Directors Caught In Service Tax Net?

The Finance Act, 2012 has ushered in a new system of taxation of services popularly known as negative list. The new changes are a paradigm shift from the system in force upto 30th June, 2012 where only services of specified descriptions were subject to tax. In the new system all services except those specified in the

negative list will be subject to taxation. In short, it has changed the methodology for applicability of service tax from “inclusive” to “blanket applicability with the exception of certain specific categories”.

What is Service?

Service has been defined in clause 44 of new Section 65(B) of the Finance Act, 2012 as follows:

“Service”� means any activity carried out by a person for another for consideration, and includes a declared service, but shall not include-

(a)    An activity which constitutes merely,

a.       A transfer of title in goods or immovable property, by way of sale, gift or in any other manner; or

b.      Such transfer, delivery or supply of any goods which is deemed to be sale with the meaning of clause 29(A) of article 366 of the Constitution; or

c.       A transaction in money or actionable claim;                              

(b)   a provision of service by an employee to the employer in the course of or in relation to his employment;
(c)    fees taken in any Court or tribunal established under any law for the time being in force.

Is Service Tax payable on Sitting Fees/Commission paid by companies to Directors?

The services performed by a director (other than Managing Director/Executive Director/Wholetime Director who are employees of the Company) of a company fall within the ambit of taxable services with effect from 1st July, 2012.

In respect of services provided by any non-resident director who does not have any fixed establishment in India or is not a resident in India, the companies would be statutorily required to pay the service tax in respect of any consideration which is given to such non-resident directors.

Accordingly, service tax would be applicable on sitting fees and/or commission to Non-Executive Directors of the Company (NEDs).

Is Service Tax payable on reimbursement of expenses of NEDs by the company?

There is a “Pure Agent” concept in service tax.  Reimbursement of expenses to “Pure Agent” is not liable to Service Tax.

In some cases, travelling and hotel expenses incurred by NEDs to attend meetings are reimbursed by the company. This would also attract Service Tax as NEDs would not fit within the definition of “Pure Agent” as they do not perform any activity on behalf of the principal.

Can company bear the service tax payable by the NEDs ? Is it a deemed Remuneration?

As per the explanation to section 198 of the Companies Act, 1956 (“the Act”), the term ‘remuneration’ includes any expenditure incurred by the company in respect of any obligation which, but for such expenditure by the company, would have been incurred by the Director.

There is a view that payment of service tax is a liability or obligation of the NED. However NEDs have a right to pass it on to the service receiver i.e. the company. Since the company incurs expenditure in respect of such obligation, it may tantamount to “remuneration”. This may in some cases be treated as increase in remuneration compelling companies to apply to the Ministry of Corporate Affairs (“MCA”).

For example, if a company is paying the maximum permissible sitting fee to its NEDs, the payment of service tax would tantamount to increase in the remuneration beyond the maximum permissible limit or if a company is paying maximum permissible 1% commission on net profits to its NEDs, the payment of service tax could tantamount to payment of commission over and above the maximum permissible.

While considering the concept of "expenditure", it is important to dwell upon the concept of "Out of pocket". The expenditure that the company incurs in paying service tax to the director can be treated as 'input services' and can be set off by the company against its excise/service tax liability. However, depending upon the type of business, this may not be totally offset.

There are varying views emerging on liability of Service Tax on directors.

Whilst one view is that the Service Tax is merely collected by the NED from the company and paid to the authorities, the other view is that it is a liability of the NED which is assumed by the company attracting deemed remuneration requiring the Central Government approval.

The Service Tax, being an indirect tax, it is an established fact that the service providers (NEDs in the present case) generally collect the service tax from the service receivers (company in the present case) and pay it to the Government. The company when paying the Service Tax amount to the NED, does not pay it on his behalf to a third party. The NED in turn is supposed to pay it to the Government and discharge his statutory obligation.

The Board of Directors of a company, if required, can pass a suitable resolution authorising payment of service tax on sitting fees and / or commission to NEDs but it appears that if it is treated as a deemed remuneration, it would require approval of Central Government.

As many companies would bear the service tax component of sitting fees / commission / reimbursement of out of pocket expenses payable to NEDs, MCA will be flooded with multiple applications on this subject.

Service Tax Additional burden on NEDs

Applicability of service tax on sitting fees / commission to NEDs would inter-alia put following additional burden on the NEDs.

1) Obtain service tax registration number.

2) Raise invoice for sitting fees and service tax component separately for each and every meeting of Board / Committee and for commission and Service Tax as and when the commission becomes payable.

3) Issue invoice within 30 days of completion of service/receipt of payment, whichever is earlier, on a running serial number commencing from No.1 for the Financial Year.

4) Pay service tax quarterly i.e. 5th of the month following the quarter (or 6th if deposited thru internet banking) in which the service is provided.  However, Service Tax for the month of March or quarter ending in March is to be paid by 31st March of the financial year.

5) Electronic filing of Return is mandatory by 25th of the month following the half year (viz. for April to Sept. by 25th Oct and Oct to March by 25th April). Nil return to be filed, even if no services have been provided.

6) Submit list of all accounts maintained at the time of filing first return.

Liberalised Scenario

The recent amendments made to Schedule XIII to the Companies Act dealing with the “Managerial Remuneration” have liberalized the “Managerial Remuneration” to a great extent. As per the new provisos introduced, a company which is neither a listed company nor a subsidiary of the listed company need not approach Central Government for permission for managerial remuneration subject to fulfillment of certain conditions. Similarly, the listed companies and its subsidiaries have also been exempted from the Central Government approval subject to fulfillment of certain conditions as stipulated in the amended Schedule XIII.

The Companies Bill, 2011 which has substantially liberalized the Managerial Remuneration does not envisage approval of Central Government in such cases.

Clarifications required from MCA

It would be in the interest of fairness that reimbursement of service tax should be kept outside the purview of “Managerial Remuneration”.

It would also be in the interest of the NEDs as well as the corporates if MCA issues a circular clarifying that the payment of Service Tax by the company to the Director in respect of sitting fees and/or commission would not tantamount to remuneration / increase in remuneration of the Director.

Clarifications required from MOF

CBEC vide its circular No. 115/09/2009 dated 31st July 2009 had clarified that the service tax is not payable on fees and commission payable to the Non Executive Directors on the Board of a company as they do not provide taxable service. The directors have fiduciary duties towards the shareholders and remunerations paid to Directors of companies would not be liable to service tax.. Even today, there is no change in the role of NEDs and the logic on which the CBEC had issued the said circular still holds good.

It would be in the interest of the NEDs as well as the corporates if MOF confirms that the clarification issued by CBEC vide Circular No. 115/09/2009 dated 31st July 2009 equally applies to fees and commission payable / reimbursement of expenses to Non-Executive directors and as such is not a taxable service under the newly inserted Section 66B of the Finance Act 2012.

If for some reason it is considered taxable under Section 66B, then it is requested to apply “reverse charge” principle under which the company on whose Board they are appointed may be made liable to pay service tax on such payments