The distinction between Intermediary Service and Principal Service provider is perhaps the most contested classification issue for India’s IT and software services export industry. Getting this wrong can result in massive GST liabilities, denial of export benefits, and years of litigation.
This guide provides clarity on this complex issue, helping IT companies position their service agreements correctly and defend against incorrect intermediary classification.
🔑 Key Takeaway
An intermediary arranges or facilitates supply between two parties without assuming the role of principal. If you directly provide software development or IT services to foreign clients, you are the principal service provider—not an intermediary.
Understanding the Intermediary Classification
Legal Definition Under GST
Section 2(13) of IGST Act defines ‘intermediary’ as a broker, an agent, or any other person who arranges or facilitates the supply of goods or services or both, or securities, between two or more persons, but does not include a person who supplies such goods or services on his own account.
Key Elements of Intermediary
- Arranges or facilitates supply (not provides directly)
- Acts between two or more parties
- Does NOT supply on own account
- Receives commission/fee for facilitation
Why Classification Matters
| Aspect | Intermediary Services | Export of Services (Principal) |
|---|---|---|
| Place of Supply | Location of supplier (India) | Location of recipient (outside India) |
| GST Applicability | Taxable in India | Zero-rated export |
| ITC Refund | Not available on output | Full refund available |
| Compliance | Domestic GST applicable | LUT/Bond route available |
| Revenue Impact | 18% GST on full value | No GST, full refund of input |
⚠️ Critical Impact: Misclassification as intermediary means paying 18% GST on your entire export revenue instead of enjoying zero-rated export benefits. This can severely impact competitiveness and profitability.
When IT Services Are NOT Intermediary
Most IT/software services exported from India are principal services, not intermediary services. You are a principal service provider if:
1. Direct Service Delivery
- Your team directly develops software/applications
- You provide IT support services using your own resources
- You maintain and operate systems for foreign clients
- Your employees/contractors perform the actual work
2. Contractual Responsibility
- You are contractually liable for service quality
- Client pays you for services rendered, not facilitation
- No third party involved whom you are ‘connecting’ to the client
- Service level agreements are between you and client directly
3. Value Creation
- You add value through your expertise and resources
- Deliverables are created/produced by your organization
- Pricing is based on effort/output, not commission percentage
✓ Self-Assessment Test: If your company bears the risk of service delivery, uses its own resources, and is directly responsible to the client for outcomes—you are a principal service provider, not an intermediary.
Common Scenarios in IT Industry
Scenario 1: Offshore Development Center
Situation: An Indian company sets up a dedicated team for a US client, developing software products.
Classification: Principal Service Provider (Export of Services)
Reason: Direct service delivery, own resources, contractual responsibility for output.
Scenario 2: IT Support Services
Situation: Indian company provides 24/7 technical support for US software company’s products to end customers.
Classification: Principal Service Provider (Export of Services)
Reason: Directly providing support services, not arranging between parties.
Scenario 3: Staff Augmentation
Situation: Indian company provides IT professionals who work under client’s direction and control.
Classification: Principal Service Provider (Manpower Supply)
Reason: Supplying human resources, not facilitating between third parties.
Scenario 4: True Intermediary Example
Situation: Indian company connects US clients with Indian freelancers, earning commission on successful placements.
Classification: Intermediary Services
Reason: Facilitating supply between freelancer and client, earning facilitation fee.
💡 Key Distinction: The critical difference is whether you arrange services between others (intermediary) or provide services yourself (principal). Most IT export scenarios fall into the latter category.
Department’s Typical Arguments and Counter-Arguments
Argument 1: You work under client’s brand/name
Department’s Position: Since you’re working under the client’s brand, you’re merely facilitating their services.
Counter-Argument: Working under client’s brand for confidentiality or business reasons does not change the nature of service. The test is who is providing the service, not whose brand is visible to end customers. We use our own resources, bear service risk, and are contractually responsible—making us the principal.
Argument 2: Client resells your services
Department’s Position: Your client resells the services to their customers, so you’re facilitating between your client and their customers.
