The Maharashtra Authority for Advance Ruling ( AAR ) while addressing an Application filed by the Reserve Bank of India ( RBI ) observed that the penalty levied by RBI on third-party vendors for Non-performance or Under-performance of their contractual obligations towards RBI do not constitute supply of service, thus not being subject to taxability under the Goods and Service Tax ( GST ) mechanism. The Application for Advance Ruling was filed by the RBI under Section 97 of the Central Goods and Services Tax Act, 2017. RBI, being the central bank of the country undertakes multifarious functions including but not limited to being the Monetary Authority, Regulator and Supervisor of the Banking and Financial System, Manager of Foreign Exchange, Issuer of Currency and Regulator and Supervisor of Payment and Settlement Systems. Complete Draft Replies of GST ITC Related Notices, Click Here

One of the queries sought to be addressed through the present Application was whether the penalty of the nature for non-performance or under-performance by contracted third-party vendors are taxable under the GST regime. The RBI engages into contractual agreement with third-party vendors to avail numerous services like deployment of shredding and briquetting system, currency verification and processing machines while entering into Annual Maintenance Contracts to facilitate the same. In the event the third-party vendors fail to duly fulfill their duties, hindering the functions of the RBI, a penalty or such recovery therein may be levied on the defaulting vendors.

The requisites effectuating such a hindrance have been duly laid down in the contracts entered into between RBI and the third-party vendors. The RBI relied on Paragraph 7.1 of Circular No.178/10/2022-GST ( CBIC Circular ) dated 03.08.2022 and the judgment of the Customs Excise & Service Tax Appellate Tribunal in M/s South Eastern coalfields Ltd. (2021) to aver that GST is not applicable on liquidated damages where the amount is paid only to compensate for injury, loss or damage, and such payments are not consideration for a supply. Complete Draft Replies of GST ITC Related Notices, Click Here

The two-member Bench of the Maharashtra Authority for Advance Ruling constituted by Ajaykumar V. Bonde, Joint Commissioner of State Tax and Priya Jadhav, Joint Commissioner of Central Tax observed that the liquidated damages are paid only as a means of compensation and not to tolerate an act or to do anything in return for the party paying out the liquidated damages. In light of the observation made, the AAR Bench ruled that that the penalty for non-performance or under-performance by contracted third-party vendors is in the nature of liquidated damages and are not in the nature of a consideration for an activity and hence, would not constitute a supply of service, hence not being taxable under the GST regime.