The Bangalore Bench of Customs Excise & Service Tax Appellate Tribunal ( CESTAT ) set aside a service demand order, ruling that compensation for the short lifting of electricity was not service under Section 66E(e) of the Finance Act, 1994.
JSW Energy Limited, the appellant is a power generation company. The appellant had entered into several Power Purchase Agreements ( PPAs ) with different customers to supply electricity. As part of these agreements, there was a provision that if the customer did not take the agreed amount of electricity, they would have to pay a penalty or compensation.
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This penalty referred to as liquidated damages was meant to cover any losses the appellant might suffer due to the customer’s failure to meet the terms of the agreement. The tax authorities found that the appellant had received customer payments as liquidated damages for not taking the full agreed electricity capacity.
Consequently, the authorities imposed service tax on the liquidated damages under Section 66E(e) of the Finance Act, 1994, categorizing it as a “declared service.” The appellant challenged the order before the Banglore Bench of CESTAT.
The appellant’s counsel argued that liquidated damages are compensation for breach of contract, not a service provided by the appellant. They referenced Circular No. 214/1/2023-ST, which clarified that liquidated damages for shortlifting of goods are not subject to service tax.
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The appellant’s counsel relied on multiple judgments such as Bhayana Builders, Victory Electricals, and TP Ajmer Distributors which ruled that penalties for contractual breaches do not constitute taxable services.
On the contrary, the revenue counsel relied on the order of the authorities.
The two-member bench comprising P.A. Augustian ( Judicial Member ) and Pullela Nageswara Rao ( Technical Member ) observed that the adjudication authority had no valid grounds to impose service tax on the compensation received by the appellant for short lifting of electricity.
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Since this compensation was not related to any obligation to tolerate an act, it does not qualify as a service under Section 66E(e) of the Finance Act, 1994. The tribunal set aside the impugned order and the appellant’s appeal was allowed.
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