The Gujarat High Court has quashed a service tax show cause notice seeking recovery of more than ₹15.80 crore from an engineering company on the ground that service tax cannot be imposed on losses incurred during the execution of contracts, particularly for a period when the relevant valuation rule had already been declared ultra vires by the Supreme Court.
The Bench of Justice A.S. Supehia and Justice Vaibhavi D. Nanavati set aside the show cause notice issued by the Service Tax Department by observing that the notice lacked jurisdiction because it was founded upon Rule 5(1) of the Service Tax (Determination of Value) Rules, 2006, a provision that had already been struck down by the Supreme Court in Union of India v. Intercontinental Consultants & Technocrats Pvt. Ltd.
The petitioner/assessee is engaged in providing consulting engineering services, erection, commissioning and installation services, construction services and works contract services to entities in India and abroad. The company had regularly filed service tax returns and discharged its service tax liabilities.
The controversy arose when the Service Tax Department issued a show cause notice demanding ₹15,80,81,535 along with interest and penalties under Section 73(1) of the Finance Act, 1994. The Department alleged that service tax was payable on losses suffered by the company during Financial Years 2012-13 to 2014-15, treating excess expenditure over contract revenue as part of the taxable value of services.
According to the Department, these losses were includable in the assessable value by invoking Rule 2(c) and Rule 5(1) of the Service Tax (Determination of Value) Rules, 2006.
The principal question before the Court was whether service tax could be demanded on losses incurred by a service provider during execution of contracts, especially for a period prior to May 14, 2015.
The petitioner argued that service tax is chargeable only on the consideration received or receivable for services and not on losses that are never recovered from customers. It further contended that Rule 5(1), which sought to include reimbursable expenditures in the value of taxable services, had already been declared ultra vires Section 67 of the Finance Act, 1994 by the Supreme Court in the landmark Intercontinental Consultants judgment.
The High Court extensively referred to the Supreme Court’s decision in Union of India v. Intercontinental Consultants & Technocrats Pvt. Ltd. In that case, the Supreme Court held that Rule 5(1) travelled beyond the scope of Section 67 of the Finance Act because the statute permitted taxation only on the gross amount charged for the taxable service and not on independent expenditures incurred while rendering the service.
The Supreme Court had further observed that the legislature itself subsequently amended Section 67 through the Finance Act, 2015 with effect from May 14, 2015 to specifically include reimbursable expenditure within the scope of “consideration.” Since the amendment introduced a substantive change in law, it could operate only prospectively and not retrospectively.
The Gujarat High Court noted that the disputed period in the present case related to Financial Years 2012-13 to 2014-15, which was entirely prior to the statutory amendment of May 14, 2015. Consequently, the Department could not rely upon the expanded definition of consideration introduced later.
The Court emphasized that Rule 5(1) had already been struck down by the Supreme Court and therefore could not be used as a basis for initiating proceedings. Since the show cause notice was founded on a provision that had been declared invalid, the notice itself was held to be without jurisdiction.
The Bench observed that the petitioner’s case was squarely covered by the Supreme Court’s ruling in Intercontinental Consultants & Technocrats Pvt. Ltd. and by an earlier Gujarat High Court order involving a similar dispute concerning the same assessee.
Allowing the writ petition, the Gujarat High Court quashed and set aside the show cause notice dated October 31, 2017. The Court held that service tax could not be demanded on losses incurred under contracts for the period prior to May 14, 2015 by invoking Rule 5(1) of the 2006 Rules, which had already been declared ultra vires the Finance Act.
Membership Required to Access Case Details & Order Copy
To view the complete Case Details and Download Order Copy, you must have an active membership. Please subscribe to continue.
