Introduction
The Karnataka High Court, in the case of Indian Advantage Fund III v. Commissioner of Central Tax Bangalore[i], examined whether a Venture Capital Trust (‘VCT’) could be treated as a juridical person for taxation under the Finance Act, 1994 (‘Finance Act’), whether the VCT provided taxable services to its contributors, and whether the doctrine of mutuality applied to exempt the VCT from service tax liability.
Brief Facts
India Advantage Fund-III (‘Appellant’) was a VCT established under the Indian Trust Act, 1882. Institutional investors contributed money to the Appellant, which was managed by the Investment Manager.
The Anti-Evasion unit of the Jurisdictional Commissionerate investigated the Appellant's activities and concluded that the Appellant had retained a certain portion of income that was distributable to the contributors.
According to the investigation team, this retained money constituted a service charge/fee taken for the asset management of the trust on which service tax was required to be paid under the category of ‘banking and other financial services’ as defined under s. 65 (105)(zm) of the Finance Act.
A show cause notice (SCN) was issued to the Appellant demanding service tax on expenses incurred by the Appellant, which was confirmed by the Respondent.
The Appellant challenged this demand order, which the Commissioner confirmed, before the Customs, Excise, and Service Tax Appellate Tribunal (‘CESTAT’). The CESTAT upheld the tax liability.
Aggrieved by CESTAT’s decision upholding the service tax liability, the Appellant filed this appeal before the Karnataka High Court.
Held
The Karnataka High Court allowed the appeal, set aside the CESTAT order, and quashed the service tax demand.
The High Court observed that the definition clause of each statute must be interpreted only in light of the object and purpose of that statute. The Court stated that since the issue in question was the liability to pay service tax, only the Finance Act should be referred to for the definition of a ‘person’.
The High Court further observed that ‘Trust’ does not come under the definition of ‘person’ under the Finance Act, and therefore, it was held that service tax could not be levied on the Appellant Trust.
The High Court noted that the Appellant acts as a trustee, holding and consolidating funds from contributors and investing them based on the Investment Manager’s advice. The Court emphasized that the Appellant merely acts as a pass-through entity, does not make a profit, and does not provide services, thereby rendering the imposition of service tax untenable.
The High Court further observed that the principle of mutuality applied in this case, as the funds contributed by the investors constituted the property of the Appellant. Consequently, asset management services rendered were deemed to be provided by the Appellant to itself, making service tax inapplicable.
Our Analysis
The Karnataka High Court’s ruling has provided much-needed clarity on the non-applicability of service tax to VCTs. Moreover, the decision emphasized that statutory definitions must be interpreted within the framework and purpose of the relevant law.
This decision is significant as it exempts performance fees, carried interest, and other expenses of the trust from the ambit of service tax. However, it is important to note that a ‘trust’ is included within the definition of ‘person’ under the Central Goods and Services Tax Act, 2017 (CGST Act, 2017), which may create challenges in applying this judgment in the GST regime. Additionally, the Supreme Court dismissed the Revenue’s Special Leave Petition (SLP), thereby affirming the Karnataka High Court’s ruling and providing finality to the matter[ii].
End Notes
[i] 2024 SCC OnLine Kar 119 dated 08.02.2024.
[ii] (2024) 23 Centax 150 (S.C.).
Authored by the Metalegal Editorial Board, the views expressed are personal and do not constitute legal advice or opinion.