) supplying manpower and (c) the service element of works contracts, both service provider and service recipient are each proportionally liable for service tax (referred to as partial reverse charge mechanism).

However, the liability under partial reverse charge mechanism arises only if the service provider is an individual or partnership firm or an association of persons (AOP). While the apparent intention behind including these services is to reduce payment defaults by such specified persons, many small players in the industry, including traders, will have to bear the additional burden of service tax compliance. There are practical difficulties in tracking day-to-day petty expenses (such as routine maintenance, small repairs, and printing) which could be liable to service tax as works contract service. Nor has the term AOP been defined in the service tax law.

There is therefore uncertainty as to whether it means all types of joint consortiums / ventures. As regards ongoing vendor contracts for services, there are interpretational challenges in affixing/quantifying liability, in spite of the clarifications issued by the government. Taxpayers will undoubtedly have to update their systems to prepare for the new reverse charge regime, such as tracking vendors in respect of which partial reverse charge mechanism applies, maintaining separate records required to credit the tax, and reviewing vendor contracts.

If you would like to know more about this subject or have any other questions about indirect tax issues in India, please contact:

Pratik Jain

Tel: +91 9811141868


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