1. 1 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract Vs. Other Construction Services -by Sanjeev Saraf 26 June 2010

2. 2 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Content Works Contract Works Contract – What is it? Evolution under Sales tax law Evolution under Service tax law – relevant taxable categories Key Issues

3. 3 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – What is it? Works Contract Goods Labour & Service Contract involving transfer of property in goods along with consumption of services Transfer of Property in goods Consumption

4. 4 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – What is it? TYPES OF CONTRACTS SALE CONTRACT DIVISIBLE INDIVISIBLE WORKS CONTRACT SERVICE CONTRACT Purely for Sale of Goods Property in goods passes on delivery Normal sales Tax/VAT Purely for services Service tax Split Contract - Sale - Service Property in Goods passes on delivery Normal Sales Tax /VAT Service tax Composite Contract Supply & Service Property in Goods passes on accretion VAT on deemed sale Service tax!!! Daelim BSBK works contract category

5. 5 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – What is it? A transaction may as works contract, if :- Property passes as and when the work is undertaken Work is performed on the property belonging to another Transfer of property is by the theory of accretion or accession Contract is for one type of work and the property passes in another Primary object is carrying out work with the use of labour and services, and material are used in the course of execution of such work

6. 6 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – wings spread… Works Contract Building Construction Turnkey projects Infrastructure projects Civil Jobs Commissioning of Plant Maintenance contracts

7. 7 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Content Works Contract Works Contract – What is it? Evolution under Sales tax law Evolution under Service tax law – relevant taxable categories Key Issues

8. 8 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – Evolution under Sales tax law Applicability of Sales tax on works contract 1953 SC Held: Sales-tax leviable only on Sale of Goods; sale would happen only if there is a transfer of Property in chattle as chattle. Under the law, there can not be agreement relating to one kind of property and sale as regards to another Levying tax on materials used in construction of building is not within the competence of the Provincial Legislature (State of Madras V/s Gannon Dunkerley & Co. (Madras) (1958) 9 STC 353) 1982 46 th Constitutional Amendment States sought amendment in the Constitution to enable them to levy tax on Goods involved in execution of Works Contract Birth to the 46th Constitutional Amendment in the year 1983 States given power to tax transfer of property in goods involved in the execution of Works contract – deemed sale

9. 9 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – Evolution under Sales tax law 46th Constitutional Amendment - amendment to Article 366 by inserting Clause 29A: tax on sale or purchase of goods includes –...... (b) A tax on transfer of property in goods (whether as goods or in some other form) involved in the execution of Works contract;...... Consequent to the amendment. states amended their definition of Sale to include Works Contract

10. 10 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – Evolution under Sales tax law 1989 Validity of 46 th amendment challenged SC Held: After 46 th Constitutional Amendment States amended definition of Sale to include deemed sale i.e. transfer of property in goods involved in case of works contract State can levy sales tax on goods involved in works contract (Builders Associations V/s UOI (1989) 73 STC 370) 1993 Sales tax on value of goods involved in works contract? SC Held: Works contract being included in the purview of sales tax does not entitle states to levy sales tax on entire contract value (including services) Value to be arrived by reducing value for labour and other services from the works contract value (Gannon Dunkerley & Co. V/s State of Rajasthan [1993] 088 STC 0204)

11. 11 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Content Works Contract Works Contract – What is it? Evolution under Sales tax law Evolution under Service tax law – relevant taxable categories Key Issues

12. 12 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract – Evolution under Service tax law With 46 th amendment, state governments started levying VAT on the goods element involved in works contract However, the service element under works contract remained untapped Gradually, Central Government started taxing the same b y considering the service element in works contract as service Started levying Service tax on service element under Service tax law by: Introducing new service category or Expanding scope of existing services

13. 13 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Works Contract Service and Other Construction related service Works Contract Service (1 June 2007)Other Construction related service: a)Erection, Commissioning or Installation of plant, machinery, equipment or structures, electrical or electronic devices, etc. Erection, Commissioning or Installation service (10 September 2004) b)Construction of New building or civil structure or part thereof Commercial or Industrial Construction Service (10 September 2004) c)Construction of New residential complex Construction of Complex Service (16 June 2005) d)Completion finishing services, repair, alteration, renovation or restoration of, or similar service in relation to (b) or (c) Management, Maintenance or Repair service (1 July 2003) e) Turnkey projects including EPC projects Others: Site Formation and Clearance, Excavation and Earth moving and demolition service (16 June 2005)

