GST UPDATE

Hon’ble Court: Supreme Court of India
Case Title: Commissioner of Central Excise & Service Tax, Bangalore Ors. v. M/s Northern Operating Systems Pvt. Ltd.
Appeal No. & Citation: 2289–2293 of 2021

Hon’ble Judge(s)	S. Ravindra Bhat, U.U. Lalit and Pamidighantam Sri Narasimha, JJ.
Date of Order	19 May 2022
Outcome	Appeal allowed in Part

Brief Facts of the Case

Northern Operating Systems Pvt. Ltd. (“NOS”) was an Indian company belonging to the Northern Trust group. It had entered into agreements with its overseas group companies for providing back-office and operational support services. In order to perform its activities in India, NOS requested its overseas group companies to provide experienced managerial and technical personnel on a secondment basis. Under the secondment arrangement, the foreign group company selected and deputed employees to NOS for specified periods. During the secondment, the employees worked under the instructions and directions of NOS, devoted their entire time to NOS and were responsible to NOS. However, the employees continued to remain on the payroll of the foreign group company for purposes such as social security, retirement and health benefits. The foreign entity paid their salary and other benefits and subsequently raised debit notes on NOS for reimbursement of the salary, allowances and other expenses. There was generally no mark-up on such reimbursement. NOS did not pay service tax on the amounts relating to the seconded employees because it believed that the employees had effectively become its employees and that the reimbursement of their salary could not be regarded as consideration for manpower supply service.
Following an audit, the Revenue issued four show cause notices.The Commissioner confirmed the demand in respect of the earlier periods. However, in relation to subsequent periods from April 2012 to September 2014, the adjudicating authority dropped the proposed demand. CESTAT thereafter decided the matter substantially in favour of NOS and rejected the Revenue's appeals. The Revenue consequently approached the Supreme Court.

Relevant Section

Section 65(68), Section 66A, Section 65B(44), Section 65(105)(k)

Question before Hon’ble Court / Authority

Whether the overseas group company or companies, with whom the assessee has entered into agreements, provide it manpower services, for the discharge of its functions through seconded employees?

Brief Arguments by Revenue - Appellant

Contractual documents had to be read together

The Revenue argued that the Services Agreement, Master Services Agreement, Secondment Agreement and individual assignment letters had to be examined collectively. The Revenue relied on the following factors:

the employees were selected by the overseas entities;
they continued to remain on the foreign payroll;
their salary, allowances and employment benefits were governed by the foreign employment arrangements;
their social security, retirement and health benefits remained linked to the overseas employer;
the assignments were temporary;
the employees were expected to return to the overseas group after completion of the assignment;
NOS reimbursed the salary and other employment-related costs; and
NOS could not independently alter the employees’ salary or foreign employment conditions.

According to the Department, the continuation of these benefits demonstrated that the overseas entity retained substantial control over the employment conditions of the employees. Therefore, allthe documents showed that the overseas group companies made their employees available to NOS for performing specified functions.

Services Agreement

The Revenue relied upon the Services Agreement dated 1 September 2006 between NOS and Northern Trust Company under which NOS was required to provide back-office and IT-enabled services to the overseas group company. The consideration was calculated on the basis of the actual cost incurred by NOS plus a 15% mark-up. This cost-plus arrangement showed that NOS was performing specified services for the overseas entity and that the expenses relating to the seconded employees formed part of the cost of providing those services.

Continuation of Foreign Employment

The Revenue argued that the employees continued to remain connected with the overseas group company during the secondment period. The employees continued to receive salary and benefits through the foreign payroll. Their social security, retirement and health benefits also remained linked to the overseas employer.According to the Department, these factors showed that the overseas entity retained the essential features of the employment relationship.

Temporary Nature of the Assignment

The Revenue emphasised that the secondment was for a limited period. After completion of the assignment, the employees were required to return to their original positions or be deployed elsewhere within the overseas group. The temporary nature of the arrangement, according to the Revenue, was inconsistent with the claim that the employees had permanently become employees of NOS.

Limited Nature of NOS's Control

The Revenue accepted that NOS exercised day-to-day operational control over the employees. However, it argued that such control was limited to supervising the performance of work. NOS did not have complete authority over the employees' employment conditions. NOS could not independently alter their salary, foreign employment status or contractual benefits. If an employee was unsuitable, NOS could only request the overseas entity to recall or replace that employee. Therefore, the relationship was not one of employer and employee between NOS and the seconded employees. It was a service arrangement between NOS and the overseas group company.

