HC holds service tax not leviable on recovery of expenses by Venture Capital Fund from the contributors

 This Tax Alert summarizes a recent judgement of the Karnataka High Court (HC). The issue relates to applicability of service tax on recovery of various expenses by Venture Capital Fund (VCF) from the contributors.

Earlier, Customs, Excise and Service Tax Appellate Tribunal (CESTAT) Bangalore upheld levy of service tax on such recovery under the head ‘banking and other financial services’ (BOFS) defined u/s 65 (105)(zm) of Finance Act, 1994 (Finance Act). Aggrieved, the taxpayer filed an appeal before the HC.

The key observations of HC are:

• The definition clauses of each statute must be read with the object and purpose of that statute only as intended by the legislature. Various statutes such as SEBI, GST, IBC recognize ‘trust’ as a person whereas the Finance Act does not.
  Hence, CESTAT has erred in holding the petitioner to be a juridical person.
• The petitioner acts as a ‘pass through’, wherein funds from contributors are consolidated and invested by the investment manager.
• The contributors and the trust cannot be dissected as two different entities because, it is an admitted fact that contributors investment is held in trust by the fund and it is invested as per the advice of investment manager.
• Therefore, the doctrine of mutuality must apply in the instant case and there can be no service to self.

Basis above, HC quashed service tax liability on expense recovered by VCF.

Comments:

• This ruling provides much need relief and clarity to the financial services sector.
• While the ruling deals with the matter in case of Venture Capital Fund, it is likely to impact other similar investment pooling vehicle structures, both onshore and offshore.
• Basis the change in the provisions under GST, the applicability of this ruling may need to be analysed.