2025 (6) TMI 1359 - AT - Service Tax

Levy of service tax - interest income earned on loans provided for two-wheeler - Financial leasing services - correctness of the quantification method adopted by the adjudicating authority for calculating service tax - total charges recovered for loan provided which are approx. 5% of amount of loan disbursed - Demand pertaining to the period prior to April 2010 - Extended period of limitation - Demand confirmed in the impugned order on the Agreement charges recovered from the customers - Demand of Rs.1, 06, 358/- confirmed in the impugned order on the legal charges reflected in the P L Account - Penalty u/s 78 of FA - Penalty imposed on the Director under Section 78A of the Finance Act 1994. Levy of service tax - interest income earned on loans provided for two-wheeler - HELD THAT - The ld. adjudicating authority has considered the total interest income as reflected in P L Account of the appellant. It is a fact that interest earned on rendering of Banking and Financial Services are exempted from payment of service tax. There is no dispute on this. In this case the dispute has arisen on the loans rendered to purchase of two-wheelers. The Department has considered the loans rendered to two-wheeler purchase under the category of Financial Leasing . However while demanding service tax they have taken the entire interest income instead of taking the interest earned only in respect of loans granted for two-wheelers purchase. Classification of service - Financial leasing services - HELD THAT - In the instant case of Loan against hypothecation of asset it is purely a case of giving certain amount of money to a borrower on Loan. The Loan may be given for a short term or a long term. During the period of enjoying the loan amount the borrower is supposed to pay some amount as interest to the lender. The ownership of the asset is always with the borrower for which the loan may be taken by him. However to protect the risk of non-payment of the loan amount the asset is hypothecated to the lender who can sell off the asset in case of failure to pay the loan amount by the borrower. During the Loan period the asset is hypothecated to the lender who has a lien over the asset there is an endorsement by the lender . On repayment of the full amount along with interest as per the terms of the contract the lien over the asset is released by the lender by deleting the endorsement. The document indicates that the ownership of the vehicle rests with the borrower. Thus the submission of the appellant agreed upon that the said services under undertaken by the appellant cannot be categorized as Financial leasing . It is a case of mere lending of money and hence the interest earned is not liable to service tax under the category of Financial Leasing - the demand confirmed in the impugned order by treating the services rendered by the appellant as Financial Leading Service is not sustainable and hence the same is set aside. Levy of service tax - total charges recovered for loan provided which are approx. 5% of amount of loan disbursed - HELD THAT - As per Section 108 of the Finance Act 2013 the appellant was entitled to immunity from reopening of matter in any proceedings relating to the period covered by the scheme. Moreover as per Section 111 of the Act the Commissioner of Central Excise was empowered to serve notice to the appellant in respect of declaration made i.e. for the period April, 2010 to December, 2012 if he had reasons to believe that the declaration made was substantially false. However in this case it is observed that no such notice was served to the appellant and hence the submission made by the appellant agreed upon that the declaration filed by them was a conclusive one - the declaration filed by the appellant was a conclusive one for the period from April, 2010 to December, 2012 as they had opted for the VCES 2013 Scheme - the demand confirmed in the impugned order for this period is not sustainable. Demand pertaining to the period prior to April 2010 - HELD THAT - This demand pertaining to the period prior to April 2010 has been issued in the Show Cause Notice dated04.12.2014. There is no evidence brought on record to allege suppression of fact with intention to evade payment of tax. Hence the demand confirmed by invoking the extended period of limitation is not sustainable. Extended period of limitation - HELD THAT - The demand pertains to the period after December 2012 also which is covered by the second Show Cause Notice dated 02.03.2015 pertaining to the period from January 2013 to March 2014. The appellant has not disputed the liability of service tax on this issue raised in the show cause notice dated 02.03.2015. The demand for the period after December 2012 has been issued within the normal period of limitation. Accordingly the appellant is liable to pay service tax on the said services for the demand covering the normal period of limitation covered in the Notice dated 02.03.2015 - the issue is remanded back to the adjudicating authority for the limited purpose of quantifying the demand of service tax for the normal period of limitation raised in the Notice dated 02.03.2015. The adjudicating authority should give an opportunity of personal hearing to the appellant and decide the issue within a period of three months from the date of receipt of this Order. The appellant is also directed to cooperate by providing all necessary information for finalization of the issue. Demand confirmed in the impugned order on the Agreement charges recovered from the customers - HELD THAT - Appellant submits that Service tax on agreement charges @ Rs. 500 per customer has been calculated over and above the total charges and hence considered twice. There are no finding in the impugned order contrary to this claim made by the appellant. Accordingly the demand confirmed under this category is not sustainable. Demand of Rs.1, 06, 358/- confirmed in the impugned order on the legal charges reflected in the P L Account - HELD THAT - The appellant is liable to pay service tax on the said charges on reverse charge basis (RCM). The appellant has not disputed this demand. Accordingly the demand of service tax confirmed on this count. Penalty under Section 78 - HELD THAT - It is seen that Section 78 provides for penalty equivalent to hundred percent amount of service tax for failure to pay service tax for reasons of fraud etc. leviable on the person who has been served notice under the proviso to sub-section (1) of section 73 - However in the instant case as the Show Cause Notice dated 04.12.2014 was issued under Section 73(1) imposition of penalty under Section 78(1) is without any statutory authority and thus liable to be dropped. The submission made by the appellant in this regard agreed upon that the impugned SCNs were issued completely on the basis of submissions made by the appellant during the process of investigation without a single extraneous material or information on record and hence the allegation of wilful suppression is vague arbitrary and bad in law for which reason imposition of penalties are found to be unwarranted. Penalty imposed on the Director under Section 78A of the Finance Act 1994 - HELD THAT - In the instant case it has not been established either in the impugned Show Cause Notices or impugned order that the Director had acted in contumacious manner so as to warrant imposition of the penalty. The impugned order does not record any reason for which the said Director could be said to be illegally involved in the evasion of service tax. It is also seen from the records that Shri Gautam Jain duly co-operated during the entire investigation process as and when required which fact is also on record as duly acknowledged in the impugned Show Cause Notice dated 04.12.2014. Mere signature and certification in Form VCES-1 filed by the appellant cannot prove deliberate act on part of the Director to disobey the law with an intent to evade payment of tax - the penalties imposed in the impugned order are not sustainable. Conclusion - i) The demand confirmed in the impugned order on account of Interest income earned on loans provided for two-wheeler by treating the service as financial leasing is set aside. ii) In respect of the demand pertaining to the issue for which the appellant has opted for the VCES 2013 the appellant is liable to pay Service Tax on the said services for the period covered in the Notice after December 2012 i.e. January 2013 to March 2014.The demand confirmed in this regard for the remaining period i.e. prior to December 2012 is set aside. This issue is therefore remanded back to the adjudicating authority for the limited purpose of quantifying the demand of Service Tax payable by the appellant in this regard for the normal period of limitation raised in the Notice dated 02.03.2015. iii) The demand confirmed in the impugned order on account of Agreement charges recovered for loan provided is set aside. iv) The demand confirmed in the impugned order on account of Legal charges is upheld along with applicable interest. v) The demand confirmed in the impugned order on account of Legal charges is upheld along with applicable interest. Appeal disposed off.

