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    Audit Under Service Tax – Powers Of Revenue

    Rule 5A of the Service Tax Rules, 1994 provides for audit under service tax. This provision empowers Commissioner to appoint officer for carrying out audit under Service Tax. As everyone are aware, the recent buzz is that appointment of Departmental Officer for audit under this rule is invalid as it is ultra vires Section 72A which contemplates only special audit by a Chartered Accountant or Cost Accountant. Let’s have a look at this rule before proceeding to discuss on this issue. 

    “5A. Access to a registered premises: 

    • An officer authorised by the Commissioner in this behalf shall have access to any premises registered under these rules for the purpose of carrying out any scrutiny, verification and checks as may be necessary to safeguard the interest of revenue. 
    • Every assessee shall, on demand, make available to the officer authorised under sub-rule (1) or the audit party deputed by the Commissioner or the Comptroller and Auditor General of India, within a reasonable time not exceeding fifteen working days from the day when such demand is made, or such further period as may be allowed by such officer or the audit party, as the case may be,- 
    • the records as mentioned in sub-rule (2) of rule 5; 
    • trial balance or its equivalent; and 
    • the income-tax audit report, if any, under section 44AB of the Income-tax Act, 1961 ( 43 of 1961), for the scrutiny of the officer or audit party, as the case may be.” 

    On perusal of this rule, the following interpretations emanate—

    • Sub-rule(1) empowers Commissioner to authorize an officer for accessing any registered premises to carry out any scrutiny, verification, checks as may be necessary to safeguard the interest of revenue. 
    • Sub-rule(2) requires the assessee to produce records on demand within reasonable time to the officer authorized under sub-rule(1), the audit party deputed by Commissioner, or the C&AG. 

    Thus each of the sub-rules are independent while sub-rule(1) deals with Commissioner authorizing an officer to carryout scrutiny, verification, checks by visiting a registered premises of the asseessee, sub-rule(2) casts obligation on assessee to produce records on demand made by the specified officers.

    The only section that talks about audit in Finance Act, 1994 is Section 72A. This section provides that Commissioner can direct an assessee to gets accounts audited by a Chartered Accountant or Cost Accountant in the specified circumstances like failure to declare correct value, excess availment and utilization of CENVAT Credit, operations at multiple locations. Thus there is no section under Finance Act, 1994 which provides for audit by Central Excise Officers or officers of C&AG. 

    Section 94 of the Finance Act, 1994 empowers the Central Government to make rules. Sub-rule (2) of this section provides the matters on which rules can be framed while sub-rule(1) provide for the general power to make rules for carrying out the provisions of this chapter. There is no specific empowerment to Central Government under sub-rule(2) with respect to audit of Service Tax records. In light of this background, we will now proceed to examine the interpretational issues around Rule 5A. 

    As on today, three High Courts have dealt with this issue and expressed conflicting views. In the case of ACL Education Centre Pvt Ltd & Otrs vs. UOI, 2014-TIOL-120-HC-All-ST, wherein it was never argued by the Revenue that departmental audit party is entitled to audit the records. But it was put forward that Rule 5A(2) allows either the officer of the Department or the Chartered Accountant appointed for audit to demand the records. This by itself does not empower the departmental audit party to audit the records. The audit will be conducted only by a qualified Chartered Accountant.

    The High Court vide para 25 has held that in terms of Rule 5A (2), in case of private assessee, the Commissioner will refer the matter to an officer to collect the material or Chartered Accountant for the purpose of audit. Thus, for the purpose of audit, the material can be collected either by the officer authorized by the Commissioner or by the Auditor appointed by him. So there is no inconsistency in Rule 5A and Section 72-A of the Finance Act, 1994. 

    It is interesting to note here that Revenue has accepted that Commissioner is empowered to appoint only a qualified Chartered Accountant or Cost Accountant to conduct the audit but not by Departmental audit officers. There is no debate on this issue but only debate is on issue of requirement to submit records upon demand by departmental audit officers i.e. Rule 5A (2) which has been ruled out in favor of the revenue.

