Service Tax Cannot Be Levied By Treating Maintenance Of Minimum Balance As Consideration For Banking Services: Karnataka HC

The Karnataka High court has held that maintenance of a Minimum Average Balance (MAB) in a bank account is merely a contractual condition and cannot be treated as "consideration" for banking services so as to attract service tax.

A bench of Justice S.R. Krishna Kumar quashed show-cause notices issued to Canara Bank, Bank of Baroda (formerly Vijaya Bank), Karnataka Bank and another bank over the proposed levy of service tax on facilities extended to customers maintaining minimum balances in their accounts.

"I am of the view that the act of the customers in maintaining MAB cannot be construed, treated, categorized or described as 'consideration' towards the services provided by the petitioners-Banks leading to the sole / unmistakable conclusion that the demand for payment of service tax on the erroneous premise that maintaining MAB in the accounts of the customers amounts to consideration as sought to be contended in the impugned SCNs is clearly contrary to law," the court held.

The dispute arose from show-cause notices issued by tax authorities for the pre-GST period. The authorities alleged that customers' commitment to maintain stipulated minimum balances constituted non-monetary consideration for banking services and attracted service tax.

Canara Bank, Bank of Baroda, Karnataka Bank, and another petitioner bank challenged the notices, contending that maintaining MAB was merely one of the conditions governing operation of certain categories of accounts.

They argued that no consideration was charged from customers who maintained the stipulated balance and that service tax was already being paid on fees collected when customers failed to maintain MAB.

Accepting the contention, the court observed that maintaining MAB was only a condition of the contract between the bank and the customer and could not be treated as consideration for services.

"Keeping of the MAB is merely a condition of the contract simpliciter which cannot be construed / treated / called as 'consideration' charged in terms of the Finance Act and the Rules made thereunder," the court observed.

The court noted that customers who failed to maintain the prescribed balance were liable to pay a penalty or fee, on which service tax had already been discharged. It found that the contractual framework did not contemplate recovery of service costs through maintenance of MAB.

"For agreeing to maintain a deposit, the account holder receives interest, while any infraction of that obligation attracts a penal charge. The amount recovered by the Bank on account of such breach unmistakably partakes the character of a penalty and not 'consideration'," the court held.

The bench also rejected the assumption that maintenance of MAB assured liquidity to banks. It observed that customers remained free to withdraw funds from their accounts.

"A customer remains at liberty to withdraw the entire amount standing to the credit of the account, which inexorably leads to the conclusion that the MAB, or the maintenance thereof, cannot be regarded as 'consideration' for the services rendered by the Banks," the court observed.

The court found that the notices failed to establish the necessary quid pro quo between maintenance of MAB and the services provided by the banks. It also noted that tax authorities had accepted a similar position in proceedings involving South Indian Bank and had dropped the demand in that case.

Holding the proceedings unsustainable, the court quashed the show-cause notices.

For Appellant: Senior Advocate G. Shivadass with Advocate Tanmayee Rajkumar

For Respondent: Aravind Kamath, ASGI with Advocate Jeevan J. Neeralgi,