Summary

The core legal questions considered in this case include:

1. Whether the interest income earned by the appellant on loans provided for two-wheelers is liable to service tax under the category of "Financial Leasing" or exempt as banking and financial services.

2. The correctness of the quantification method adopted by the adjudicating authority for calculating service tax on various charges collected by the appellant, including total charges, agreement charges, and legal charges.

3. The validity and applicability of the Voluntary Compliance Encouragement Scheme (VCES), 2013, and whether the appellant's declaration under the scheme bars reopening of the matter for the declared period.

4. Whether the Show Cause Notices issued are within the prescribed limitation period under Section 73(1) of the Finance Act, 1994.

5. The legality of penalty imposition under Sections 76, 77, 78, and 78A of the Finance Act, 1994, particularly the penalty on the appellant and the personal penalty on the Director.

Issue-wise Detailed Analysis

1. Classification of Interest Income on Two-Wheeler Loans as Financial Leasing or Banking/Financial Services

The legal framework involves the definition of "Financial Leasing" under Notification No. 26/2012-ST dated 20.06.2012, which requires that the lease contract must be for use and occupation of a specific asset by the lessee, with lease payments covering full cost plus interest, and the lessee having the option or entitlement to own the asset at lease end. Banking and financial services, including lending money, are exempt from service tax.

The adjudicating authority treated the loans for two-wheelers as financial leasing and demanded service tax on the entire interest income. The appellant contended that the transaction was a mere loan against hypothecation, where ownership of the asset remains with the borrower, and the lender holds only a lien for security. The appellant submitted a sample loan agreement and dealer invoice to show ownership lies with the borrower.

The Tribunal examined the agreement and found no clause granting the lessee an option to purchase or ownership transfer at the end of payment, confirming the appellant's position that the transaction is a loan, not a lease. The Tribunal relied on a recent Division Bench decision involving similar facts, which held that such transactions are not financial leasing but mere hire purchase finance agreements outside the ambit of service tax.

Consequently, the Tribunal held that the demand of service tax on interest income by classifying it as financial leasing was unsustainable and set aside the demand.

