Input tax credit by the service provider

Dear Mr.Anil,

The billing from your Contractor comprises of following 3 component

1) Cost (which you mentioned as reimbursement)

2) 10% Admin Charges

3) Service tax

Evaluating the 1st component "cost" your contrator needs to be very careful if he wants to treat it as reimbursement. He must check rule 5 of Service tax (Determination of Value) rules as below.

 Inclusion in or exclusion from value of certain expenditure or costs.–

(1) Where any expenditure or costs are incurred by the service provider in the course of providing ) taxable service, all such expenditure or costs shall be treated as consideration for the taxable service provided or to be provided and shall be included in the value for the purpose of charging service tax on the said service.

(2) Subject to the provisions of sub-rule (1), the expenditure or costs incurred by the service provider as a pure agent of the recipient of service, shall be excluded from the  value of the taxable service if all the following conditions are satisfied, namely:-

(i)        the service provider acts as a pure agent of the recipient of service when he makes payment to third party for the goods or services procured;

(ii)       the recipient of service receives and uses the goods or services so procured by the service provider in his capacity as  pure agent of the recipient of service;

(iii)      the recipient of service is liable to make payment to the third party;

(iv)      the recipient of service authorises the service provider to make payment on his behalf;

(v)       the recipient of service knows that the goods and services for which payment has been made by the  service provider shall be provided by the  third party;

(vi)      the payment made by the service provider on behalf of the recipient of service has been separately indicated in the invoice issued by the service provider to the recipient of service;

(vii)     the service provider recovers from the recipient of service only such amount as has been paid by him to the third party; and

(viii)    the goods or services procured by the service provider from the third party as a pure agent of the recipient of service are in addition to the services he provides on his own account.

Explanation1.–For the purposes of sub- rule (2), “pure agent” means a person who–

(a)     enters into a contractual agreement with the recipient of service to act as his pure agent to incur expenditure or costs in the course of providing  taxable service;

(b)     neither intends to hold  nor holds any title to the goods or services so procured or provided as pure agent of the recipient of service;

(c)     does not  use  such goods or services so procured; and

(d)     receives only the actual amount incurred to procure such goods or services.

Now, if the expenditure incurred for sub contract are considered as Reimbursement than Contractor can not avail the input tax credit as he is acting only as an agent. 

If expenditure for sub contractor are considered on principle to principle basis as per sub clause (1) above than contractor can take the set off of input service tax paid to sub contractor and charge service tax to you on entire bill (including cost).

I hope this will clerify you.

Regards

Dharmesh

08898507555