1. Service Tax Point of Taxation Rules, 2011 & Other Consequential Changes 1

2. 2  During August, 2010, the Central Board of Excise and Customs (CBEC), published draft rules in this respect for comments from the tax payers. Originally, it was proposed to be implemented from January, 2011. However, it was postponed and has been proposed in the Budget, 2011 under the name and style of “Point of Taxation Rules, 2011” to be effective from 1 st April, 2011.  This is a major change in the area of Service Tax (ST) as it amends the very basis of determining taxable event.  Aligned with the provisions of Central Excise and VAT. BACKGROUND

3. 3  On 1 March, 2011 vide notification no. 18/2001-Service Tax notified “Point of Taxation Rules, 2011” (POTR).  The purpose of these rules is to introduce clarity and certainty in the matter of levy and collection of Service Tax particularly in situations of change in rate of service tax or imposition of service tax on new service.  Even before the PoTR, 2011 see the light of the day, a major surgery was carried out wherein the whole focus for the events determining PoT was shifted to issue of invoice. Notification No. 25/2011 dt. 31 st March, 2011 made many changes in the PoTR. As if the confusions were not enough, Notification No. 25/2011 dt. 31 st March, 2011 added few more. INTRODUCTION

4. 4 Structure Rule 2Definitions Rule 3Determination of PoT Rule 3(a) Determination of PoT where invoice has been issued for service provided or to be provided Rule 3(b) Determination of PoT where payment has been received before the time provided in Rule 3(a) Rule 4(a) Determination of PoT where service has been provided before the change in effective rate of tax Rule 4(b) Determination of PoT where service has been provided after the change in effective rate of tax Rule 5: Determination of PoT where tax is being levied on the service for the first time Rule 6:Determination of PoT in case of continuous supply of services Rule 7:Determination of PoT in case of specified services or persons Rule 8: Determination of PoT where service in the case of copyright, trademarks, designs or patents Rule 9:Transitional Provisions

5. Important Definitions “Point of taxation” means the point in time when a service shall be deemed to have been provided. “Taxable service” means a service which is subjected to service tax, whether or not the same is fully exempt by the Central Government under Section 93 of the Act. “Continuous supply of service” means any service which is provided, or to be provided continuously, under a contract, for a period exceeding three months, or where the Central Government, by a notification in the Official Gazette, prescribes provision of a particular service to be a continuous supply of service, whether or not subject to any condition. 5

6. 6 RULE 3 - Determination of POT. ‘Point of taxation' shall be, (a) the time when the invoice for the service provided or to be provided is issued: Provided that where the invoice is not issued within fourteen days of the completion of the provision of the service, the point of taxation shall be date of such completion. (b) in a case, where the person providing the service, receives a payment before the time specified in clause (a), the time, when he receives such payment, to the extent of such payment. Explanation.- For the purpose of this rule, wherever any advance by whatever name known, is received by the service provider towards the provision of taxable service, the point of taxation shall be the date of receipt of each such advance.”.

7. 7 The service tax liability would arise on the earliest of the following:  Issuing of an invoice for service provided or to be provided,  where the invoice is not issued within 14 days of the completion of the provision of the service, the point of taxation shall be date of such completion.  Date of actual receipt of payment, to the extent of such receipt, if this date is earlier to the above clause.  Where any advance is received, POT shall be the date of receipt of each such advance. RULE 3 - Analyses

8. 8 S. No. Date of completion of service Date of invoice Date on which payment recd. Point of Taxation Remarks 1. April 10, 2011 April 20, 2011 April 30, 2011 April 20, 2011 Invoice issued within 14 days and before receipt of payment. 2. April 10, 2011 April 26, 2011 April 30, 2011 April 10, 2011 Invoice not issued within 14 days and payment received after completion of service 3.April 10, 2011April 20, 2011April 15, 2011 Invoice issued within 14 days but payment received before invoice. 4. April 10, 2011 April 26, 2011 April 5, 2011 (part) and April 25, 2011 (remaining) April 5, 2011 and April 10, 2011 for respective amounts Invoice not issued within 14 days. Part payment before completion, remaining later.

