Applicability of Service Tax

[Atul Kumar]

I want to ask whether service tax is applicable on liquidated damages.

One of our clients have deducted the service tax on liquidated damages deducted by them from our bills. These liquidated damages relate to the not meeting the specified performance level of the equipment's supplied as well as the delay in supplies.

Further, in case service tax is applicable on liquidated damages whether it is possible to claim cenvat credit of the same.

AI Summary

Service tax on liquidated damages may apply as declared service; credit eligibility remains uncertain and contentious.
Liquidated damages levied for failure to meet performance or delivery obligations are commonly treated as a declared service - an agreement to tolerate an act - and thus may attract service tax; however, some argue penal sums lack consideration and are not taxable. Cenvat credit for tax paid on such charges depends on proving the taxed service is an input service used for taxable outputs, a connection that is often difficult to establish and may expose the claimant to challenge.