Liquidated damages and breach recoveries are not a declared service absent a separate bargain to tolerate non-performance.

Liquidated damages, penalty and forfeiture of security deposits for breach or non-performance are not automatically a declared service under section 66E(e) unless there is a separate agreement to tolerate the act or situation for consideration. A contractual clause that only secures commercial compliance does not create a taxable bargain to accept breach, and the consideration remains for supply under the underlying contract rather than for default. On that basis, the service tax demand is not sustainable, and the consequential interest and penalty also fail. The stated position is said to be consistent with the later Board circular clarifying that such recoveries are not per se exigible to service tax.

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Issues: Whether liquidated damages, penalty and forfeiture of security deposits collected for breach or non-performance of contractual obligations constitute a declared service under section 66E(e) of the Finance Act, 1994 so as to attract service tax, and whether the consequential interest and penalty could be sustained.

Analysis: The governing test is whether there is an agreement, in its own right, whereby one party specifically undertakes, for consideration, to refrain from an act, tolerate an act or situation, or do an act. A contractual stipulation imposing liquidated damages or penalty for delay, poor performance or non-performance is only a safeguard for commercial compliance and does not, by itself, create a taxable bargain to tolerate breach. The agreed consideration is for supply of goods or services under the contract, not for default or breach. The later circular of the Board is consistent with this position and clarifies that such recoveries are not automatically exigible to service tax.

Conclusion: Liquidated damages, penalty and forfeiture of security deposits in the facts of the case do not amount to a declared service under section 66E(e), and the service tax demand was not sustainable. The consequential levy of interest and penalty also fails.

Final Conclusion: The impugned demand and all consequential liabilities were set aside, and the assessee succeeded in the appeal.

Ratio Decidendi: A contractual recovery for breach, without a separate agreement to tolerate the breach for consideration, is not a taxable declared service.

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