No Agreement becomes a Franchise merely because of a right Conferred on the Party to Sell or Manufacture Goods Provide Services or Undertake a Process: CESTAT [Read Order]

The Ahmedabad bench of the Customs, Excise & Service Tax Appellate Tribunal,(CESTAT) has held that an agreement will not become a franchise merely because of a right conferred on a party to sell or manufacture goods or provide services or undertake a process.

During an audit of the appellant’s ITW India Limited and Hemal Zaveri statutory records, financial ledger etc., the Revenue’s audit team noticed that the appellant had raised debit notes to its various distributors and collected amounts in the name of royalty from them.

It was also noticed by the Revenue that the appellant has agreed with all its distributors whereunder the appellant has charged “exclusivity charges” for granting rights of distribution and sale of its products. 

The Revenue viewed that the appellant is providing franchisee service and the same is chargeable to service tax vide sub-clause (zze) of Clause 105 of Section 65 of the Finance Act, 1994.  The department issued an impugned show cause notice dated 12.05.2011 whereunder the service tax of Rs. 20,43,893/- has been demanded under Section 73(1) of the Finance Act, 1994 for providing franchisee service to its various dealers.  Penal provisions under Section 76, 77 and 78 of the Finance Act, 1994 has also been invoked.

The Adjudicating Authority confirmed the demand and penalty of Rs. 10,000/- has also been imposed on Shri Hemal Zaveri under Section 77(2) of the Finance Act, 1994.  The appellants have challenged the impugned order-in-original before the Commissioner (Appeals) who upheld the findings except that he has allowed the benefit of cum-tax value in terms of Section 67(2) of the Finance Act, 1994. 

It was contended that only a person having representational rights to sell or manufacture goods is liable to service tax under the franchisee service.  Therefore, the service tax is on the person having the right to sell and not on the franchisor. 

The department after amendment to the definition of the „franchisee‟ service with effect from 16.06.2005 has clarified the matter vide their Circular No. B-1/6/2005-TRU dated 27.07.2005 wherein the franchisee service has been explained by the CBEC.

As per the amended definition, License Production Agreements where the principal allows the production of goods bearing his brand name by another person would be covered under the purview of service tax under this category. Similarly, if rights are granted for rendering services identified with the principal on his behalf, such services by the principal to the service recipient would be taxable. Details of franchisees may be obtained from Yellow Pages, website http://franchiseindia.com/ and other advertisements. Field formations may undertake a survey and suitably advise the potential taxpayers.”

A two-member bench comprising Mr Ramesh Nair, Member (Judicial) and Mr C L  Mahar, Member (Technical) observed that” merely because by an agreement a right is confirmed on the party to the sale of goods or service undertaken was not ipso-facto bringing the agreement within the ambit of the franchisee.  What is essentially required is to establish that as per the agreement, the rights have not been conferred on the franchisee which amount to representational rights. “

It was evident that the appellant is not given any representational right to its distributors to sell or manufacture goods or provide service or undertake any process identified with the franchisor and the agreement is purely for marketing of product and therefore same cannot be termed as an agreement between the franchisor and franchisee.

 “Merely because, by an agreement, a right is conferred on a party to sell or manufacture goods or provide services or undertake a process, would not ipso facto bring the agreement within the ambit of a franchise. What is also required is to establish that the right conferred is a “representational right”. “, the CESTAT held.

While allowing the appeal, the CESTATA set aside the demand and penalty.

To Read the full text of the Order CLICK HERE

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