SERVICE TAX ON SHARING WORK

Business groups across the globe are looking to reduce costs incurred by entering into cost sharing arrangements wherein common services like advertising, security, human resources etc. are shared between subsidiaries/group companies. Under this type of arrangement, common and joint services are procured by the parent company for the entire group with the understanding that the costs incurred for the other group companies will be allocated on cost-to-cost basis or with a mark-up i.e. with a profit motive.

The moot question that arises is whether such an arrangement will attract service tax under negative list regime introduced from July, 2012?

Section 65B(44) as introduced vide Finance Act 2012, defines service as “any activity carried out for consideration by a person for another”. Thus any activity carried out on behalf of another for a consideration shall be liable to service tax. All costs, payments and expenditure incurred by a person purely as an agent of the service recipient do not constitute consideration for service, and are not liable to service tax. However, there should be a contract between the agent and the service recipient to incur expenses on behalf of the other.

The taxability of the above arrangements under pre-negative list era was decided by the Hon’ble Tribunal in the judgment of M/s. Arvind Mills Ltd v CST (2013-TIOL-1455-CESTAT-AHM) where it was held that a company deputing its employees to work in its subsidiary/ group companies and collecting reimbursement of their salaries could not be held liable to pay service tax under manpower recruitment and supply services, if the company is not primarily engaged in recruitment or supply of manpower. However, during the period in dispute there was a specific requirement to classify the service under a taxable service category. In today’s context, the ratio of the said judgment cannot be applied directly.
Under the present tax regime, Explanation 2 of Section 65B(44), excludes ‘transaction in money’ from the definition of service. Thus if one group company enters into a master agreement with a vendor to provide common services to one or more entities, and later recovers only the cost from the others as reimbursement, it would be a ‘transaction in money’ and will not attract service tax. However when cost is recovered on mark-up basis, the provisions of ‘transaction in money’ shall not apply and entire amount shall be leviable to service tax.

Thus from the above discussions it is clear that service tax is applicable only if subsidiaries/group companies recovers cost on a mark-up basis. In absence of profit motive, service tax should not be charged on cost sharing arrangements. However, this position is not appreciated in certain tax jurisdiction and hence this issue needs clarification by Central Board of Excise and Customs to avoid any further litigation.