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The Indian restaurant industry is worth Rs.75, 000 Crores and is growing at an annual rate of 7%. The industry is highly fragmented with 1.5 million eating outlets.

We are so pleased with the food in such outlets, that we don’t realize how much we defray for the bill. We end up paying inflated bills, ignorant of the effect of tax on the same. To avoid unnecessary lightening of the wallet, understanding the applicability of VAT and service tax on such transactions is desirable. Since sales tax (or VAT, from 2005), has been in place for decades, the possibility of splitting of amounts in the invoice, on actual basis, based on cost accounting norms is available, for charging VAT.

VAT is charged at every stage, on the value addition of goods. The rate differs as per the respective State’s VAT acts. VAT is levied on sale of food and drinks by a restaurant. Restaurants in different states calculate VAT differently. Such methods are also discussed in this article. Service tax is levied when one person provides or agrees to provide service, to another person, for a consideration. In case of food and drinks served in a restaurant, there is an inherent aspect of service involved. Thus, there is a service tax liability in such cases.

VAT Applicability

Provisions of VAT differ with respect to the distinct State VAT Acts. The VAT rates are specified in such acts and followed in the respective states. VAT provisions specified herein are as per Karnataka VAT law.

Most importantly, it is to be noted that sale of food and drinks is considered as a deemed sale, as per article 366(29A) of the Constitution of India, which reads:

“(f) a tax on the supply, by way of or as part of any service or in any other manner whatsoever, of goods, being food or any other article for human consumption or any drink (whether or not intoxicating), where such supply or service, is for cash, deferred payment or other valuable consideration;"

There are various aspects which are considered while charging VAT: 

1. Normally, VAT is levied on the entire bill amount. However, as per the service tax law, which is discussed below, service tax, is leviable on 40% of the bill amount. This means that the remaining 60% is deemed to be value of goods transferred. Accordingly, VAT is to be charged on 60% portion. In spite of this, the VAT laws specify that it must be charged on the entire bill amount, which contradicts logic. In the interesting case of Valley Hotels & Resorts vs. Commissioner of Commercial Tax, Dehradun- [2014(35) S.T.R. 28 (Uttarakhand)], it was decided that, VAT will NOT be payable on 40% of the gross bill amount, which is utilized for computation of Service Tax as per Rule 2C. Similar decisions have not been decided in all states and thus, the Commercial Taxes Department may demand VAT on the gross amount.

2. Many restaurants follow Composition Scheme and in some restaurants, the phrase “Inclusive of VAT” is written on the bill. Here, VAT is calculated at a common rate for simplifying accounting. The rate is 4% in Karnataka and differs accordingly in other states.

3. In many states, different rates are prescribed for food and alcoholic drinks. Yet, most restaurants charge a single rate on both food and drinks, which may be higher than their distinct rates.

Illustration for each of the above is given at the end of the article.

Service Tax Applicability

The provisions relating to restaurant services are as follows:

Section 66E of the Finance Act, which lists out the declared services, reads:

“(i) Service portion in an activity wherein goods, being food or any other article of human consumption or any drink (whether intoxicating or not) is supplied in any manner as part of activity.”

Notification no. 25/2012- Service Tax, dated 20-06-2012, specifies that, restaurants, eating joint or a mess, having the facility of air-conditioning or central air-heating in any part of the establishment, at any time during the year, is liable to pay service tax. Prior to 1.4.2013, an additional condition of having a license to serve alcoholic beverages existed. However, this condition was removed vide notification no. 3/2013 – Service Tax, dated 01.03.2013, w.e.f. 01.04.2013.

As per section 67 of the Finance Act, 1994, in case where the provision of service is for a consideration in money, the gross amount charged by the service provider for the service provided or to be provided by him. Thus, if proper bifurcation on actual basis is done, then, as per such amount, service tax can be charged.

For cases other than the above, valuation rules is followed. Rule 2C of Service Tax (Determination of Value) Rules, 2006, as amended by notification no. 24/2012 – Service Tax, dated 06.06.2012, specifies that, in case of service involved in supply of food and any other article of human consumption or any drink, at a restaurant, service tax is charged on 40% of the total amount of the bill.