2. Quantification of Service Tax Demand on Charges Collected for Loans

The adjudicating authority confirmed service tax demand on total charges approximated at 5% of loan disbursement, agreement charges per customer, and legal charges under reverse charge mechanism (RCM). The appellant challenged the quantification method as improper and irrational.

The appellant argued that:

• The total charges were calculated on the higher of loans outstanding in the balance sheet or loan disbursed, whereas only charges on actual disbursement should be considered.
• Loans/Advances in the balance sheet include personal loans on which no charges are collected, thus should be excluded.
• Agreement charges were double-counted as they were added over total charges.
• Insurance charges reimbursed to insurance companies were wrongly included in demand.
• Cum-tax benefit was wrongly denied as no evidence was produced showing the appellant collected service tax from customers.
• CENVAT credit on input services was ignored.

The Tribunal upheld the demand on legal charges under RCM as undisputed. However, it set aside the demand on agreement charges, finding that the tax was effectively double counted. Regarding total charges, the Tribunal remanded the matter to the adjudicating authority for re-quantification limited to the normal period of limitation for the period January 2013 to March 2014, directing the authority to allow cum-tax benefit, exclude insurance charges and personal loans, and provide an opportunity for personal hearing.

3. Applicability of VCES, 2013 and Immunity from Reopening

The appellant had opted for VCES, 2013 for the period April 2010 to December 2012, declaring a liability of Rs. 10,40,076/-, which was acknowledged by the designated authority. Under Section 108 of the Finance Act, 2013, immunity is granted against reopening of matters covered by the scheme unless a notice under Section 111 is issued for a substantially false declaration.

The Tribunal noted that no such notice under Section 111 was served on the appellant. Reliance was placed on a precedent where it was held that in absence of such notice, the declaration under VCES is conclusive. Therefore, the Tribunal held that the demand relating to the VCES period was not sustainable and set aside the demand for that period.

4. Limitation for Issuance of Show Cause Notices

The appellant contended that the Show Cause Notice dated 04.12.2014 was issued beyond the 18-month limitation period prescribed under Section 73(1) of the Finance Act, 1994, as the last date for issuance was 25.10.2014.

The Tribunal observed that the demand for the period prior to April 2010 was based on extended limitation invoking suppression with intent to evade tax, but no evidence was found to support suppression. Hence, the demand for the extended period was unsustainable. The demand for the period after December 2012 was within limitation and not disputed by the appellant.

5. Penalty Imposition under Sections 76, 77, 78, and 78A

The adjudicating authority imposed penalties under various provisions, including a penalty equivalent to 100% of service tax under Section 78 for alleged fraud and wilful suppression, and a personal penalty on the Director under Section 78A.

The Tribunal held that Section 78 penalty is leviable only when a notice under the proviso to Section 73(1) is served, which was not the case here, making the penalty without statutory authority and liable to be dropped.

Regarding the personal penalty on the Director, the Tribunal noted that such penalty requires proof of deliberate defiance of law or dishonest conduct. The record showed cooperation by the Director, and no evidence of contumacious conduct was found. Mere signing of VCES declaration could not establish intent to evade tax. Therefore, the penalty on the Director was set aside.

Conclusions

The Tribunal concluded that:

• The demand of service tax on interest income from two-wheeler loans by classifying the service as financial leasing is unsustainable and set aside.
• The demand relating to the VCES period (April 2010 to December 2012) is barred by immunity under the scheme and set aside.
• The demand for the period after December 2012 is maintainable but requires re-quantification considering cum-tax benefit, exclusion of insurance charges, and personal loans, with no penalty.
• The demand on agreement charges is not sustainable and set aside.
• The demand on legal charges under reverse charge is upheld.
• Penalties imposed on the appellant and the Director are set aside for lack of statutory authority and insufficient evidence of wilful suppression or dishonest conduct.

Significant Holdings

"The services rendered by the appellant cannot be categorized as 'Financial Leasing'. It is a case of mere lending of money and hence the interest earned is not liable to service tax under the category of 'Financial Leasing'."

"In absence of any notice under Section 111 of the Finance Act, 2013 rejecting the declaration made under VCES, the declaration filed by the appellant is a conclusive one and the appellant is entitled to immunity from reopening of the matter for the declared period."

"Section 78 penalty is not imposable when the Show Cause Notice is issued under Section 73(1) without the proviso being invoked, and hence such penalty is without statutory authority."

"Penalty under Section 78A on the Director requires proof of deliberate or dishonest conduct, which was not established; mere signature on VCES declaration is insufficient."

"The demand on agreement charges is not sustainable as it amounts to double counting."

"The adjudicating authority must allow cum-tax benefit and exclude insurance charges reimbursed to insurance companies and personal loans on which no charges are collected while quantifying the demand."