CESTAT's Approach Was Erroneous

The Revenue submitted that CESTAT had placed excessive reliance on the fact that the employees worked under the supervision of NOS. According to the Department, CESTAT failed to consider the complete contractual and economic relationship between the parties. The Revenue argued that the real issue was not merely who supervised the employees but who selected them, retained their employment rights, determined their benefits and made their services available to NOS.

Extended Period of Limitation

The Revenue contended that NOS had failed to disclose the relevant receipts in its ST-3 returns. According to the Department, NOS was aware that it was receiving services from overseas group companies but did not pay service tax on the amounts reimbursed towards the seconded employees. The Revenue therefore argued that the extended period of limitation was rightly invoked on the ground of suppression of facts and intent to evade service tax.

Brief Arguments by Respondent - Assessee

Scope of Manpower Recruitment or Supply Agency Service

The assessee submitted that a conjoint reading of Sections 65(68) and 65(105)(k) of the Finance Act, 1994 showed that the taxable category covered two distinct activities, first, recruitment of manpower; and second, supply of manpower.The service would become taxable only when it was provided by a person qualifying as a “manpower recruitment or supply agency.”

Circulars Issued by the Department

The assessee relied upon Circular F. No. B1/6/2005-TRU dated 27 July 2005 and Master Circular No. 96/7/2007-ST dated 23 August 2007 which contemplated situations where manpower was supplied by an agency but was not contractually employed by the recipient. It was argued that the category of manpower supply service applied only where manpower was supplied without creating a contractual employment relationship with the recipient.

Employee-Employer Relationship Outside the Scope of Service Tax

The assessee submitted that services provided by an employee to an employer in the course of employment had never been subjected to service tax. It was argued that, even after the introduction of the negative-list regime with effect from 1 July 2012, Section 65B(44)(b) expressly excluded. Therefore, if the seconded employees were regarded as employees of NOS during the secondment period, their services could not be taxed as manpower supply services. Further, employment services were not subjected to VAT or GST in any jurisdiction because the relationship between an employer and an employee was fundamentally different from a commercial service relationship between two independent persons.
The seconded personnel were contractually engaged as employees of NOS during the period of their assignment. They worked exclusively for NOS and devoted their entire time, attention and skills to the duties assigned by NOS.
The employees:

worked under the instructions and directions of NOS;
reported to NOS's designated offices;
were accountable to NOS for their performance;
were supervised and controlled by NOS;
performed duties assigned by NOS; and
were responsible to NOS for all work undertaken during the secondment period.

According to the assessee, these factors established that the real relationship during the secondment was one of employer and employee between NOS and the seconded personnel.

Salary Payment Through Foreign Payroll Was Only for Administrative Convenience

NOS submitted that the continued payment of salary and allowances through the payroll of the overseas entity was only for administrative convenience.The arrangement was adopted to ensure the continuation of the employees' social security, retirement and health benefits in their home country.The foreign entity merely acted as a payroll administrator. Therefore, the mode of salary disbursement could not determine the true nature of the employment relationship.

Reimbursement of Salary Did Not Constitute Consideration for Manpower Supply

The assessee argued that the amounts paid to the overseas group companies were merely reimbursements of actual salary, allowances and other employment-related expenses.The overseas entity did not charge any consideration for supplying manpower. It only recovered the actual costs incurred in paying the employees and administering the payroll. Therefore, reimbursement of actual expenses could not be treated as consideration for a taxable service.

The Overseas Group Companies Were Not Manpower Supply Agencies

The assessee argued that the foreign group companies were not engaged in the business of supplying manpower. Their principal business activities had no connection with the business of manpower recruitment or supply. The statutory definition required the person to be engaged in providing services for recruitment or supply of manpower. That requirement was not satisfied in the present case. The assessee submitted that the secondment was an internal arrangement between companies belonging to the same corporate group.