14. 14 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition Commercial or Industrial construction services (10 September 2004) Section 65(105)(zzq) defines: Taxable service means any service provided or to be provided to any other person in relation to commercial or industrial construction Explanation (1 July 2010): For the purposes of this sub-clause, the construction of a new building which is intended for sale, wholly or partly, by a builder or any person, authorised by the builder before, during or after construction (except in cases for which no sum is received from or on behalf of the prospective buyer by the builder or the person authorised by the builder before grant of completion certificate by the authority competent to issue such certificate under any law for the time being in force) shall be deemed to be service provided by the builder to the buyer. Section 65(25b) defines: Commercial or Industrial construction means construction of a new building or civil structure or a part thereof; or construction of pipeline or conduit; or completion and finishing services such as glazing, plastering, painting… repair, alteration, renovation or restoration of, or similar services …, which is used, or to be used, primarily for; or occupied, or to be occupied, primarily with; or engaged, or to be engaged, primarily in commerce or industry, or work intended for commerce or industry, but does not include such services provided in respect of roads, airports, railways, transport terminals, bridges, tunnels and dams.

15. 15 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition Construction of complex service (16 June 2005) … Section 65(105)(zzzh) defines: Taxable service means any service provided or to be provided to any person by any other person in relation to construction of complex Explanation (1 July 2010): For the purposes of this sub-clause, the construction of a complex which is intended for sale, wholly or partly, by a builder or any person, authorised by the builder before, during or after construction (except in cases for which no sum is received from or on behalf of the prospective buyer by the builder or the person authorised by the builder before grant of completion certificate by the authority competent to issue such certificate under any law for the time being in force) shall be deemed to be service provided by the builder to the buyer. Section 65(30a) defines construction complex means construction of a new residential complex or part thereof; or completion and finishing services …such as glazing, plastering, painting, … repair, alteration, renovation or restoration of, or similar services in relation to residential complex

16. 16 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition … Construction of complex service (16 June 2005) Section 65(91a) defines residential complex means any complex comprising of: (i) a building or buildings, having more than twelve residential units; (ii) a common area; and (iii) any one or more of facilities or services such as park, lift, parking space, community hall, common water supply or effluent treatment system, located within a premises and the layout of such premises is approved by an authority under any law for the time being in force, but does not include a complex which is constructed by a person directly engaging any other person for designing or planning of the layout, and the construction of such complex is intended for personal use as residence by such person. Explanation - For the removal of doubts, it is hereby declared that for the purposes of this clause, - (a)personal use includes permitting the complex for use as residence by another person on rent or without consideration; (b)residential unit means a single house or a single apartment intended for use as a place of residence;

17. 17 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition Erection, commissioning or installation service (10 September 2004) Section 65(105)(zzd) defines: Taxable service means any service provided or to be provided to any person by an commissioning and installation agency in relation to erection, commissioning or installation Section 65(39a) defines erection, commissioning or installation means any service provided by a commissioning and installation agency in relation to,- erection, commissioning or installation of plant, machinery, equipment or structures, whether pre- fabricated or otherwise or; Installation of - electrical and electronic devices, including wirings or fittings thereof; or plumbing, drain laying or other installations for transport of fluids; or heating, ventilation or air-conditioning including related pipe work, duct work and sheet metal work; or thermal insulation, sound insulation, fire proofing or water proofing; or lift and escalator, fire escape staircases or travelators; or such other similar services.

18. 18 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition Management, Maintenance or Repair service (1 July 2003) Section 65(105)(zzg) defines: Taxable service means any service provided or to be provided to any person by any person in relation to management, maintenance or repair Section 65(64) defines management, maintenance or repair means any service provided by - (i) any person under a contract or an agreement; or (ii) a manufacturer or any person authorised by him, in relation to, - (a) management of properties, whether immovable or not; (b) maintenance or repair of properties, whether immovable or not; or (c) maintenance or repair including reconditioning or restoration, or servicing of any goods, excluding a motor vehicle. Explanation For the removal of doubts, it is hereby declared that for the purposes of this clause, (a) goods includes computer software; (b) properties includes information technology software.