9. 9 Important aspect Provision of service Issue of Invoice Completion of service Receipt of payment

10. 10 Sr.Events occurring in the process of Provision of Service 1.0 SR approaches SP for provision of services 2.0 SP provides details of services to be provided 3.0 SP and SR negotiates and finalise terms of services to be provided, amount of consideration, time of payment and other conditions 4.0 SP and SR enters in to a contract 5.1 If so required in the contract, SP issues invoice for services to be provided as agreed upon in the contract. 5.2 If so required in the contract, SR makes payment of advance as provided in the contract, if any 6.0 SP commences providing of services 6.1 While provisioning of service is in progress, if so required in the contract, SR issues invoice as provided in the contract, if any 6.2 While provisioning of service is in progress, if so required in the contract, SR makes payment of advance as provided in the contract, if any 7.1 On a specified date as agreed upon, SP completes providing of services either fully or in part. 7.2 It may so happen that SP may not be in a position to provide the services fully as agreed upon 8.0 SP issues invoice for services provided till date 9.0 SR makes the payment to SP against the bill received after deducting certain amount as retention money or deposit as provided in the contract 10.0 SR makes payment of retention money 11.0 SP writes off balance amount of the invoice raised which has not been received. 12.0 In the eventuality of failure of provision of services and non-recoverability of advance paid, SR writes off the amount of advance paid.

11. 11 Analyses Now, it is clear that, the service tax liability would arise in a case, where an invoice is raised even when no service has actually been provided. To levy service tax on the basis of the raising of an invoice, when no service has been provided or when no payment has been received, is to go beyond the accrual basis. Example: A software player raises an invoice for a three year AMC on July 1, 2011, to run from April 1, 2012 would be liable to pay service tax on the basis of raising of the invoice. In terms of the accrual basis, this software player would not have booked any revenue out of this AMC for the financial year 2011-12 and would not even rendered any service till April 2012. But, the software player would still be liable to pay service tax on the basis that, he has raised an invoice.

12. 12 Example: M/s A Pvt. Ltd. has commenced provisioning of service on 1 st August, 2011 and completed on 20 th September, 2011. However, invoice for the same has been issued on 31 st October, 2011 and paid tax thereon 5 th November, 2011. Determine tax implications this can have on Co. 1. Firstly, since it is of duration of less than 3 months, it will not fall in CSoS. It will be governed by Rule 3. 2.As per proviso to Rule 3 (a) since provision of service has been completed but invoice has not been issued within 14 days, POT would be the date of completion of service. In view of this, tax liability will relate back to the tax rate as prevailing on 20 th September, 2011 and not 31 st October, 2011. 3.Accordingly, Co. should have paid the tax by 5 th October, 2011. Instead, it has been paid on 5 th November, 2011. Therefore, interest will have to be paid for the period from 5 th October to 4 th November, 2011. 4.Meanwhile, Co. must have filed its half-yearly return by 25 th October, 2011. As the invoice was not issued in Sept., 2011, ST-3 filed will not be correct to that extent. Therefore, A Pvt. Ltd. will have to file revise return containing value of service on the contract which was completed on 20 th Sept. 2011.

13. 13 Example contd… In the above example, if A Pvt. Ltd. issues invoice on 1 st October, 2011 at what point of time tax liability will arise? Since, invoice has been issued within the stipulated period of 14 days, it will be subject to tax in the month of October, 2011. Due date of payment of tax will be 5 th November, 2011. In view of this, there will not be any question of payment of interest for late payment of tax or revising ST-3 filed.

14. 14 Service Not Provided It may so happen that for some reasons the time for provisioning of service has already expired but service has not been provided. Since the service has not been provided, invoice has not been raised. What will happen in such cases? Clause 3(a) provides for the cases wherein the invoice for the service provided has been issued. It is also provided that issue of invoice for service to be provided will also lead to taxation. Therefore, if the invoice has not been issued, the question of paying tax does not arise. It can be seen that tax liability is determined with reference to issue of invoice. Hence, the question of levying tax on notional transaction does not arise.

15. 15 Payment of Deposit SR is required to make payment of security deposit. Although it is not part of the consideration for services to be provided, but its valuation may be disputed. Explanation to Rule 3 provides for such cases. Explanation.-For the purposes of this rule, wherever any advance, by whatever name known, is received by the service provider towards the provision of taxable service, the point of taxation shall be the date of receipt of each such advance. The ST Department has taken a view that payment made by SR as security deposit to the SP is the payment and, therefore, is subject to tax.

