Unreported Decisions – ST – October 2019

By Vinay Jain & Sachin Mishra, Advocates

1. Whether the ‘subvention income’ received by vehicle financing companies from the manufacturers/dealers for providing loan to the buyers of vehicles at lesser rate of interest shall be taxable under ‘Business Auxiliary Service’ for promoting the business of such manufacturers/dealers?

Facts and Pleading: HDFC Bank Ltd. (hereinafter referred to as ‘Appellant’) is inter-alia engaged in the business of financing vehicles. During the course of business operations, the Appellant enters into contractual arrangements with the vehicle manufacturers/dealers for agreeing to undertake special finance schemes under which vehicles are made available against loans offered at nil or low rate of interest and differential interest component which is otherwise recoverable from the borrower is paid by the manufacturer/ dealer in the name of ‘subvention income’. Further, the Appellant and vehicle manufacturer/ dealer jointly also agreed to a financing scheme where they jointly promote their own business activities.

The department alleged that the aforesaid ‘subvention income’ received by the Appellant is consideration for promoting the business of such manufacturer/dealers and hence taxable under the category of ‘Business Auxiliary Service’. The department also relied upon Housing Development Corporation Ltd. (HUDCO) [2012 (26) STR 531 (T-Mum)] wherein it was held that the pre-payment charge is in lieu of some value added service and the method of calculation of charges in case of prepayment based on the outstanding loan is not relevant. The department also alleged that the present issue was squarely covered by the decisions in case of Speed Finance Service [2017-TIOL-2548-CESTAT-DEL], Toyota Lakozy Pvt Ltd [2017 (52) STR 299 (T)] & Tata Motors Ltd. [2019 (1) TMI 511].

The Appellant argued that the Appellant had extended credit facility to the purchaser of vehicle for which consideration is received in the form of “interest subvention” from the vehicle dealer in lieu of “interest on loan” receivable from the borrower in normal course. For the Appellant, it is consideration towards lending of money and nothing but the interest income, and not subjected to tax. The Appellant also submitted that Appellant and vehicle manufacturer/dealer jointly agree to a financing scheme where they jointly promote their own business activities. Vehicle manufacturer/dealer promote their sale and the Appellant its lending business. Artificially vivisecting a single transaction to make the Appellant as service provider in one occasion and recipient of service in another is not permissible in law.

Judgment: The Hon’ble Appellate Tribunal held that by providing or agreeing to provide the loans at lower rate/nil rate to the customers of vehicle manufacturer/dealers, the Appellant has promoted the sale of the vehicle in the hands of such vehicle manufacturer/dealer. Hence, as per the Appellate Tribunal, the facility of nil/ low interest rate provided by the Appellant to the customers of vehicle manufacturer is service classifiable under the category of “Business Auxiliary Service” as defined by Section 65(19) of the Finance Act, 1994 and the amount paid by the vehicle manufacturer/dealer and accounted by the Appellant as subvention income is the consideration for the provision of such service. Rejecting the submission of the Appellant that subvention income is part of the interest recovered from such customers, the Hon’ble Appellate Tribunal relied on HUDCO [2012 (26) STR 531 (T)] to held that the method of calculating the charges has no bearing on the nature of service provided. The Hon’ble Appellate Tribunal also upheld the invocation of extended period and imposition of penalty.

M/s. HDFC Bank Ltd. vs. CCE, CESTAT, Mumbai, decided on 13-09-2019 in Final Order No. A/86593/2019.

M/s. HDFC Bank Ltd.

2. Whether the pre-payment/foreclosure charge collected by Housing Financing Companies from borrowers for premature termination of loan agreements by such borrowers is part of the consideration for the taxable service of “Banking and other Financial Services’ and hence liable to be taxed under the provision of Finance Act, 1994?

Facts and Pleading: LIC Housing Finance Limited (hereinafter referred to as ‘Appellant’) is inter-alia engaged in providing housing finance to individuals. After following the due procedure housing loan is sanctioned to the individual and agreement entered into with the borrower laying down the terms and conditions for grant of loan. The loan advanced is to be serviced by the borrower as per the equated monthly installments mentioned in the agreement. The loan agreement extends the facility of prepayment of the loan amount to the borrower against a prepayment penalty of 2% whenever the borrower intends to make early prepayment.

The department placed reliance upon the Circular of TRU date 11-06-2008 which states that any amount collected by the service provider on account of lending is either interest or service charges. Pre-closure / foreclosure charges are not collected for delayed payment. Thus, according to the department, these charges not being interest, are therefore liable to be treated as consideration for the service provided and accordingly leviable to tax. In this regard, the department also relied upon HUDCO [2012 (26) STR 531 (T)].

The Appellant submitted that the pre-payment charges are not for any activities carried out at the time of prepayment, permitting the borrower to pay the amount. It is for the damages recovered by the Appellant. Foreclosure and prepayment charges are levied for ending the service and not for providing the service as held by tribunal in case of SIDBI [2011 (23) STR 392 (T-Del)]. The Appellant also submitted that decision of HUDCO [2012 (26) STR 531 (T)] will not be applicable to the present facts as in this case, the Appellant did not carry out any activity and the amount is levied as per the agreement entered into the parties. Therefore, the said amount does not form the part of value of taxable service. The Appellant submitted that the pre-payment charges, charged by them from borrower are in nature of liquidated damages to recover the loss suffered by them, for the reason that this amount could not have been lended against the interest to other borrowers. The Appellant further submitted that Prepayment penalty have no nexus with the service of lending and thus are not subject to service tax in view of the decision of Apex Court in case of Intercontinental Consultants and Technocrats Pvt Ltd [2018 (10) GSTL 401 (SC)]. The Appellant also submitted that the pre-payment charges are in the nature of interest.

Judgment: The Hon’ble Appellate Tribunal held that the facility of pre-payment has been extended at the time of entering into the loan agreement and agreement itself allows against payment of certain “levy charges”. These charges are not towards any default on the behalf of customer. As per the Appellate Tribunal, since the pre-payment charge are in nature of charges towards the exercise of an option extended by the loan agreement, Appellants submission that these charges are penalty cannot be acceded to. Hence, the Appellate Tribunal held that the pre-payment charges cannot be held as penalty. The Appellate Tribunal further held that in the case of foreclosure the customer is not holding any money of the Appellant, but is returning back the same much before the appointed date. Hence the return of money cannot be subject to interest charge as claimed by the Appellant, nor can it be the damages as claimed by them. The Appellate Tribunal further relied upon HUDCO [2012 (26) STR 531 (T)] to held that pre-payment charges not being interest, are therefore liable to be treated as consideration for the service provided and accordingly leviable to tax. The Hon’ble Appellate Tribunal also upheld the invocation of extended period, however, set aside the imposition of penalty in lieu of Section 80 of the Finance Act, 1994.

M/s. LIC Housing Finance Ltd. vs. CST, CESTAT, Mumbai, decided on 21-08-2019 in Final Order No. A/86425-86428/2019

M/s. LIC Housing Finance Ltd.