No Service Tax on Receipt of Liquidated Damages: CESTAT rules in favour of BHEL [Read Order]

In the case of Bharat Heavy Electrical Limited (BHEL), the Chennai bench of the Customs, Excise and Service Tax Appellate Tribunal (CESTAT) has held that service tax is not leviable on receipt of liquidated damages.

The assessee, BHEL challenged the Order-in-Appeal passed by the Commissioner of G.S.T. and Central Excise (Appeals). The appellant is a public sector undertaking engaged in the manufacture of heavy engineering equipment such as piping systems and pressure vessels for power generation systems and process industries and is also engaged in the service of erection/commissioning of power plants/projects.

The appellant got registered under the Finance Act, 1994 since its project implementing activities appeared to be categorized as ‘service’. During the course of discharging contractual obligations towards the customer, the appellant entered into agreements/contracts with vendors and/or sub-contractors for the supply of various equipment/materials for erection, commissioning and installation thereof and time being the essence of the contract, it is the duty of the appellant to complete the agreed projects within the prescribed time as per the terms agreed to in the contracts with its customers.

Intelligence received to the department that the appellant is charging and recovering Liquidated Damages for the delay in supply and service contract as per the written agreements between them but did not pay the Service Tax on it. An enquiry was conducted against the appellant by the Directorate General of Goods and Service Tax Intelligence (DGGI) and demanded Service Tax on the Liquidated Damages recovered during the period from July 2012 to June 2017, along with appropriate interest and penalties.

The Adjudicating Authority rejected the appellant’s submission and confirmed the demands proposed in the Show Cause Notice. The Commissioner of Appeal observed that the term “service” as defined under   Section 65B (44) of the Finance Act, 1994 would inter alia include “declared service”, as listed in Section 66E (e) of the Act to be “agreeing to the obligation to refrain from an act, or to tolerate an act or a situation, or to do an act;” and hence, agreeing to the obligation or to tolerate an act or situation would be a “declared service” for the Act.

Section 74 declares the law as to liability upon breach of contract where compensation is by agreement of parties pre-determined, or where there is a stipulation by way of penalty. The Supreme Court held that section 74 of the Contract Act merely dispenses with the proof of “actual loss or damages”. It does not justify the award of compensation when in consequence of the breach no legal injury at all has resulted, because compensation for breach of contract can be awarded to make good the loss or damage which arose or which the parties knew when they made the contract ‘to be likely to result from the breach’.

In light of various judgments, the two-member tribunal bench comprising of Mr P Dinesha,(Judicial) and Mr Vasa Seshagiri Rao,(Technical) has concluded that the view of the Principal Commissioner therein that the penalty amount, forfeiture of earnest money deposit and liquidated damages received by the appellant therein towards “consideration” for “tolerating an act” as being amenable to Service Tax under Section 66E (e) of the Finance Act, was not sustainable. The CESTAT set aside the impugned order and allowed the appeal with consequential benefits.

To Read the full text of the Order CLICK HERE

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