    Next one is the Kolkata High Court judgment in the case of SKP Securities Ltd Infinity Infotech Parks Ltd vs. DD(RA-IDT) & Ors, 2013-TIOL-38-HC-Kol-ST, wherein the issue whether C&AG is empowered to conduct audit of a non-government company not in receipt of assistance from any Government or Government entity. On examining various provisions of CAG Act along with Section 72A, Rule 5A of the Service Tax Rules, 1994, it was held that C&AG has no power to audit the records of a non-government company not in receipt of aid or assistance from any Government or Government entity. On the issue of Rule 5A(2) with regard to submission of records to officer appointed by C&AG for audit or departmental audit party, it was held as follows; 

    • On a plain reading of Rule 5A(2) of the Service Tax Rules, the said Rule does not empower the CAG to audit the accounts of any assessee. While Sub-rule (1) of Rule 5A provides for access of any officer authorized by the Commissioner to any premises registered under the Service Tax Rules, for carrying out any scrutiny, verification or check, as may be necessary to safeguard the interest of revenue, Sub-rule (2) of Rule 5A only casts an obligation on the assessee to make the records and documents as specified in the said Rule available to the officer authorized by the Commissioner, or the audit party deputed by the Commissioner or the Comptroller and Auditor General of India within a reasonable time not exceeding 15 working days from the date of demand. 
    • Sub-rule (2) of Rule 5A under which every assessee is required, on demand, to make available to the officer authorized by the Commissioner or the Comptroller and Auditor General of India the records and documents specified in the said Rule, within a reasonable time. The obligation to produce records is in harmony with the power conferred on the Central Government to make rules for carrying out the provisions of Chapter V of the Finance Act, 1994 including collection and recovery of Service Tax, determination of amount of value of taxable service etc. 
    • In course of audit of receipts of the Government, if the audit team under the Comptroller and Auditor General of India require the records and documents specified in the Rule, the same would have to be made available within a reasonable time from the date of demand. 

    In short, the Kolkata High Court has held that on reading of Rule 5A with the provisions of Finance Act, 1994, C& AG is not entitled to carry out audit of private assesses. However in terms of Rule 5A(2), where in course of audit of receipts of the Government, if their audit team requires any records or documents, the same should be made available. Accordingly, the Kolkata High Court upheld that Rule 5A of the Service Tax Rules, 1994 is not ultra vires Finance Act, 1994. 

    Thus both Allahabad High Court and Kolkata High Court has expressed more or less same view with respect to Rule 5A(2) of the Service Tax Rules, 1994. Recently, the Delhi High Court has examined the vires of Rule 5A in the case of Travelite vs.UOI &Otrs, 2014-TIOL-1304-HC-DEL-ST, wherein it was held in terms of Rule 5A(1) read with section 72A, only a Chartered Accountant or a Cost Accountant as appointed by Commissioner is entitled to undertake audit but not by departmental audit party. However with respect to Rule 5A(2) regarding submission of records upon demand, it has taken a contradictory view which is as follows— 

    • Apart from section 94 (rule making power), the revenue could not show any other substantive provision which justifies a probe into the records of the assessee as specified in Rule 5A(2). 
    • It is apparent that the only type of audit within the contemplation of the statute is that stipulated for in Section 72A, i.e. a special audit when only certain circumstances are fulfilled. The Parliament thus had a clear intention to provide for only a special audit. The fact that Section 72A prescribes the conditions meriting such special audit compels the necessary inference that the Parliament did not intend to provide for a general audit that "every assessee" may be subjected to, "on demand". 
    • Any provision requiring assessee to produce records to departmental audit party upon demand would be nothing but an attempt to include provision for such a general audit through the back-door. This is ultra-vires the rule making power conferred under Section 94(1). Rule 5A (2) must consequently be struck down. 

    In view of the above discussed legal position, clarity is achieved on the audit of service tax records. Departmental audit party is not entitled to undertake general audit. Only special audit by a Chartered Accountant or Cost Accountant duly appointed by Commissioner in specified circumstances is possible. However divergent view is expressed with regard to obligation to submit records on demand. The key point of difference between the High Courts is as follows; 

    • Whether the obligation casted on the assesse under Rule 5A(2) i.e. submission of records upon demand to C&AG or audit party is within the general rule making power under Section 94(1) i.e. for carrying out the provisions of Finance Act, 1994. 
    • Whether such rule is still ultravires vis-à-vis Section 72A on the reasoning that the obligation to submit records upon demand to C&AG or audit party indirectly tantamount to backdoor audit. 

    Hence the hidden muddle— “No audit by Revenue under Service Tax but backdoor audit is possible”

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