16. S.ConditionsPoint of Taxation i Where the payment received after the change of rate but the invoice issue prior to the change of tax rate Date of payment received ii Where the invoice issued and payment received before the change of tax rate Date of payment or issue of invoice, whichever is earlier iiiWhere payment received before the change of rate but the invoice issued after the change of rate Date of issuing of invoice In case of change in effective rate of tax –Rule 4  Where the taxable service provided before the change SNConditionsPoint of Taxation i Where the invoice issued and the payment received after the change of rate Date of payment received or issuing of invoice, whichever is earlier ii Where the invoice issued prior to change in tax rate but the payment is received after the change of rate Date of issuing of invoice iiiWhere payment received before the change of rate but the invoice issued after the change of rate Date of payment received  Where the taxable service provided after the change 16

17. ‘ POT’ at glance…. Provision of Service Raising of Invoice Payment Recd. Point of Taxation BeforeAfter Earlier of raising of invoice and date of Payment. Before AfterRaising of invoice BeforeAfterBefore Date of receipt of Payment AfterBeforeAfterDate of receipt of Payment AfterBefore Earlier of raising of invoice and date of Payment After BeforeRaising of invoice 17

18. 18 Change in Effective Rate of Tax Rule 4 does not define this term. However, it means that any of the event which has the effect of reducing or enhancing the amount of tax liability. This can be done by comparing tax liability before and after amendment or insertion etc. Change in effective rate of tax may arise out of the following: a) Any amendment, insertion or deletion of a clause in the Act b) Any amendment, insertion or deletion of a clause in any Rules governing provisions of ST c) Issue or withdrawal of a Notification or amendment in any clause thereof d) Issue or withdrawal of a Circular or amendment in any clause thereof

19. 19 However, the question that will arise is whether the provision of service should have been completed at the point of time? What will happen if the providing of service is going on at the time of change in rate of tax? Such questions remain unanswered.

20. 20 Point of taxation in the case of new services - Rule 5 Issue of InvoicePaymentPoint of Taxation Before such service became taxable No tax payable to the extent of invoice issued and payment received Within the period provided in Rule 4A of S. Tax Rules Before such service became taxable No tax payable

21. 21 Rule 6 - Determination of point of taxation in case of continuous supply of service (CSOS): Point of taxation in case of CSOS shall be: a.Date of issuing of invoice. b. In case the invoice is not issued within 14 days of completion of provision of service, the date of such completion. c. In case a payment is received before issuing an invoice, the date of receipt of such payment. Explanation 1. –Where the provision of the whole or part of the service is determined periodically on the completion of an event in terms of a contract, which requires the service receiver to make any payment to service provider, the date of completion of each such event as specified in the contract shall be deemed to be the date of completion of provision of service. Explanation 2.- Wherever any advance, by whatever name known, is received by the service provider towards the provision of taxable service, the point of taxation shall be the date of receipt of each such advance.

22. 22 SNoScenarioPoint of Taxation 1. Invoice issued within 14 days from the completion of milestone for payment Date of invoice 2. Invoice NOT issued within 14 days from the completion of milestone for payment. Date of milestone for payment 3. Advance received before completion of milestone for payment Date of receipt to the extent of such advance 4.Invoice issued before completion of milestone for paymentDate of invoice 5. No milestone for payment agreed in the contract and no amount received till completion of service and invoice raised within 14 days from completion Date of invoice 6. No milestone for payment agreed in thecontract and no amount received till completion of service and invoice not issued Date of completion of service 7.No milestone for payment and part amount received before completion Date of such receipt to the extent of such amount Continuous Supply Service

23. 23 Following services notified as “continuous supply of services” in terms of clause 2(c) of the rules vide notification No. 28/ST-2011 dated 01.04.2011: (a) Telecommunication service [65(105)(zzzx)] (b) Commercial or industrial construction [65(105)(zzq)] (c) Construction of residential complex [65(105)(zzzh)] (d) Internet Telecommunication Service [65(105)(zzzu)] (e) Works contract service [65(105)(zzzza)] Thus these services will constitute “continuous supply of services” irrespective of the period for which they are provided or agreed to be provided. Other services will be considered continuous supply only if they are provided or agreed to be provided continuously for a period exceeding three months.

24. Analyses of CSOS Definition is based on terms of contract. If time frame is less than 3 months – Fall into One time. However more than 3 months – CSOS. What will happen where there is no written contract? Would cover the cases where there is Informal understanding between the parties. What will happen where the provision of service extended beyond 3 months as against originally envisaged to be less than 3 months. Agreement is for 1 year. Service is to be provided as and when requisitioned. 24

25. 25 Contract under Execution as on 1-4-2011 PoTR comes into operation w.e.f. 1-4-2011. There are number of contracts which are in the course of being executed. A question that will arise is whether these contracts will also be governed by PoTR. As per Rule 9 the SP has been provided option for following the existing method till 30 th June, 2011. For the contracts extending beyond 30 th June, 2011, provisions of PoTR will apply.