Reliance on various judicial precedents

The assessee relied upon the decision in

Collector of Central Excise & Service Tax v. Nissin Brake India (P) Ltd. Volkswagen India Pvt. Ltd. v. Commissioner of Central Excise, Pune-I;
Honeywell Technology Solutions Pvt. Ltd. v. Commissioner of Service Tax, Bangalore; and
Computer Sciences Corporation India Pvt. Ltd. v. Commissioner of Service Tax, Noida.

These decisions were relied upon to contend that secondment arrangements, where employees worked under the control and supervision of the Indian entity and the foreign entity merely recovered salary costs, did not constitute taxable manpower supply services.

Salary Could Not Be Treated as Consideration for Service - Reimbursement of expenses could not be taxed

The assessee submitted that, even assuming that the overseas group companies had provided a service, the salary and allowances paid to the employees could not be treated as consideration for that service.The salary was paid to the employees for the work performed by them. It was not paid to the overseas group companies as consideration for supplying manpower.

Extended Period of Limitation Was Not Invocable

The assessee argued that the extended period of limitation could not be invoked in the absence of fraud, collusion, wilful misstatement or suppression of facts with intent to evade tax. Mere non-payment of service tax arising from a bona fide interpretation of law could not amount to wilful suppression.

Situation is Revenue Neutral

NOS submitted that, even if service tax were held payable on the amounts paid to the overseas group companies, the tax would be available as credit of service tax paid on input services. The services received from the foreign group companies qualified as input services used in the provision of output services by NOS. Therefore, the assessee would be entitled to avail credit under Rule 5 of the CENVAT Credit Rules read with Rule 6A of the Service Tax Rules, 1994. Since the entire tax paid would ultimately be available as credit or refund, the situation would be Revenue Neutral, causing no loss to the government.

Findings and Judgement

The Court examined the service agreement, secondment agreement, assignment documents and the letters of understanding issued to the employees as a composite arrangement and made the following analysis:

No Single Test Determines the Employer-Employee Relationship

The Court rejected the proposition that operational control alone determines whether an employer-employee relationship exists. The Court noted that the traditional control test remains relevant but is not conclusive. In complex modern employment arrangements, the court must undertake a balancing exercise by considering all relevant factors, including:

who pays the remuneration;
who has the right to exercise control;
whether the employee is integrated into the business;
who bears the economic burden;
who owns or controls the relevant business structure;
who is responsible for the employee's continued employment;
whether the employee is in business on his or her own account; and
whether the employee retains a right or lien with the original employer.

The Court therefore held that the relationship must be determined on the totality of the facts and not by applying any single universal formula.

Reliance placed on various case laws

The Supreme Court relied upon its earlier decision in Director, Income Tax v. Morgan Stanley & Co. Inc. In that case, the Court had held that employees deputed by the foreign company did not become employees of the Indian entity merely because they worked under the Indian entity's supervision. The Court also considered CIT v. Eli Lilly & Co. (India) Pvt. Ltd.These decisions supported the conclusion that the place of actual salary disbursement or the existence of day-to-day operational control cannot, by itself, determine the identity of the real employer.

The Agreements Demonstrated That the Overseas Entity Continued to Be the Employer

Upon a conjoint reading of the agreements, the Supreme Court identified the following material features:

The service agreement required NOS to perform back-office and other specialised functions for the overseas group company or its affiliates.
NOS received a mark-up of 15% on the overall expenditure incurred by it under the service arrangement.
Under the secondment agreement, the overseas employee was temporarily loaned or deployed to NOS.
NOS exercised operational and functional control over the employee during the secondment period and could require the employee to return.
The overseas group company continued to pay the employee's salary and other employment-related amounts, which were reimbursed by NOS.
NOS was responsible for the work performed by the seconded employee, while the overseas entity was absolved from responsibility for the employee's work during the secondment.
The secondment was for a specified duration and the employee's assignment with NOS ended upon expiry of that period.
The letter of understanding described the arrangement as an assignment and contemplated repatriation under the overseas entity's global mobility policy.
The salary structure and allowances, including hardship allowance, housing allowance, vehicle allowance, servant allowance and paid leave, reflected the standardised employment policy of the overseas entity.

The Court held that these features, taken together, demonstrated that the employees continued to remain part of the overseas entity's pool of skilled personnel and were deployed to NOS for a limited period to perform specialised functions.

Operational Control by NOS Did Not Make NOS the Sole Employer

The Court distinguished between:

operational or functional control, which was exercised by NOS; and
the broader employment relationship, which continued to be connected with the overseas entity.

