Liquidated damages as consideration for declared service: tribunals rule no service tax payable, impugned order set aside

Whether amounts labelled as liquidated damages or penalties for breach of contract constitute 'consideration' for a declared service under section 66E(e) is addressed by recent tribunal authority, which applied the principle that toleration of delay does not supply taxable consideration and therefore contractual penalties are not subject to service tax. The operative effect is that amounts recovered as liquidated damages are not taxable as declared service, the impugned assessment is set aside, and the issue is no longer res integra.

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Issues: Whether amounts received as penalty/liquidated damages for delay constitute "consideration" for a declared service under Section 66E(e) of the Finance Act, 1994 and are therefore liable to service tax.

Analysis: The Tribunal examined whether receipts characterized as liquidated damages/penalty for non-adherence to contractual time limits can be treated as consideration for tolerating an act under the declared service in Section 66E(e) of the Finance Act, 1994. The Tribunal relied on coordinate-bench authorities and earlier decisions holding that amounts collected as liquidated damages for breach or non-performance do not reflect payment for any service rendered, nor do contracts impose an obligation to refrain from an act or to tolerate an act that would generate consideration. The Tribunal followed precedents which reason that such sums are compensatory for breach and not consideration flowing to an entity for providing tolerance or a service; hence they fall outside the scope of declared service under Section 66E(e).

Conclusion: The impugned adjudication confirming demand of service tax and imposing penalty on amounts collected as liquidated damages is set aside; no service tax is leviable on the liquidated damages/penalty.

Ratio Decidendi: Amounts recovered as liquidated damages or contractual penalties for delay are compensatory receipts for breach and do not constitute "consideration" for a declared service under Section 66E(e) of the Finance Act, 1994, and therefore are not liable to service tax.

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