Chennai Metro Rail Ltd. Not Liable to Pay Service Tax on Damages Received for Tolerating Breach of Contract by Contractors & Sub-Contractors: CESTAT [Read Order]

The Customs, Excise & Service Tax Appellate Tribunal (CESTAT), Chennai bench has held that Chennai Metro Rail Ltd. (CMRL) is not liable to pay Service Tax on the damages received for tolerating the breach of contract by contractors and sub-contractors. CMRL is a joint venture between the Government of India and the Government of Tamil Nadu that operates Chennai Metro, a vital rapid transport system in Chennai. The dispute arose when the Directorate General of Goods and Services Tax (GST) Intelligence, Chennai Zonal Unit, alleged that the appellant, CMRL had not paid service tax on the consideration received for tolerating the non-performance of agreed obligations by their contractors. This consideration included the encashment of performance guarantees or bank guarantees and the retention or collection of liquidated damages for non-performance and failure to comply with agreed obligations by various contractors and sub-contractors. A Show Cause Notice was issued by the revenue, demanding service tax amounting to Rs.14,31,75,822 for the encashment of performance guarantees and Rs.23,72,71,674 for liquidated damages, along with interest and penalties under various sections of the Finance Act, 1994. The appellant assessee argued that the contracts with its contractors and sub-contractors contained strict clauses related to performance, compensation, and termination in the event of breaches. The appellant stated that liquidated damages were imposed when contractors failed to execute work as per the contract terms and performance guarantees were encashed in case of contractual violations. It was contended that these actions were not subject to service tax since there was no agreement to provide a service in exchange for consideration. The appellant cited various legal developments, including Circulars issued by the Central Board of Indirect Tax & Customs (CBIC) in 2022 and 2023. These Circulars clarified that damages recovered on account of breach of contract were not taxable. The appellant, represented by Shri P. Ravindran emphasised that for service tax to apply, there must be a contractual agreement explicitly referring to a service with a flow of consideration. The respondent revenue, the Commissioner of GST & Central Excise, represented by Shri Rudra Pratap Singh contended that consideration received by the appellant for tolerating the breach of contract by contractors and sub-contractors, constitutes a declared service under section 66E(e) of the Finance Act 1994, making them liable to pay service tax. The revenue disagreed with CMRL’s interpretation and maintained that service tax liability on damages for breach of contract should be upheld. The bench noted that the contracts between the appellant and the contractors did not aim to provide a service in exchange for compensation in the event of a breach. Instead, they were primarily concerned with contractual obligations, compensation and termination clauses. The bench concluded that the appellant had not received consideration for providing a service by tolerating the breach of contract. Therefore, they found no basis for imposing a service tax on the damages received by the appellant. The bench allowed the appeal filed by the appellant and dismissed the revenue’s appeal. The bench set aside the demands for service tax along with interest and penalties. The two-member bench comprising Shri P. Dinesha (Judicial Member) and Shri M. Ajit Kumar (Technical Member) clarified that the damages received for tolerating breach of contract are not subject to service tax unless there is a specific agreement or contractual arrangement to provide a service in exchange for compensation. Support our journalism by subscribing to Taxscan premium. Follow us on Telegram for quick updates

Chennai Metro Rail Ltd. Not Liable to Pay Service Tax on Damages Received for Tolerating Breach of Contract by Contractors & Sub-Contractors: CESTAT [Read Order]

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Chennai Metro Rail Ltd. Not Liable to Pay Service Tax on Damages Received for Tolerating Breach of Contract by Contractors & Sub-Contractors: CESTAT [Read Order]

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