Decoding CESTAT’s Service Classification Test: What Did the Service Recipient Pay For?

Service classification under service tax law has created sustained litigation. Disputes often arise when tax authorities rely on contract descriptions rather than real transactions. Taxpayers face demands based on assumed roles such as agent or intermediary. Courts have rejected such assumptions. The CESTAT decision in Delmos Aviation Pvt. Ltd. provides a clear answer to this problem.

The tribunal framed a simple test. It asked what the service recipient paid the service provider for. This test shifts focus from form to substance. It places consideration at the centre of classification. This approach aligns with the structure of service tax law.

Background of the Dispute

The appellant engaged in cargo transportation services for exporters. It entered into a General Sales and Service Agent agreement with Aeroflot. The agreement used the word agent. The department relied on this language.

The appellant’s business conduct differed. It offered exporters an end-to-end cargo transportation service. It covered domestic transport, international air transport, and handling. It issued airway bills in its own name. It billed exporters directly. It collected a single consolidated price.

The appellant paid airlines and other service providers. These payments represented execution costs. The exporter had no direct dealing with the airline. The exporter dealt only with the appellant.

The department classified the activity as Business Auxiliary Service. It treated the appellant as an agent who procured transport services. The appellant challenged this classification.

How the Tribunal Approached the Issue

The tribunal did not begin with definitions. It began with facts. It examined invoices, airway bills, payment flow and risk and responsibility.

The tribunal made a clear observation on the role of agreements. It held:

“The charge of the service tax is on the service rendered and not on the agreements signed although the agreements are very helpful in understanding the nature of the transaction.”

The tribunal further observed:

“In a case such as this where the services were rendered differently from what was contemplated in the agreement, the actual services rendered must be considered regardless of what was agreed to.”

This approach reflects the same reasoning seen in Xerox India Ltd. v. Commissioner of Service Tax, where the Chandigarh Bench of CESTAT set aside a demand because the department’s chosen taxable head did not match the factual nature of the activity. That decision confirms that classification must follow the real activity, not the head selected by the department.

The Core Test: What Did the Recipient Pay For?

The Tribunal reduced the dispute to one decisive question:

“The easiest way to examine the nature of the service is to ask ‘what did the service recipient pay the service provider for’?”

This test places consideration at the centre of analysis. It avoids assumptions based on agency labels or contractual descriptions.

The Tribunal examined the payment made by exporters. It found that exporters paid a single consolidated amount. The payment covered transportation from origin to final destination. It covered domestic and international legs.

This method mirrors the approach adopted by CESTAT New Delhi in Principal Commissioner of CGST v. Boeing India Defense Pvt. Ltd., where valuation under Section 67 was tied to consideration paid as quid pro quo for the service. Items not forming part of that quid pro quo were excluded from taxable value. That case reinforces the same logic. Tax follows what the recipient pays for.

Role of Consideration in Service Classification

Service tax law rests on consideration. Section 67 links tax to consideration received. A service exists only where consideration exists. Classification must follow the nature of that consideration.

The tribunal observed that the appellant:

“offered to the exporters a complete end-to-end package transporting from the exporter’s place up to the final destination and invoiced the exporters a consolidated amount for this service.”

Payments made by the appellant to airlines were costs. They did not change the service supplied to the exporter.

This reasoning aligns with Coal Mines Provident Fund Organization v. CCE & ST, where the Kolkata Bench of CESTAT held that both a service recipient relationship and consideration are foundational. In the absence of these elements, the levy fails. The Tribunal in Delmos Aviation followed the same diagnostic approach. It first identified the payment. It then identified the service.

Contracts vs Actual Conduct

The department relied on the GSSA agreement. The tribunal acknowledged the agreement but refused to treat it as decisive.

The tribunal explained the difference between an agency model and the facts of the case. It observed:

“If that be the case, the appellant should have been selling the space on the aircrafts on behalf of Aeroflot. The exporters should be billed by Aeroflot and the lis should have been between Aeroflot and the exporters and for its services, the appellant should have received consideration (commission) from Aeroflot.”

The tribunal found that none of these elements existed. Instead, the appellant billed exporters and issued Airway Bills.

The tribunal observed:

“Instead of acting as an agent of either Aeroflot or of the exporter, the appellant entered into Principal to Principal agreements with the exporters and with Aeroflot, domestic airlines and other service providers.”

This reasoning matches Agarwal Traders, where CESTAT New Delhi treated the arrangement as a principal-to-principal trading relationship. The tribunal examined whether the amount retained was a commission or a trading margin. The answer depended on what the payment represented in substance.

Principal-to-Principal Relationship Explained Through Payment Flow

The tribunal relied on payment flow to identify the relationship between parties. It explained agency and principal supply through factual analysis.

The tribunal observed:

“Thus, the service offered by the appellant to the exporters is a complete package.”

The exporter paid the appellant. The airline did not bill the exporter. The appellant did not earn commission. These facts ruled out agency.

This approach aligns with Progeon Global Forwarding Pvt. Ltd., where the Chennai Bench of CESTAT examined whether the freight forwarder acted as an intermediary or on its own account. The answer depended on what the customer paid the assessee to deliver.

Use of Third Parties and Aircraft Ownership

The department argued that the appellant did not own or operate aircraft. The Tribunal rejected this argument.

The tribunal observed:

“Nothing in this definition requires one to either own or lease or run an aircraft.”

It further held:

“So long as one provides the service of transport of goods or passengers by aircraft, one is covered by the definition of ‘aircraft operator’.”

The tribunal treated airlines as execution vendors. This reasoning aligns with Geodis Overseas Pvt. Ltd., where CESTAT Chennai held that ocean freight collected and passed on to shipping lines did not become taxable under an incorrect service category. The classification turned on what the customer’s payment represented.

Intermediary Disputes and the Same Test

The “what did the recipient pay for” test applies with equal force to intermediary disputes.

In SNQS International Socks Pvt. Ltd., the Supreme Court rejected intermediary classification. The Court examined whether the assessee was paid to arrange transactions or to provide its own service.

In Columbia Sportswear India Sourcing Pvt. Ltd., the Karnataka High Court rejected intermediary characterization and held that the petitioner provided services on its own account.

Each case applies the same inquiry. Identify the paid-for service.

Freight Mark-Up and Extra Charges

Disputes involving freight mark-ups follow the same rule. In Seagull Maritime Agencies Pvt. Ltd., CESTAT examined extra charges linked to freight income. Classification depended on the commercial reason for payment.

Mark-up disputes require the same exercise. Identify whether payment is for freight, facilitation, or bundled logistics.

Conclusion

The CESTAT decision in Delmos Aviation Pvt. Ltd. provides a clear rule for service classification. The tribunal placed consideration at the centre of analysis. It rejected reliance on labels and assumptions.

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