An earlier article in this column had discussed the service taxability of cost/revenue sharing arrangements which were increasingly being resorted to in the modern business world. A view was expressed that in either of these arrangements, there was typically no intent to provide services and hence the service tax ought not to be applicable. Specific to revenue sharing arrangements, the CBEC Circular No. 109/03/2009-ST dated 23/2/2009, which was issued in regard to service tax on screening of films by theatre owners, was discussed in detail. This Circular had clarified that in a revenue sharing model wherein the theatre owners and the distributors of films shared the revenues earned from sale of cinema tickets, the contracting parties were acting on principal to principal basis and did not provide services to each other. The Circular hence stated that no service tax ought to apply on such arrangements. Recently, the CBEC has issued Circular No. 148/17/2011-ST dated 13/12/2011 to effectively reverse its stand and consequently negate the aforesaid beneficial Circular of 2009.
The Circular of December 2011, which is also issued in relation to film distribution, clarifies that the nature of the arrangement entered into between the contracting parties is not the determining factor for applicability of the tax. While correctly recognising that remuneration or payment arrangements on the basis of a fixed or revenue sharing or profit sharing formula or hybrid versions of the aforesaid model could exist, the Circular states that the nature of transaction and not the nature of the arrangement would determine the leviability of service tax.
It thereafter informs that representations have been made and in certain situations, the film distributor and the theatre owner conduct business together, in the form of a revenue sharing agreement, and hence no service tax ought to apply. The Circular envisages the above arrangement as distinct from a contract between two principals and proceeds on the basis that in such an arrangement, the contracting parties act on a ‘partnership/joint/collaboration basis’. On the basis of this assumption that contracting parties joining hands for mutuality of interest and to share common risks/profits are not acting on a principal to principal basis, the Circular holds that such an arrangement will be treated as an unincorporated joint venture, on the understanding that the arrangement constitutes a ‘person’, in terms of the definition contained in the General Clause Acts 1897 that a ‘person includes a company or association or body of individuals, whether incorporated or not”. The Circular also refers to the relevant provisions of the Finance Act 1994 whereby services provided by an unincorporated association or body of persons to a member thereof is treated as a taxable service. It accordingly concludes, without any discussion as to how this conclusion has been reached, that where distributors/sub distributors/area distributors enter into arrangements with the exhibitors/theatre owners for exhibition of films, with an understanding of sharing of the accruing revenues, the transactions between the unincorporated joint venture, which has emerged as a result of this arrangement, and the distributor or the theatre owner as the case may be, will be construed as taxable services. In case an unincorporated joint venture does not come into being, the service tax will nevertheless be leviable on either of the contracting parties, based on the nature of the transaction.
Incidentally, the Circular also visualises arrangements between the distributor and the theatre owner on a principal to principal basis: whether or not copyright in the film to be exhibited is temporarily transferred by the distributor to the theatre owner, and states that the service tax will apply on such arrangements as well, either as a service provided by the distributor to the theatre owner, for temporary transfer of the copyright in the film, or as a service provided by theatre owner to the distributor, as a business support service, or as renting of immovable property, where no temporary transfer in the copyright of the film is visualised. The Circular thus concludes that in all situations of film distribution envisaged above, the service tax will undoubtedly apply.
This Circular of 2011 is a contentious one and raises questions to which it does not appear to provide answers. To illustrate, contracting parties to a revenue sharing arrangement can undoubtedly transact on a principal to principal basis. In other words, the agreement by which the contracting parties join hands for mutual business interest and for sharing of profits arising out of economic activity can undoubtedly be visualised in law to come into being as one between principals. Hence, the simplistic assumption in the Circular that such agreements are to be held as not on principal to principal basis is a flawed one. Further, even if an unincorporated joint venture, in the form of a juridical entity, comes into being as a result of this arrangement, it can nevertheless be argued that no services are provided by the joint venture to any of the contracting parties to the joint venture. Hence, the simplistic assumption here as well that a service is automatically presumed to be provided in such circumstances is incorrect. Indeed, it is moot as to what appropriate taxable service is supposedly provided by the joint venture to the contracting parties. To be precise, it can be argued that business auxiliary and support services are not in fact provided by the joint venture. Indeed, it can further be argued that in such an instance, the joint venture is a principal on its own accord, being an independent entity, as per the Circular’s own logic and its activities are not services to the contracting parties but are carried out by the joint venture on its own accord. This was exactly the conclusion that the Circular of 2009 had reached, in order to hold that the definition of business support service would not apply to the revenue sharing arrangements being envisaged.
The issuance of the above Circular is hence expected to complicate the position on taxability of revenue sharing arrangements in general, since the Board has clarified that the Circular will apply, mutatis mutandis, to similar arrangements across all service sectors.
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Specific to the film industry, the Circular will have the effect of a charge of service tax on the gross collections on the sale of tickets in a revenue sharing model, as opposed to other arrangements, commonly prevalent in the industry where the tax would apply only on a part of the ticket collections represented in the form of either a charge for the temporary transfer of copyright or for rentals of theatre premises, as the case may be. Further, the service tax paid by the joint venture could potentially become a cost in the absence of any ability to offset it.
The other disputatious area would be of taxability of ongoing arrangements, given that the Circular of 2009 has not been withdrawn and hence continues to be in force along with the Circular of December 2011. These and other such matters would need to be expeditiously addressed by the Board through suitable clarifications.
Before concluding, it is important to note that the Centre appears to be serious about introducing the negative list basis of service taxation in the forthcoming Budget of 2012. It could be that revenue sharing arrangements could potentially be covered within the ambit of the new basis of taxation. This would depend on the appropriate definition of ‘services’ thereunder. It would be important to therefore closely monitor developments in this area of service taxation.
The author is Executive Director, PricewaterhouseCoopers Pvt. Ltd. pwctls.nd@in.pwc.com
Supported by Monika Arora and Kishore Kumar