2026 (1) TMI 1163 - AT - Service Tax

Service tax on penal interest, notice pay, CSR sponsorship and extended limitation: liability sustained for undisclosed sponsorship payments

The text addresses taxability under Section 66E(e) of penal interest, liquidated damages/notice pay, and CSR payments treated as sponsorship. It explains ... Levy of service tax - declared service under Section 66E(e) of the Finance Act, 1994 or not - penal interest collected by the Bank - consideration for tolerating an act or not - taxability of liquidated damages/notice period pay recovered from employees - levy of service tax on CSR expenditure as sponsorship service or not - invocation of extended period of limitation - sustainability of interest and penalties. Taxability of penal interest - HELD THAT:- For Section 66E(e) to apply, there must exist a conscious, positive and pre-agreed obligation to tolerate an act, refrain from an act, or to do an act, where such toleration itself is the object of the contract - In the case of Karur Vysya Bank Ltd. v. CCE, [2017 (8) TMI 1114 - CESTAT CHENNAI] involving one of the present Appellants itself, this Tribunal had occasion to examine an identical issue, namely the taxability of penal interest recovered by a banking company under Section 66E(e) of the Finance Act, 1994 - the Chennai Bench categorically held that penal interest recovered by banks on delayed payment of EMIs is compensatory in nature and does not constitute consideration for “tolerating an act” and therefore does not amount to a taxable service. It was further held that the provisions of Section 66E(e) are not attracted in such circumstances. The penal interest collected by the Appellants is not liable to service tax. Taxability of liquidated damages / notice pay - HELD THAT:- The recovery of notice period pay arises exclusively out of the employer–employee relationship, when an employee resigns without serving the stipulated notice period. Such recovery is compensatory in nature and does not involve any activity carried out by the employer for the employee for consideration - Madras High Court, in the case of GE T&D India Ltd. v. Deputy Commissioner of Central Excise, [2020 (1) TMI 1096 - MADRAS HIGH COURT] HC has ruled that notice period pay recovered from an employee is not exigible to service tax. The liquidated damages / notice period pay recovered by Karur Vysya Bank Ltd. is not liable to service tax under Section 66E(e) of Finance Act 1994. Taxability of CSR expenditure under sponsorship service - HELD THAT:- The essence of sponsorship service under the statute is not confined merely to formal advertising contracts but extends to any arrangement where consideration flows for promotion of the sponsor’s brand, name or logo. Therefore, references made by the adjudicating authority to advertisement or promotional benefits are only explanatory and incidental to establish the nature of sponsorship and do not amount to introduction of a new case beyond the SCN - In several instances, the appellants have merely asserted that the amounts paid were in the nature of donations or CSR contributions, without furnishing any documentary evidence explaining: the nature of the event, the nexus between the event and the appellant bank, the absence of brand visibility or logo display, and why such payments should be treated as donations. In the absence of such evidence, the mere nomenclature of “donation” cannot alter the true character of the transaction. The impugned orders do not travel beyond the scope of the SCN, and the findings of the adjudicating authority are not vitiated on this ground - In the absence of the documentary substantiation, there are no reason to interfere with the factual findings of the adjudicating authority. Mere assertions that the payments were towards CSR, without supporting evidence, cannot be accepted, particularly when the records indicate use of logo, brand name, or other promotional features - the demand confirmed under the impugned orders, to the extent it pertains to sponsorship involving promotional benefits, is legal and proper, and the same is upheld. Invocation of extended period - HELD THAT:- The appellants’ omission to disclose sponsorship services in ST-3 returns, coupled with non-payment of tax under reverse charge, constitutes suppression of material facts with intent to evade payment of service tax. The plea that the issue involves interpretation or that amounts were reflected in books of accounts does not absolve the appellants from their statutory obligation of disclosure - the conditions stipulated under the proviso to Section 73(1) of the Finance Act, 1994 stand satisfied in respect of the demand relating to sponsorship services - the invocation of the extended period of limitation for sponsorship services is legal and proper. Sustainability of interest and penalties - Whether the demands of interest under Section 75 and penalties under Sections 77 and 78 of the Finance Act, 1994 are sustainable? - HELD THAT:- It is a settled position of law that once suppression with intent to evade tax is established and the extended period is rightly invoked, penalty under Section 78 follows as a natural consequence. The penalty under Section 78 is attracted not merely by non-payment of tax, but by the presence of the statutory ingredients contemplated therein - Penalty under Section 77 is also imposable for failure to comply with statutory obligations, including correct filing of returns