19. 19 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Relevant service categories – Definition Works Contract Services (1 June 2007) Section 65(105) (zzzza) defines: taxable service means any service provided or to be provided to any person, by any other person in relation to the execution of works contract, excluding works contract in respect of roads, airports, railways, transport terminals, bridges, tunnels and dams. Where the terms works contract means a contract wherein: (i) Transfer of property in goods involved in the execution of such works contract is leviable to tax as sale of goods, and (ii) Such contract is for the purpose of carrying out, - a) erection, commissioning or installation of plant, machinery, equipment or structures… b) construction of a new building or a civil structure or a part thereof,… c) construction of a new residential complex or a part thereof; … d) completion and finishing services, repair, alteration, renovation or restoration … e) turnkey projects …

20. 20 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Content Works Contract Works Contract – What is it? Evolution under Sales tax law Evolution under Service tax law – relevant taxable categories Key Issues

21. 21 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Constitutional validity… Validity of levy of Service tax on works contract / composite contracts Entry No 92C of List I of Seventh Schedule Central Government has power to levy and collect taxes on services Vivisection of Works Contract Material and GoodsService and Labour DesigningConstructionInstallation 2004 – Daelim Vivisection of composite contract not permissible - Commissioner vs. Daelim Industrial Co. Ltd. (2004 (170) E.L.T. A181 (S.C.)) 2010 – BSBK Vivisection of contract permissible CCE, Raipur Vs M/s BSBK Pvt. Ltd (2010-TIOL-646-CESTAT-DEL-LB)

22. 22 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Introduction of Works Contract Service ( 1 June 2007) Material and GoodsService and Labour DesigningConstructionInstallation Works Contract Service – vivisects the contract to tax all the elements of service Whether levy of service tax on service portion of works contract is constitutionally valid Constitutional validity…

23. 23 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Two School of Thoughts Entry 92C covers only pure service contracts and should not include service component of works contract In the context of materials, there is specific provision in the constitution to consider transfer of materials involved in the works contract as deemed sale Constitution of India does not provide similar concept of deemed service Therefore, service portion involved in works contract cannot be taxed under service tax law Article 366 (29A) splits works contract not only for goods but also for services Observations in BSNL vs. Union of India (2006 (2) S.T.R. 161 (S.C.) Of all the different kinds of composite transactions the drafters of the 46th Amendment chose three specific situations, a works contract, a hire purchase contract and a catering contract to bring within the fiction of a deemed sale. Of these three, the first and third involve a kind of service and sale at the same time. Apart from these two cases where splitting of the service and supply has been Constitutionally permitted in clauses (b) and (g) of Clause 29A of Art. 366, there is no other service which has been permitted to be so split. Therefore, no separate splitting is required, and service element of works contract can be covered under the constitutional powers of Entry 92C Constitutional validity…

24. 24 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Overlap in classification What would be the appropriate classification of construction related services Certain construction related services may get classified either under Works Contract service or under other Construction related service Which is the more appropriate classification – new category of works contract or old construction related service categories Since works contract category is introduced from 1 June 2007, whether the construction related services were not taxable prior to 1 June 2007 Section 65A – principles of classification Specific description shall be preferred over general description Composite service, if it cannot be classified as above, shall be classified as if they consisted of a service which gives them their essential character If a service cannot be classifiable as above, it shall be classified as a service which occurs first among services which equally merits consideration

25. 25 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Overlap in classification Applying the above principles of classification One view Works contract is more specific category over other Construction related service as it is a more comprehensive levy involving all types of works contract/ turnkey contracts where transfer of property is involved in the execution of such contracts and involves levy of VAT Alternate view Works contract is a general category which covers various contracts (including construction contracts) and therefore the earlier categories, that were specific to the specific nature of works contract should be more specific category There are contrary decisions on the validity of earlier categories

26. 26 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Whether construction related composite contracts have been brought under the ambit of service tax only with effect from 1 June 2007 and hence not taxable earlier Taxable only after 1 June 2007Taxable under earlier categories before 1 June 2007 Cemex Engineers vs Commissioner of Service Tax (2010-17-STR-534-Tri-Bang) Sunil Hi-Tech Engineers Ltd vs Commissioner of C.Ex. Nagpur (2010-17-STR-121-Tri-Mumbai) Creative Engineers (2010-18-STR-130- Commr. Appl.) Firepro Systems Private Limited V/s Commr. Service Tax, Bangalore (AIT-2008-311-CESTAT) M/s L & T limited V/s CCE Vadodra – II (2007-TIOL-744-CESTAT-MUM) Advance Ruling of Harikrishna Developers (2008-TIOL-03-ARA-ST) M/s Diebold System Private Limited (2008-TIOL-489-CESTAT-MADRAS) Master Circular No 96/7/2007 – ST dated 23 August 2007 – clarified that where tax paid under earlier categories, reclassification not permissible and hence availment of composition scheme under new category not permissible M/s India Hume Pipe Company Limited V/s CCE, Trichy [2008(10) STR 174] Soma Enterprises (2009-15-STR-559-Tri) The issue is not free from doubt and open for interpretation Overlap in classification

