Liquidated Damages Not Taxable as Declared Service: CESTAT sets aside Service Tax Demand, Extended Limitation Unsustainable [Read Order]
CESTAT set aside the ₹2.10 Cr service tax demand, ruling that liquidated damages for delayed supply and short payments are compensatory, not taxable as “declared services.”
![Liquidated Damages Not Taxable as Declared Service: CESTAT sets aside Service Tax Demand, Extended Limitation Unsustainable [Read Order]](https://images.taxscan.in/h-upload/2025/08/26/2080562-cestat-liquidated-damages-taxability-service-tax-demand-taxscan.webp "Liquidated Damages Not Taxable as Declared Service: CESTAT sets aside Service Tax Demand, Extended Limitation Unsustainable [Read Order]")
The New Delhi Bench of the Customs, Excise and Service Tax Appellate Tribunal (CESTAT) has set aside a service tax demand of ₹2,10,11,500, holding that liquidated damages recovered for delayed supply and short payments under power purchase agreements were not taxable as a “declared service” under section 66E(e) of the Finance Act, 1994, and that the invocation of the extended period of limitation was not sustainable.
The assessee, Madhya Pradesh Poorva Kshetra Vidyut Vitran Co. Ltd., is a State Government company registered with the Service Tax department.
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The scrutiny of the assessee’s ST-3 returns and challans revealed that the short payment of service tax of ₹5,68,451 was due to the use of an incorrect challan, ₹42,188 for paying tax at 12.36% instead of the revised 14%, and ₹22,344 on account of non-payment of Swachh Bharat Cess.
In addition, the Department proposed recovery of ₹2,10,11,500 by issuing a Show Cause Notice (SCN), treating penalties collected from contractors as taxable under section 66E(e) for tolerating an act which is a “declared service‟
The adjudicating authority confirmed the demand, along with interest and penalty, holding that such liquidated damages fell within the ambit of declared services and invoked the extended period of limitation under section 73(1) of the Finance Act, 1994.
On appeal, the assessee argued that these amounts were not consideration for any service and that could not be equated to a taxable activity, and also that all relevant facts had been disclosed in the books of account and there was no suppression or intent to evade, making the invocation of the extended period unsustainable.
The Tribunal agreed with the assessee and observed that liquidated damages recovered under contractual clauses are compensatory in nature and do not amount to consideration for tolerating an act. The Bench further held that mere breach of contract and recovery of damages cannot be treated as taxable service.
The Bench comprising Dr. Rachna Gupta (Judicial Member) and Hemambika R. Priya (Technical Member) noted that the Department had not brought any material on record to prove suppression of facts with the intent to evade service tax. It held that mere non-payment of tax cannot justify the invocation of the extended limitation under section 73(1).
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Accordingly, the Tribunal set aside the service tax demand of ₹2.10 crore, including interest and penalty, and allowed the appeal filed by Madhya Pradesh Poorva Kshetra Vidyut Vitran Co. Ltd.
The assessee was represented by Rajeev Agarwal, while Rajeev Kapoor & Aejaz Ahmed represented the revenue.
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