The Facts of the Case:

Whether the charges collected towards the services for evolution of prototype conceptual design (i.e. creation of concept), on which service tax had been paid under the Finance Act, 1994 as amended from time to time is liable to tax under the Karnataka Value Added Tax Act, 2003 (the Act) is the question involved in this appeal which arises out of a judgment and order dated 29.11.2006 passed by a Division Bench of the Karnataka High Court in STA No.7 of 2006.

Appellant is an advertising agency.  It provides for advertisement services.  It creates original concept and design advertising material for their clients and design brochures, annual reports etc.  The Contract between the appellant and their clients does not appear to have been entered into in writing as no written contract as such has been placed.

Decision of the Karnataka High Court:

Karnataka High Court has confirmed the demand of Sales Tax (VAT) on the activity. Honorable HC has observed that:

"In the light of the three judgments stated supra, what is clear to us is the services rendered by the appellant is an indivisible activity and liable to levy of tax.  The aurhotity after noticing the material facts, has chosen to hold that in the bills there is a separate charge made as content development concept design, photography scanning and other charges such as system charges including colour sketch pen or computer used design software etc.  Ultimately, the brochures come out.  Considering the entire ambit of activity of the dealer, it is seen that it is a comprehensive contract or supply of printed material developed by the company.  The bills also indicate the entire activity tantamounts to making indivisible contract in a divisible contract.  The subsequent rectification application made by the applicant dated 24.12.2005 was not considered by the authority in terms of Annexure-H, after noticing the judgment of the Supreme Court in the case of Associated Cement Companites Ltd. (Stated supra)".

Reversing the Decision of High Court, Supreme Court has held that:

Payments of service tax as also the VAT are mutually exclusive. Therefore, they should be held to be applicable having regard to the respective parameters of service tax and the sales tax as envisaged in a

composite contract as contradistinguished from an indivisible contract.  It may consist of different elements providing for attracting different nature of levy.   It is, therefore, difficult to hold that in a case of this nature, sales tax would be payable on the value of the entire contract; irrespective of the element of service provided.

Therefore whether goods are incorporeal or corporeal, tangible or intangible, they must be deliverable. To the extent that the decision in State of U.P. v. Union of India held otherwise, it was, in our humble opinion erroneous. 

(For full text of judgment - visit 2008 -TMI - 2576 - Supreme Court of India)

Levy separation: service tax and VAT treated as mutually exclusive, taxes applied to distinct contract elements. Payments of service tax and value added tax are mutually exclusive and must be applied according to their respective parameters. In composite contracts containing both goods and services, tax liability should be attributed to the nature of each separable element rather than taxing the entire contract under sales tax. Goods, whether tangible or incorporeal, must be deliverable to attract sales tax, and earlier precedent taking a contrary approach is disapproved.