Counter-Argument: What the client does with our deliverables is irrelevant to our classification. We provided services to our client on principal basis. The subsequent resale is a separate, independent transaction. Our contract is with our immediate client, not their end customers.
Argument 3: Services benefit third parties
Department’s Position: Since ultimate beneficiaries are your client’s customers, you’re acting as intermediary.
Counter-Argument: The ‘ultimate beneficiary test’ is not the criteria for intermediary classification under Section 2(13) of IGST Act. The question is whether we facilitated or actually provided the service. We provided the service directly using our resources, infrastructure, and expertise.
📋 Legal Principle: Courts and tribunals have consistently held that substance over form applies. The actual nature of service delivery—not peripheral factors like branding or subsequent use—determines classification.
Structuring Agreements to Avoid Intermediary Classification
Contract Drafting Principles
- Define your company as the service provider, not agent or facilitator
- Specify deliverables rather than facilitation activities
- Include your liability for service quality and delivery
- Price services as fee for services, not commission
- Avoid language suggesting you ‘arrange’ or ‘facilitate’ anything
Documentation Best Practices
- Maintain time sheets showing your employees performing work
- Keep project documentation showing value creation
- Retain communication showing direct client-provider relationship
- Document your investment in infrastructure and tools
✓ Contract Review Checklist
- ☐ Company defined as “Service Provider” or “Consultant” (not Agent/Facilitator)
- ☐ Scope of work clearly defines deliverables you will create
- ☐ Your liability for service quality explicitly stated
- ☐ Payment terms based on time/deliverables (not commission percentage)
- ☐ Intellectual property clauses showing your creation/development rights
- ☐ No references to “arranging,” “facilitating,” or “connecting” parties
- ☐ Warranty/indemnity clauses showing your responsibility
- ☐ Service Level Agreements directly between you and client
Handling Intermediary Classification Disputes
If You Receive an Intermediary Classification Notice
- Do not accept the classification without detailed analysis – Automatic acceptance can set a precedent
- Gather all contractual and operational documentation – Master Service Agreements, SOWs, delivery proof, timesheets
- Prepare detailed rebuttal showing principal service characteristics – Address each element of Section 2(13)
- Cite relevant judicial precedents supporting your position – Build legal foundation
- Request personal hearing to present your case – Don’t rely solely on written submissions
Key Precedents Supporting Principal Classification
Several tribunal and high court decisions have upheld that IT services providers acting on their own account are not intermediaries:
- Substance over form approach – Actual service delivery matters, not labels
- Risk assumption by service provider indicates principal status
- Investment in resources and infrastructure shows own account delivery
- Pricing mechanism (per hour/project vs commission) is indicative
⚡ Immediate Action Required: If you receive a classification notice, respond within the stipulated deadline (typically 7-15 days). Missing the deadline can result in ex-parte adverse orders that are difficult to overturn.
Export Benefits for Principal Service Providers
Once correctly classified as export of services, you are entitled to:
Zero-Rating Under GST
- No output GST on export invoices
- File Letter of Undertaking (LUT) instead of paying IGST and claiming refund
- LUT valid for one financial year, renewable
ITC Refund
- Full refund of accumulated ITC on inputs
- File refund application in RFD-01
- Refund within 60 days of complete application
Financial Impact Comparison (Example: ₹1 Crore Annual Export)
| Particulars | If Classified as Intermediary | If Classified as Principal |
|---|---|---|
| Export Revenue | ₹1,00,00,000 | ₹1,00,00,000 |
| Output GST @ 18% | ₹18,00,000 | Nil |
| Input ITC (assumed) | ₹5,00,000 | ₹5,00,000 |
| ITC Refund Available | Not Applicable | ₹5,00,000 |
| Net GST Impact | -₹13,00,000 (Outflow) | +₹5,00,000 (Refund) |
| Total Difference | ₹18,00,000 per year | |
Frequently Asked Questions
Q: Does having a foreign parent company make us intermediary?