and proper disclosure of taxable services. Appeals partly allowed and partly dismissed. Issues: (i) Whether penal interest collected by the Banks for delayed/defaulted EMIs is taxable as a declared service under Section 66E(e) of the Finance Act, 1994; (ii) Whether liquidated damages/notice period pay recovered from employees is taxable under Section 66E(e); (iii) Whether CSR expenditure is taxable as 'sponsorship service' under Section 65(99a) of the Finance Act, 1994 and subject to reverse charge; (iv) Whether the extended period of limitation under the proviso to Section 73(1) of the Finance Act, 1994 is invocable in the facts; (v) Whether interest under Section 75 and penalties under Sections 77 and 78 are sustainable.Issue (i): Whether penal interest collected by the Appellant Banks for delayed/defaulted EMIs is taxable as a declared service under Section 66E(e) of the Finance Act, 1994?Analysis: The Tribunal examined statutory definitions and binding clarifications (CBIC Circulars) and applied the Supreme Court authority in Clix Capital Services Pvt. Ltd., which holds that penal charges/liquidated damages arising from breach of contract are compensatory and do not constitute consideration for tolerating an act. The bench also followed coordinate Bench precedents of this Tribunal and considered that penal interest is a contractual consequence intended as deterrent/compensation and not a pre-agreed conscious agreement to tolerate default.Conclusion: Penal interest collected by the Banks is not liable to service tax. Decision in favour of the appellants.Issue (ii): Whether liquidated damages / notice period pay recovered from employees are taxable under Section 66E(e)?Analysis: The Tribunal considered the employeremployee exclusion in Section 65B(44), relevant case law including the Madras High Court decision in GE T&D India Ltd. and Tribunal precedents, and CBIC clarifications. It found that notice pay/liquidated damages arise from employment contracts, are compensatory in nature, and do not reflect a service provided by the employer to the employee for consideration.Conclusion: Liquidated damages / notice period pay recovered by Karur Vysya Bank Ltd. are not liable to service tax. Decision in favour of the appellants.Issue (iii): Whether CSR expenditure incurred by the Banks is liable to service tax as 'sponsorship service' under Section 65(99a) and subject to reverse charge?Analysis: The Tribunal analysed Section 65(99a), TRU guidance and Notification No. 30/2012-ST, distinguishing pure donations (excluded) from sponsorships involving reciprocity/branding. On the facts, the adjudicating authority recorded event-wise findings, internal policies and instances of logo/brand visibility. The appellants failed to furnish documentary evidence to prove pure donations; the Tribunal held that where contributions are linked to promotional visibility or branded exposure the activity falls within 'sponsorship service' and is taxable under reverse charge.Conclusion: The demand of service tax on sponsorship services is upheld. Decision in favour of the respondent/Department.Issue (iv): Whether the extended period of limitation under the proviso to Section 73(1) is validly invoked?Analysis: The Tribunal applied settled Supreme Court principles (Nizam Sugar Factory; Uniflex Cables) that nondisclosure in statutory returns and failure to bring the matter to the Department's notice constitutes suppression for limitation purposes. It found that sponsorship transactions were not declared in ST-3 returns nor was tax discharged under reverse charge, and that mere accounting in books does not amount to disclosure to the Department.Conclusion: Invocation of the extended period of limitation is upheld in respect of the sponsorship service demands. Decision in favour of the respondent on this issue (limited to sponsorship counts).Issue (v): Whether interest under Section 75 and penalties under Sections 77 and 78 are sustainable?Analysis: The Tribunal held that interest under Section 75 is statutory and follows from confirmation of tax liability on sponsorship services. Having upheld invocation of the extended period for sponsorship services and found suppression of facts, the Tribunal applied settled principles that penalties under Sections 77 and 78 are attracted where conditions for suppression/intent to evade are satisfied and are civil liabilities not requiring mens rea.Conclusion: Interest under Section 75 and penalties under Sections 77 and 78 are sustained insofar as they relate to confirmed sponsorship service demands. Decision in favour of the respondent on those counts.Final Conclusion: The appeals are partly allowed and partly dismissed demands in respect of penal interest and liquidated damages/notice pay are set aside in favour of the appellants, while demands, interest and penalties relating to sponsorship services are upheld in favour of the Department; the invocation of extended limitation and penalties are sustained only for sponsorship counts.Ratio Decidendi: Penal charges and liquidated damages arising from breach of contract are compensatory and not consideration for a declared service under Section 66E(e); by contrast, sponsorship under Section 65(99a) is taxable where the factual matrix shows reciprocity or promotional/branding benefit, and nondisclosure of such sponsorship transactions in statutory returns justifies invocation of the proviso to Section 73(1) and consequential interest and penalties.