26. 26 Implications for Business Since clause 2(c) defines all the contracts extending beyond the period of three months as CSoS, large number of contracts will get covered under it and consequently be liable to tax on achievement of each milestone. Till now such contracts did not pose any problem as payment of tax was linked with receipt of payment. However, under the amended rule a serious issue will arise. The first and foremost is keeping track of various milestones falling due on various dates. In the case of SP, executing various contracts spread over a different period of time this is going to be a Herculean task. This is for the reason that care will have to be taken to see that all the cases covered are included for determining tax liability. It will also to be ensured that there is no duplication of payment. In the case of corporate bodies where payment of tax is required to be made on monthly basis, this will be a most complex exercise.

27. 27 Effect on Realty developers and software developers This provision will drastically affect the Realty and IT sectors. As we know, Realty Players enter into construction contracts with their customers/flat buyers, as per which, amounts are payable by the customers on fixed dates, subject to completion of the part service, eg. fixing of slabs, etc. Now, irrespective of whether these services have been rendered or not, the Realty Player would be liable to pay service tax on the dates mentioned in the contracts, irrespective of whether any construction work has happened on the site. Similarly, software developers, who enter into mid to long term development contractors with customers, would be liable to pay service tax on the basis of the dates mentioned in the contracts, irrespective of whether the development work has been completed or not. Here again, this Explanation is bound to create a lot of litigation.

28. 28 Rule 7- Determination of POT in case of specified service or persons (i) Export of services (ii) SR is liable to make the payment of ST under reverse charge u/s 68(2). (iii) Individuals, proprietorship & partnership firm providing following specified services:- a) Architects b) Interior Decorators c) Chartered Accountants d) Cost Accountants e) Company Secretary f) Scientific or Technical Consultancy services g) Legal services Benefit shall not be available for any other service provided by these S.P. along with S.S. In above cases the POT shall be the date on which payment is received or made, as the case may be.

29. 29 Export of services  Where the payment of service provided is not received within the period laid down by the Reserve Bank of India, the POT shall be determined as if this rule does not exist.  It will have tax implications which will relate back to the point of time which has taken place long back. Here, the question of payment of tax and interest will arise.  A issue that may also arise is whether this clause will be applicable with respect to a particular transaction or to a SP. Whether, breach of condition in one case will lead to non- applicability of rule 7(a) in all the transactions of the said SP. If it is so, it can have serious implications on the business.

30. 30 Payment u/s 68(2) under reverse charge  Section 68(2) shifts the liability on service recipient under reverse charge. In this case, tax liability will arise on payment and not on the basis of receipt of invoices.  It should be noted that CENVAT Credit, wherever eligible for such bills, can be taken only after the receipt of invoice and payment.  Condition - SR should make the payment within six months of the date of invoice. Otherwise POT shall be determined as if this rules does not exist.

31. 31 Associated Enterprises In case of “associated enterprises”, where the person providing the service is located outside India, point of taxation shall be the date of credit in the books of account of the person receiving the service or date of making the payment whichever is earlier.

32. 32 Rule 8- Determination of point of taxation in case of copyrights, etc. In respect of royalties and payments pertaining to copyrights, trademarks, designs,patents, where the whole amount of the consideration for the provision of service is not ascertainable at the time when service was performed, and subsequently the use or the benefit of these services by a person other than the provider gives rise to any payment of consideration, the service shall be treated as having been provided each time when a payment in respect of such use or the benefit is received by the provider in respect thereof, or an invoice is issued by the provider, whichever is earlier.

33. 33 A typical nature of such service is that at the time of entering into the contract, value of service is not ascertainable. Secondly, value of service gets determined by the act of a person who is not SP. For such cases, two events have been provided for: a) Payment in respect of IPR b) Issue of invoice by the service provider For example, in the case of use of trademark, value of service may be linked with sales. Contract entered into in this respect will lay down the rate at which royalty will have to be paid. Sales effected by SR will give rise to right to payment to be made by SR. In such cases, quantification of value of service will depend on act of SR and not SP. Intellectual Property Rights

34. 34 Rule 9- Transitional Provisions Nothing contained in these Rules shall be applicable (i) where the provision of service is completed; or (ii) where invoices are issued prior to the date on which these rules come into force. Provided that services for which provision is completed on or before 30th day of June, 2011 or where the invoices are issued upto the 30th day of June, 2011, the point of taxation shall, at the option of the taxpayer, be the date on which the payment is received or made as the case may be.

