This Tax Alert summarizes recent Circulars issued by Central Board of Indirect Taxes and Customs (CBIC) clarifying Goods and Services Tax (GST) applicability on liquidated damages, compensation and penalty arising out of breach of contract or other provisions of law, and taxability of various goods and services.
Key clarifications:
- Liquidated damages cannot be said to be a consideration received for tolerating the breach or non-performance of contract. They are rather payments for not tolerating the breach of contract. Such payments do not constitute consideration for a supply and are not taxable.
- Cheque dishonor fine, penalty imposed for violation of law and forfeiture of salary or recovery of bond amount is not a consideration for any service and hence, not taxable.
- The facility of accepting late payments with interest/fee, pre-closure of loan, allowing cancellation of an intended supply against payment of fee is a facility granted by supplier that is naturally bundled with the main supply. Therefore, the same should be assessed as principal supply.
- Representations were made seeking clarification regarding taxability of various goods and services. Accordingly, issue-wise clarifications as recommended by the GST Council have also been provided.
Comments
- Clarifications issued by CBIC attempts to clear the ambiguity on taxability of various goods and services and are likely to reduce unwarranted litigation to a large extent.
- Considering the binding nature of Circulars on the department, Industry may need to identify such issues where proceedings have been either initiated by the adjudicating authority or the matters are pending in appeal before appellate forums, in order to evaluate further course of action.
- Circular while clarifying on the taxability of cancellation charges does not seem to have addressed the circumstances under which such charges can be treated as liquidated damages / compensation or a consideration for provision of facility. This may be relevant due to differential tax treatment in both cases.
- While Circular treats early termination of contract as a facility provided and hence a service, there is a ruling of larger bench of Chennai Tribunal wherein it was held that foreclosure charges were in the nature of liquidated damages and not liable to service tax.
- Taxpayers may need to analyze the impact of Circular on treatment of recoveries made from employees towards loss or physical damage of employer's assets.