A: No. Having a foreign parent company does not change the nature of your service delivery. If you are providing services through your own resources and bearing service responsibility, you are the principal regardless of ownership structure. The legal entity providing the service is what matters, not the shareholding pattern.
Q: What if our client is also a service provider to their clients?
A: The subsequent use of your services by your client is irrelevant for your classification. You provided principal services to your immediate client. What they do with your deliverables is a separate matter. Your classification is determined by your relationship with your direct contractual counterparty.
Q: How to handle department insisting on intermediary classification?
A: File a detailed rebuttal with documentary evidence showing principal service characteristics. Request a personal hearing. If the order is adverse, file an appeal with the required pre-deposit and strong legal arguments. Engage experienced GST counsel to present your case effectively.
Q: Can we be intermediary for some services and principal for others?
A: Yes, it’s possible to have different classifications for different service streams. For example, if you provide software development (principal) and also run a freelancer marketplace (intermediary), each should be classified separately based on its actual nature.
Q: What documentation is most critical to prove principal status?
A: The most critical documents are: (1) Master Service Agreement showing you as service provider with delivery obligations, (2) Project deliverables/outputs created by your team, (3) Timesheets of your employees, (4) Investment in infrastructure and tools, (5) Client communications showing direct engagement, (6) Invoices based on deliverables/time, not commission.
Q: If we use subcontractors, does that make us intermediary?
A: No. Using subcontractors while maintaining overall responsibility for service delivery does not make you an intermediary. You are still the principal service provider to your client. The subcontractors are your vendors, not a third party you’re connecting to your client.
Q: What if our agreement has both principal and intermediary elements?
A: Bifurcate the services clearly. For portions where you provide services directly, claim principal classification. For portions (if any) where you genuinely facilitate between others, those would be intermediary services. Maintain separate accounting and documentation for each.
Q: Can we rectify our classification retrospectively?
A: Yes, if you’ve been incorrectly treating exports as intermediary services and paying GST, you can file refund claims for the last 2 years. However, be prepared with comprehensive documentation supporting principal classification, as the department will scrutinize such claims carefully.
Q: Does the revenue model (fixed fee vs. time & material) affect classification?
A: While pricing model is one indicator, it’s not determinative. Both fixed-fee and time-and-material contracts can be principal services. The key is whether you’re being paid for facilitation (commission) or for actual service delivery (fee for work performed).
Q: What if we can’t prove that supplier deposited tax with the government?
A: This question applies to ITC claims, not to export classification. For export classification as principal vs intermediary, the focus is on the nature of your service delivery, not on whether you paid tax to anyone. You’re the supplier of export services, not the recipient.
Conclusion
The intermediary vs principal classification is critical for IT and software service exporters. The vast majority of software development, IT support, and technology services provided by Indian companies to foreign clients qualify as export of services by a principal service provider—not intermediary services.
The key is to ensure your contracts, documentation, and operational reality all demonstrate that you are providing services on your own account using your own resources, bearing responsibility for the quality and delivery of services.
💰 Financial Stakes: Given the significant financial implications—potentially 18% of your entire export revenue—this is an area where proactive structuring and expert guidance can prevent costly disputes.
Immediate Action Steps
- Review existing contracts – Ensure language reflects principal service delivery
- Audit current classification – Verify you’re not inadvertently treating exports as intermediary
- Document operational reality – Maintain evidence of direct service delivery
- Train finance team – Ensure proper GST treatment on new contracts
- Seek expert review – Have a GST specialist review your export documentation
Need Help with GST Classification for IT/Software Exports?
Our team of GST experts specializing in IT and software services can help you:
- Review and restructure service agreements to ensure proper classification
- Defend against intermediary classification notices
- File refund claims for wrongly paid GST on exports
- Prepare comprehensive documentation supporting principal status
- Represent you in personal hearings and appeals
- Draft LUT applications and manage export compliance
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Disclaimer: This article provides general information on GST classification for IT/software exports and should not be considered legal advice. Each case has unique facts and circumstances. We strongly recommend consulting with a qualified GST practitioner or tax attorney before taking any position on classification, filing returns, or responding to department notices.