27. 27 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Issues due to differential classification… Specific exclusion provided to roads, railways, airports etc under Works Contract service – no such exclusion under certain earlier categories like Erection, Commissioning and Installation Erection, commissioning and installation of structure for railways projects – whether excluded under works contract services or taxable under Erection, Commissioning and Installation services? CENVAT credit benefit available under Rule 6(5) of CENVAT Rules, 2004 Full credit is available for services procured under Commercial or Industrial Construction Service while services procured under works contract services are subject to Rule 6(3) restriction Different schemes available for payment of service tax and different credit restrictions applies

28. 28 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Various Schemes available Under Works contract services Under construction services Rule 2AComposition12/2003Full valueAbatement Rate of Tax 10.3%4.12%10.3% Value for Service tax purposeService portion Full Contract value Service portion Full Contract value 33% of contract credits available: InputsNo YesNo Capital goodsYes No Input servicesYes No Issues due to differential classification… Classification in the category would determine the choice of available scheme – can result into differential service tax implication and differential credit entitlement

29. 29 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Schemes available – case study Contract value of contract given to - INR 400 Costing of the contractorInputsInput servicesC/ GoodsTotal Base price250.0050.00 350.00 Add: Taxes – Excise Duty25.005.0030.00 - Service Tax5.00 Total275.0055.00 385.00 Rates taken as 10% for simplicity Optimum scheme may change based on change on mix of goods and services, tax rates on individual materials etc

30. 30 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Analysis of the options Under Works contract servicesUnder construction services Rule 2AComposition12/2003Full valueAbatement Total contract value 400.00 Materials portion/ abatement250.00NA250.00NA268.00 Service Value for payment of service tax150.00400.00150.00400.00132.00 Service tax rate10.30%4.12%10.30% Service tax amount15.4516.4815.4541.2013.60 Less: credits available: Inputs---25.00- Capital goods5.00 - Input services5.00 - Net service tax liability5.456.485.456.2013.60 Credit lost25.00 0.0035.00 Total tax cost30.4531.4830.456.2048.60 Schemes available – case study

31. 31 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Composition scheme for continuing contracts Whether contracts executed before 1 June 2007 on which service tax is paid under earlier categories can reclassify under works contract services and pay service tax under composition scheme Rule 3 of the rules providing composition scheme: The provider of taxable service who opts to pay service tax under these rules shall exercise such option in respect of a works contract prior to payment of service tax in respect of the said works contract and the option so exercised shall be applicable for the entire works contract and shall not be withdrawn until the completion of the said works contract Master Circular No 96/7/2007 – ST dated 23 August 2007 A service provider who paid service tax prior to 1.6.2007 under earlier categories is not entitled to change classification and hence is not entitled to avail composition scheme Nagarjuna Construction Company Ltd versus GOI (2010-TIOL-403-HC-AP-ST) A service provider who paid service tax prior to 1.6.2007 under earlier categories is not entitled to avail composition scheme

32. 32 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Budget amendment on construction service Definition of Construction of Complex Services and Commercial or Industrial Construction Service amended to levy service tax in cases where whole/ part consideration is received by builder from prospective buyer before issuance of completion certificate Explanation – For the purposes of this sub-clause, construction of a complex/ new building which is intended for sale, wholly or partly, by a builder or any person authorized by the builder before, during or after construction (except in cases of which no sum is received from or on behalf of the prospective buyer by the builder or the person authorized by the builder before the grant of completion certificate by the authority competent to issue such certificate under any law for the time being in force) shall be deemed to be service provided by the builder to the buyer; Proposed amendment seeks to levy service tax on sale of residential / commercial property (even in case where construction is complete but completion certificate due) The only exemption is where no sum is received before grant of completion certificate – even token consideration received before grant of completion certificate would attract levy of Service tax

33. 33 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Budget amendment on construction service Determination of liability - exclusion for value of land – whether increase in abatement from 67% to 75% (vide notification dated 29/2010 dated 22 June 2010) sufficient to cover cost of land - exclusion for common areas – since common areas not constructed for specific customer Provision of completion certificates does not exist in many places. How would the linking of service tax with completion certificates happen in such places? Whether stamp duty still payable How will the refund mechanism work in case of cancellation of bookings or termination

34. 34 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Budget amendment on construction service Amendment by way of addition of explanation – explanation being substantive in nature, whether effective retrospectively or prospectively? Event of taxation – construction activity or receipt of payment linked to completion certificate Classification under service tax law – works contract services or Construction of Complex services or Commercial Construction services

35. 35 B S R & Co © 2006 BSR & Co., a firm of Chartered Accountants, duly registered under the Indian Partnership Act, 1932. All rights reserved. Thanks