35. 35 a) If the provision of service has already been completed before 1 st April, 2011, these rule will not be applicable. In such cases, tax will have to be paid in the month in which the payment has been received which may be subsequent to 31 st March, 2011. Moreover, in these cases, issue of invoice can be subsequent to 31 st March, 2011. b) In the second case, if the S.P. has already issued invoices before 31 st March, 2011, such cases will also not be governed by these rules. It should be noted that issue of invoice is not attached with any condition like provision of service. Provision of service in such cases may extend beyond 30 th June, 2011. c) Proviso to Rule 9 gives two options to S.P. Under the first option, the S.P. can opt for the old system even in cases where provision of service has been completed after 1 st April, 2011 but before 1 st July, 2011. Issue of invoice and / or receipt of payment can be after 1 st July, 2011. No time limit has been laid down in this respect. d) Under the second option, if the S.P. has issued invoice after 31 st March, 2011 but before 1 st July, 2011, these rules will not be applicable. No condition has been attached with issue of invoice. e) An interesting issue here is availing of CENVAT Credit by S.R. Under amended Rule 7 of CENVAT Credit Rules, S.R. can claim credit on the basis of invoices received. Hence, in the cases of invoices issued which may be governed by erstwhile provisions, S.R. will be in a position to claim CENVAT Credit even without making the payment. It may so happen that during this period there may be large scale of cases wherein S.P. will follow erstwhile Rule i.e. defer the liability to pay the tax while S.R. will be in a position to claim CENVAT Credit. This may pose problem to the Government in terms of revenue collection for the intervening period as there will be substantial amount of claim of the credit.

36. Consequential amendments in S. T. Rules 36 (i) As the PoT is proposed to be linked with various events which are based on completion of service, it becomes necessary to amend the provisions relating to issue of invoice on ‘completion’ of service than the ‘provision’ of service. (ii) The provision for issuance of an invoice, bill or challan within 14 days from the date of completion is restored. (iii) In case of continuous supply of service, an invoice, bill or challan, as the case may be, has to be issued within fourteen days from the date of completion of the milestone specified in the contract requiring the service receiver to make payment. (iv) If the amount of invoice is renegotiated due to deficient provision or in any other way changed in terms of conditions of the contract (e.g. contingent on the happening or non-happening of a future event), the tax will be payable on the revised amount provided the excess amount is either refunded or a suitable credit note is issued to the service receiver. It does not cover bad debts. (v) Board Clarification clearly says that this concession is not available for bad debts.

37. 37 Amendments in CENVAT Credit Rules (i)The CENVAT credit on input services can be availed on receipt of invoice. However, the payment has to be made within three months. This is effective from 1.4.2011 irrespective of the fact that the service provider may continue to pay service tax on receipt basis. (ii)In case of service tax paid by the recipient of service on reverse charge basis, the credit can be taken on making payment of the value of service to the service provider and service tax to the Government. (iii)If the payment is not made within three months, then the credit availed has to be reversed/paid. However the same can be taken back as credit on making payment. (iv)If subsequent to payment made or invoice received, an amount is received back or credit note is received, when the value of service is renegotiated or altered for any reason the credit availed to that extent is required to be reversed/paid. (v)Credit on the invoices issued prior to 01.04.2011 by the service provider would continue to be eligible only on payment basis and not on receipt of invoice.

38. 38 CENVAT Credit …. (vi) Supplementary invoice, bill or challan issued by a provider of output service, which should be in terms of the Service Tax Rules, 1994 is also added as one of the documents on which credit can be availed. However if such invoice is raised by the service provider in cases where such additional amount of tax became payable by him on account of fraud or collusion or wilful mis-statement or suppression of facts or contravention of any of the provisions of the Finance Act or of the rules made there under with the intent to evade payment of service tax, then it would not be considered as eligible document for credit. (vii) As regards to computation of proportionate credit or payment of 5% pertaining to trading goods, the rules have been amended to provide that the value of exempted service will be difference between the sale price and the cost of goods sold (determined as per the generally accepted accounting principles with out including the expenses incurred towards their purchase) or 10% of the cost of goods sold, whichever is more.