With the introduction of the ‘negative list’ based approach to taxation of services from July 1, the Government has sought to bring a wider range of services within the service tax ambit.

While, the provision of service by an employee to the employer in the course of, or in relation to employment has been specifically excluded from the levy of service tax, there was some doubt on the treatment of services/ perquisites provided by the employer to employee.

The Central Board of Excise and Customs recently issued a draft circular for public discussion on the taxability of staff benefits provided by an employer.

The draft circular states that services provided by the employer to employees would be taxable; services would be taxed where the employee pays for such services or where the amount is deducted from the salary; and where the services are provided against a portion of the salary foregone by the employee, they would be taxed.

While some clarity is still needed, it appears that the CBEC is seeking to tax perquisites forming a part of the employee’s ‘cost to company’, and otherwise available as cash component.

According to the circular, benefits provided free to employees would not be taxable as there is no consideration for them (for instance, facilities such as gymnasium and health club that employees use without deduction from salary).

With specific reference to reimbursements for expenditure incurred by an employee in the course of employment, the circular clarifies that this would not be a ‘service’ and hence not taxable. Interestingly, it does not mention anything on reimbursement of upfront expenditure incurred by the employee in lieu of benefits/ perquisites.

The draft circular has initiated significant debate in industry on the rationale of taxing such transactions and the technical/ procedural issues entailed.

The fundamental question is whether such benefits/ perquisites provided by an employer to employee should be taxed in the first place. Employees constitute a valuable asset for any corporation and the facilities/ benefits should be seen as provided in the course of employment.

Perquisites received by employees are already captured for direct taxation and subjected to income tax. If they are brought within the service tax ambit, significant administrative difficulties would arise without any appreciable revenue for the Government. Only a service provided by an employer in the course of business in lieu of salary — for example, a hotel providing accommodation to employees as part of salary — should be taxed.

Other aspects need to be addressed too, such as the treatment of benefits/ perquisites (say, club membership) that are not otherwise available as cash component to the employee — will they be treated as free of cost supplies or taxable? Further, what would be the treatment where the employee pays upfront for the service (say, club membership) and the employer later reimburses it as part of cost to company?

Lastly, the circular does not say how an employer should undertake the service tax compliances associated with providing services to employees, such as issuance of invoices.

Thus, it is apparent that there are significant issues involved in establishing a mechanism to levy service tax on staff benefits. These should be appropriately discussed before formalising it.

Bipin Sapra is Tax Partner, Ernst & Young

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