With reference to the above provisions, it is clear that service tax is leviable only for those restaurants which have the facility of air conditioning or air heating, in any part of its premises, at any time during the year. The valuation for the purpose of service tax is done as per section 67 or Rule 2C, supra (as applicable). Thus, Service Tax is charged only on 40% of the gross bill amount, in cases where there is no bifurcation in the bill.

One of the common issues raised is regarding chargeability of service tax in case of home delivery by restaurants. As per law, service tax is chargeable when there is a facility of air conditioning or air heating in any part of the restaurant. In case of home delivery, the customers are not enjoying such facilities. Thus, generally, service tax shouldn’t be charged on such transactions. Other common issues are discussed in the Circular No. 139/8/2011 - TRU, dated 01/05/2011.

Recently, in the case of Indian Hotels & Restaurants Association vs. Union of India – [2014(34) S.T.R. 522(Bom.)], it was held that, service tax chargeable as per the Finance Act is a distinct tax. Sales tax on sale of food, etc. as per Article 366(29A) of the Constitution, comes under the purview of the State. Thus, service tax charged cannot be equated with tax on goods. However, a contrary decision was taken in the contemporary case of Union of India vs. Kerala Bar Hotels Association [2014-TIOL-1913-HC-KERALA-ST], wherein it was held that charge of service tax on such transactions is constitutionally invalid.

Being a matter of litigation, it is suggested to pay service tax as per provisions discussed above.

Service Charges

In addition to the above, the concept of Service Charges needs to be understood. Service charges is the amount collected by the restaurant (generally 5%-10% of the food bill), for services provided by them. Such charges are then distributed to the employees. Service charges must not be misunderstood for service tax. VAT and service tax are charged on the gross bill amount, including the service charges.

Conclusion

Thus, while billing invoice the next time, it is to be ensured that VAT and service tax are charged on proper amounts. Service tax is charged as per section 67 or Rule 2C (whichever is applicable) and computation of VAT will depend on the respective state VAT laws. Also, one needs to differentiate between service charge and service tax. This would make sure that the right amount of tax is paid to the Government. (Illustrations for various cases are detailed below).

Illustrations for various cases:

Case 1: (a)    VAT calculated on entire bill amount:

Particulars

Amount (in Rs)

  1. Food bill

1000.00

     B.  Service charge

  100.00

     C.  Gross bill amount

1100.00

     D.  Service tax [4.944%#  of 1100]

    54.40 

     E.  VAT [14.5%(say) on Rs.1100]

  159.50

     F.  Total (C+D+E)

1313.90

 

# Service Tax is on 40% of bill amount (Rule 2C), which equates to 4.944% [12.36*40%].

(b) VAT is calculated on 60% of bill amount (State of Uttarakhand):

Particulars

Amount (in Rs)

  1. Food bill

1000.00

     B.  Service charge

  100.00

     C.  Gross bill amount

1100.00

     D.  Service tax [4.944%#  of 1100]

    54.40

     E.  VAT [14.5%(say) on Rs.660##]

    97.50

     F.  Total (C+D+E)

1251.90

 

# Service Tax is on 40% of bill amount (Rule 2C), which equates to 4.944% [12.36*40%].

## Value for the purpose of VAT: 1100*60% = Rs.660.

Case 2:  When Composition Scheme is opted:

Particulars

Amount (in Rs)

  1. Food bill [inclusive of VAT of 4%]

1040.00

     B.  Service charge

  100.00

     C.  Gross bill amount

1140.00

     D.  Service tax [4.944%#  of 1100]

    54.40

     E.  Total (C+D )

1194.40

 

# Service Tax is on 40% of bill amount (Rule 2C), which equates to 4.944% [12.36*40%].

Case 3:  Different rates for food and alcoholic drinks:

Particulars

Amount (in Rs)

  1. Food bill

1000.00

     B.  Alcoholic Drinks

  500.00

     C.  Service charge

  100.00

     D.  Gross bill amount

1600.00 

     E.  Service tax [4.944%#  of 1600]

    79.00

     F.  VAT on food [5.5% (say) * 1000]

    55.00

     G.  VAT on alcoholic drinks [14.5%(say) * 500]

    72.50

     H.  Total ( D+E+F+G)

1806.50

 

# Service Tax is on 40% of bill amount (Rule 2C), which equates to 4.944% [12.36*40%].

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