The Court held that the overseas entity's continuing role in relation to salary, employment terms, social security, repatriation and future deployment was significant in determining the true nature of the arrangement.

Payroll Retention and Salary Reimbursement Supported the Revenue's Case

The Court rejected the argument that the foreign entity's continued payment of salary was merely an administrative arrangement which had no bearing on the identity of the employer.The Court held that it was not unusual or commercially unreasonable for the overseas employer to seek reimbursement of salary costs when its employees were deployed to perform work for the Indian entity. The reimbursement of salary therefore did not negate the existence of consideration. On the contrary, it was consistent with the arrangement under which the overseas entity made its skilled employees available to NOS.

The Overseas Group Companies Could Provide Manpower Services Even if Manpower Supply Was Not Their Principal Business

The Court did not accept the argument that the overseas group companies could not be treated as manpower supply agencies because their principal business was different. Even if the overseas entities were not conventional manpower recruitment agencies, they supplied the services of their employees to NOS for a specified period. The relevant question was whether, under the arrangement, manpower was made available to NOS for the performance of its functions.

The Pre-2012 Taxability Test as well as the Post-2012 Was Satisfied

For the period before 1 July 2012, the held that statutory requirements of manpower recruitment or supply agency service were satisfied because the overseas group company made its employees available to NOS for a specified period to perform specialised functions.The fact that the employees worked under NOS's operational supervision did not alter the character of the overseas entity's activity as the provider of manpower services.
For the period after 1 July 2012, the Court considered the expanded definition of “service” under Section 65B(44). The Court noted that, after the introduction of the negative-list , the Court held that the exclusion was in relation to employer employee service, which was not applicable in the instant case because the seconded employees were not, in substance, employees of NOS for the relevant purpose.

Consideration Could Be Established Through Economic Benefit

On Consideration, it was held that payment by remittance, debit note or any other specific method is only one way of identifying consideration. Consideration may also be established by examining the economic benefit received by the service recipient. The economic benefit derived by NOS from the deployment of specialised employees constituted sufficient consideration, even if the payment was structured as reimbursement of salary and related costs. Furthermore, the existence of consideration does not depend upon the service provider earning a profit or charging a separate commercial margin. Therefore, mere absence of Mark-Up did not eliminate consideration.

Revenue Neutrality Was Irrelevant to the Incidence of Tax

On argument of Revenue Neutrality, the Court held that the incidence of taxation must be determined independently of the question whether the assessee may subsequently claim credit, refund or any other statutory benefit. The fact that the assessee might be entitled to recover the tax through an existing credit or refund mechanism did not mean that the underlying transaction was not taxable.

On Invocation of extended period of limitation

The Court held that the assessee's interpretation was ultimately incorrect on the question of taxability. However, the fact that the assessee had relied upon earlier decisions and that the issue involved a genuine interpretational dispute was relevant to determining whether there had been wilful suppression or deliberate misstatement. Therefore, every omission, non-disclosure or incorrect legal interpretation does not automatically justify the extended period. The Court held that the assessee had adopted a genuine and legally plausible interpretation of the secondment arrangement. The mere fact that the interpretation was ultimately rejected on the issue of taxability did not establish an intention to evade tax.The Supreme Court held that the extended period of limitation was not available to the Revenue. Accordingly, the demand could be sustained only for the normal period and not for the extended period.
Accordingly, the Supreme Court adopted a substance-over-form approach and held that the secondment arrangement was not merely an employer-employee relationship between NOS and the secondees. At the same time, the Court recognised that the issue involved a genuine and contested interpretation of law. Since the assessee's position was supported by earlier decisions and was not mala fide, the extended period of limitation could not be invoked.
The final result was therefore:

taxability: decided in favour of the Revenue; and
extended limitation: decided in favour of NOS.

NOS was liable to pay service tax only for the normal period covered by the show cause notices.

CA Pradeep Jain_

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GST Update / 2026-27/0073

GST UPDATE

Brief Facts of the Case

Relevant Section

Question before Hon’ble Court / Authority

Brief Arguments by Revenue - Appellant

Brief Arguments by Respondent - Assessee

Findings and Judgement

CA Pradeep Jain_

Opinion

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