CESTAT Chennai Quashes Service Tax Demand on Foreign Bank Charges Deducted from Export Proceeds Under Reverse Charge Mechanism
Background and Context
The CESTAT Chennai bench recently delivered a significant ruling in Lingeswara Creation Vs Commissioner of Central Excise And Service Tax, setting aside a service tax demand raised against an exporter of knitted garments under the reverse charge mechanism. The demand pertained to bank charges deducted by foreign banks from export sale proceeds before transferring the balance amount to the assessee's Indian bank account. The Tribunal's decision reinforces established principles regarding privity of contract, the definition of taxable service, and the impropriety of demand orders founded on assumptions rather than evidence.
Facts of the Case
The assessee, Lingeswara Creation, was engaged in the manufacture and export of knitted garments. During a departmental verification of its records, it was observed that export sale proceeds were being received in the assessee's Indian bank account through foreign banks located abroad. These foreign banks deducted certain charges from the total export proceeds before transferring the residual amount to the assessee's Indian bank account.
The department formed the view that the amounts so deducted by the foreign banks constituted consideration paid by the assessee for "Banking and other Financial Services" rendered by those foreign banks. Accordingly, a Show Cause Notice dated 17.04.2015 was issued, alleging:
- Failure to discharge service tax liability under the reverse charge mechanism
- Failure to obtain service tax registration
- Non-filing of ST-3 returns
The department invoked the extended period of limitation under the proviso to Section 73(1) of the Finance Act, 1994, citing suppression and non-disclosure. The jurisdictional adjudicating authority confirmed the demand along with interest and imposed penalties under Section 78, Section 77(1)(a), and Section 77(2) of the Finance Act.
The Commissioner (Appeals-I), Coimbatore, dismissed the assessee's appeal and upheld the original order, prompting the present appeal before CESTAT Chennai.
Legal Framework Involved
The demand was raised under Section 66A of the Finance Act, 1994, read with Rule 3(iii) of the Taxation of Services (Provided from Outside India and Received in India) Rules, 2006. These provisions govern the levy of service tax on services received from outside India by persons located in India, commonly referred to as the reverse charge mechanism. Under this framework, the recipient of the service in India is treated as liable to discharge the service tax obligation.
The core question before the Tribunal was whether the assessee — the Indian exporter — could be classified as the "recipient" of services rendered by foreign banks, and whether the deduction of charges by those foreign banks from export proceeds gave rise to a taxable event under the reverse charge mechanism.
Contentions of the Assessee
No Privity of Contract with Foreign Banks
The assessee's counsel argued that the foreign remitting bank acted exclusively on the instructions of the foreign buyer to discharge the buyer's obligation to remit payment to the Indian exporter. The foreign bank and the foreign buyer were both located outside India, and there was no direct contractual relationship between the assessee and the foreign remitting bank.
Since Section 68(2) of the Finance Act triggers reverse charge liability only in respect of the "recipient" of the service, and since the assessee had not engaged or instructed the foreign bank in any capacity, the assessee could not be treated as the service recipient for the purpose of the reverse charge mechanism.