SERVICE TAX 1

As per Explanation to Section 65 (105) (zzzza) of the Finance Act, 1994, the term works contract” means a contract wherein,— (i) transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods, and (ii) such contract is for the purposes of carrying out,— (a) erection, commissioning or installation of plant, machinery, equipment or structures, whether pre-fabricated or otherwise, installation of electrical and electronic devices, plumbing, drain laying or other installations for transport of fluids, heating, ventilation or air-conditioning including related pipe work, duct work and sheet metal work, thermal insulation, sound insulation, fire proofing or water proofing, lift and escalator, fire escape staircases or elevators; or (b) construction of a new building or a civil structure or a part thereof, or of a pipeline or conduit, primarily for the purposes of commerce or industry; or (c) construction of a new residential complex or a part thereof; or (d) completion and finishing services, repair, alteration, renovation or restoration of, or similar services, in relation to (b) and (c); or (e) turnkey projects including engineering, procurement and construction or commissioning (EPC) projects; 2

 Works contracts executed with respect to the following are not covered in the definition of the term works contract: ▪ Construction of Roads; ▪ Construction of Airports; ▪ Construction of Railways; ▪ Construction of Transport Terminals; ▪ Construction of Bridges; ▪ Construction of Tunnels and Dams. 3

 Option I  As per Rule 2A of the Service Tax (Determination of Value) Rules, 2006 value of the works contract service shall be equivalent to the gross amount charged for the works contract less the value of transfer of property in goods involved in the execution of the said works contract;  In other words the portion of the contract which represents material shall be excluded from the contract value in determining the taxable value which is chargeable to service tax.  Once value has been ascertained as mentioned above service tax shall be charged at the rate of 10.3% (Inc. Cess) on such value 4

 Option II  On the other hand assesses have been provided with an option to pay service tax on works contracts under the Works Contract (Composition Scheme for payment of Service Tax) Rules,  Under this scheme the service provider (contractor) can opt for a composition scheme wherein he can pay service tax at the rate of 4.12% (incl. Cess) of the gross value of the contract.  Gross value of the contract shall include all goods used in execution of the contract including the value of the goods supplied by the contractee free of cost or otherwise. 5

 The liability to pay service tax under works contract rests with the provider of taxable service namely the “Contractor”.  The Contractor either by following option I or option II shall pay service tax  Since the service tax is an indirect tax it will be recovered from the service receiver namely the “Contractee”  And can utilize the Cenvat credit, if any, eligible as per the Cenvat Credit Rules, 2004 for payment of service tax. 6

 Under Option I the contractor shall be eligible to avail Cenvat credit with respect to duties paid on inputs and capital goods and service tax paid on input services which are used in or in relation to the execution of the works contract.  Under Option II the contractor shall be eligible to avail Cenvat credit with respect to duties paid on capital goods and service tax paid on input services but he is NOT ENTITLED to avail Cenvat credit of duties paid on inputs used in or in relation to execution of works contract. 7

 The main contractor may sub-contract part of the contract to another person, generally called the Sub-Contractor.  The provisions as discussed above will be applicable to the transaction between the main contractor and sub-contractor as if the main contractor is a contractee and sub contractor is a contractor.  Accordingly the sub-contractor can follow either of the options discussed above with respect to the value of the contract awarded to him and pay service tax.  The service tax levied by the sub-contractor from the main contractor is available as Cenvat credit to the main contractor 8

 Let us take an example where A awards a civil construction contract worth Rs. 100 to B. Material portion represents 70% and labour/service portion represents 30%. B awards 50% of the contract to C on subcontract basis. Find out the tax liability of B in this regard.  Calculation of service tax liability under Option I: ▪ Total value of the contract is 100 ▪ Value of goods involved in execution of contract 70 ▪ Value of the service for payment of service tax 30 ▪ Service tax payable at the rate of 10.3%3.09 In this case if the sub contractor is also following option I the he will Levy service tax as follows: Value of the contract50 Value of material involved in execution of contract35 Value of the service for payment of service tax 15 Service tax at the rate of 10.3%1.545 Therefore service tax payable by B would be

 On the other hand if the sub contractor follows option II then the calculations would be: ▪ Value of the contract 50 ▪ Service tax payment under composition method at the rate of 4.12% on the value of the contract2.06 Therefore the subcontractor will collect Rs from the main contractor and the same will be available as cenvat credit to the main contractor, in such a case the service tax payable by main contractor would be: Service tax payable (as computed under option I)3.09 Less: Service tax paid to sub contractor eligible as cenvat credit 2.06 Net outflow

Where the main contractor follows Option II the service tax payable would be: ▪ Value of the contract100 ▪ Value for the purpose of calculating service tax under composition method100 ▪ Service tax at the rate of 4.12%4.12 If the sub contractor follows:Option IOption II ▪ Value of the contract ▪ Value of the contract for calculating ST ▪ Service tax rate 10.3% 4.12% ▪ Service tax payable Net outflow to the main contractor (ST payable as Computed under option II Less ST paid to Sub contractor)