MF distributors likely to bear service tax burden

AMCs plan to deduct the tax from distributors' fee

This is because mutual fund houses plan to deduct the tax component from the fee paid to distributors.

Buried at the end of the explanatory memorandum, the Finance Bill states, "The service tax rules are being amended so as to prescribe that the liability of payment of service tax on business auxiliary services provided by the distributors of mutual funds will be on the recipient of service, namely mutual funds."

This directive is effective from the time the Bill is passed in Parliament.

"This removes any existing ambiguity on the issue," said Bhavna Doshi, partner at BSR & Co, the chartered accountant firm which is the Indian associate of KPMG.

There was an issue over who was to bear the service tax in the mutual fund sector since the definition of service in the sector was in dispute.

Mutual funds plan to pass on the service tax to distributors by netting out the service tax component in their brokerage payments.

"The brokerage or commission paid to the distributors of mutual fund distributors will be lesser to that extent," said Naval Bir Kumar, managing director of Standard Chartered Mutual Fund. It will be like tax deducted at source.

This is the only way that the mutual funds can absorb the service tax without passing it on to customers.

However, whether distributors will be happy with the arrangement is another matter.

In all other cases, the service provider always passes on the burden to the consumer, who is technically the "recipient of the service".

Here the mutual fund is the user of the service given by the distributors.

Industry circles said that funds might pass on only a portion of the service tax liability to the distributors (in terms of deducting it from the brokerage) and prefer to absorb the rest or even pass it on to the investors in the form of higher entry loads.

The treatment of it might vary from fund to fund, and even from time to time depending on the state of the market.

The original notification for the service tax on mutual funds came in November 2003, through a circular from the revenue department under the ministry of finance.

A section of distributors moved the courts and obtained a stay against its implementation since at that time it was thought that the distributors would have to take the hit.

Though everything has been clarified now, distributors are still of the opinion that AMCs should shoulder the liability and pass it on to the customers.