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CA Amit Mundhra

Works contract is a deemed sale which involves the transfer of property in goods (whether as goods or in any other form) involved in the execution of the works contract. The concept of taxation of goods transferred during the execution of works contract has been a matter of great litigation over the period.

I am trying to sum up the regularly followed methods and procedures while determining the taxation of works contracts in the hands of contractor.

As far as the Rajasthan VAT is concerned, there are 2 methods by which the Works Contractor can be assessed to tax. The first one is “Exemption Fees Method” and second one is “VAT Method”.

EXEMPTION FEES METHOD

In Works Contract taxation, the scheme of exemption fees is a mechanism provided for collection of works contract tax from the contractor in such a way that causes minimum inconvenience to the contractor assessees and also to the department collecting the tax in computing and assessing the taxable figures.

In Rajasthan VAT Act, the relevant notification of exemption fees is F.12(63)FD/Tax-2005/80 dated 11.08.2006. The link for this notification is here. Click Here. This notification has been amended from time to time and I am discussing the provisions contained in this notification as amended up to 01.04.2012.

What is the Exemption Fees Method

In nutshell, exemption fees method is the simplest method of tax collection and payment so far as the assessee and taxing authority is concerned. In this method, a list of specific kind of works contracts is specified and tax is charged as a percentage of total gross value of said works contract. The assessee is required to exercise this option by way of submitting an application along with the copy of the work order received and the department will issue exemption certificate on the basis of nature of works contract involved.

Major Features of Exemption Fees Scheme in Rajasthan VAT

  • Assessee to apply and exercise option of exemption fees by making application in form WT-1 along with the copy of work order received by the contractor.
  • Application in form WT-1 can be made within 60 days from the date of work order without attracting any late fees.
  • Late fees of Rs. 1000/- is required to be paid if application is beyond 60 days from the date of work order but within 1 year from this date.
  • Late fees of Rs. 5000/- is required to be paid if application is beyond 1 year from the date of work order but within 2 years from this date.
  • No application will be entertained after expiry of 2 years from the date of work order.
  • After receipt of application, the assessing authority shall issue exemption certificate in form WT-3 specifying the rate of exemption fees to be payable on each type of work order for which application has been received. Form WT-3 is issued work order wise.
  • Such contractor is required to make payment of exemption fees as specified in exemption certificate.
  • If the awarder is not deducting TDS from the contractor, then contractor is required to pay such exemption fees in equal monthly installments during the period of the contract from the date of filing of the application.
  • The contractor shall not be entitled to claim input tax credit in respect of the goods used in execution of works contract for which the exemption certificate has been granted.
  • The rates of exemption fees for various kinds of works contracts are given in my earlier article the link of which is here. click here

What will be the Status of Sub-Contractor

As per rule 22(2A) of Rajasthan VAT Rules, 2006, if the main contractor has opted for exemption fees under above notification, then the sub contractor who is performing the work of main contractor need not again opt for this scheme as the turnover of such contract will not be included in the taxable turnover of the contractor.

VAT METHOD

What is the VAT Method

If the contractor does not opt for the exemption fees option as stated above, he will have to go for the VAT method for determination of his tax liability.

The main drawback of the exemption fees scheme is that the contractor has to forego all the input tax credit available on goods purchased by him for execution of the works contract. If contractor does not want to forego the input tax credit, then he will need to get himself assessed under VAT regime.

In VAT method, the taxable turnover of the contractor is calculated by deducting the value of labour and services involved in execution of works contract and on the balance amount VAT is levied. From this VAT, the contractor can claim the input tax credit of goods purchased by him and pay the balance liability in cash.

 

How the Taxable Turnover is Calculated

The principles of calculation of value of taxable turnover of a works contract have been laid down by Supreme Court in Gannon Dunkerley and Company Vs State of Rajasthan and Larsen & Turbo Vs Union of India and Others (1993). The principles laid down by these verdicts are thoroughly followed while assessing the VAT on contractor if the contractor has not taken the Exemption Scheme route.

Method specified by Gannon Dunkerley & Company and L & T’s case by SC

In this method, the following deductions are made from the gross value of the works contracts performed by the contractor.

i)  Labour Charges for execution of Works

ii)   Amount paid to sub contractor for labour and services.

iii) Charges paid for obtaining on hire the equipment or machinery used for execution of works contract.

iv)  Charges for planning and designing and architect’s fees.

v) Cost of consumables used in execution of works contract.

vi) Cost of establishment of the contractor to the extent it is relatable to supply of labour and services.

vii) Other similar expenses relating to supply of labour and services.

viii) Profits earned by contractor to the extent it relates to supply of labour and services.

Thus after deducting the above items, the remaining figure will be the taxable turnover of the contractor.

At What rate the Tax will be levied on the Taxable Turnover

Now the question arises, on the taxable turnover as arrived above, what tax rate will be applicable. Instead of discussing the methodology in words, I prefer to use following example by which the computation of tax liability can be easily understood.

Draft Works Account of a Contractor
Particulars
 
Amount
 
Particulars
Amount
To Opening WIP
125000
By Gross Contract Receipts
2500000
By Closing WIP
150000
To Purchase of Materials
1375000
Taxable at 5%
675000
Taxable at 14%
625000
Exempted Materials
75000
To Wages & Labour
575000
To Equipment Rent
60000
To Sub Contract Labour
50000
To Designing & Planning Charges
11000
To Consumables
25000
To Gross Profit
 
429000
 
 
2650000
 
 
2650000

Calculation of Taxable Turnover

Particulars Amount
Gross Turnover of Contractor

2500000

Less: Admissible Deductions
 Wages & Labour

575000

 Equipment Rent

60000

 Sub Contract Labour

50000

 Designing & Planning Charges

11000

 Consumables

25000

721000

1779000

Less: Profit on labour and services
(17.16% of 721000/- applying the GP rate)

123724

Taxable Turnover 

1655276

Now the Taxable Turnover will be bifurcated into turnover of different tax rates based on the following calculation.

Purchase of Materials

Amount

As % of Total

Taxable Turnover

Amount (Applying the same percentage)

Taxable at 5%

675000

49.10%

Taxable at 5%

812590

Taxable at 14%

625000

45.45%

Taxable at 14%

752398

Exempted

75000

5.45%

Exempted

90288

Total

1375000

100.00%

Total

1655276

Thus the tax on turnover will be calculated at the rates specified as above and from the output tax the assessee can claim input tax on the goods purchased by him. The difference if any will be payable by the contractor as VAT.

This above example is just for simple understanding of the concept; however the computation of tax liability will vary depending upon the facts and circumstances of each case.

Cases Where Proper Books of Accounts are not kept by Contractor

In the above calculation, it is presumed that the contractor performing the works contract is maintaining proper books of accounts and other relevant records and he can prove the genuineness of the deductions claimed from the gross turnover before the assessing authority.

But however, to deal with the cases where the contractor does not maintain proper books of accounts or the books of accounts produced by him cannot be said to be reliable, then the legislature can prescribe some arithmetic formula by which a certain percentage is specified which is to be deducted from the value of gross contracts for determining the taxable turnover of the contractor.

In Rajasthan VAT Rules, Explanation to Rule 22(2) deals with such situation. It reads as under.

“Where the amount of labour is not determinable from the accounts of the contractor, or is considered to be unreasonably high in view of the nature of the contract, the deduction towards labour charges shall be allowed by the assessing authority according to the limits laid down in Column 3 for the type of contract specified in Colomn 2 of the table appended hereto;”

S.n.

Type of Contract

Labour Charges as percentage of gross value of the contract

1

2

3

1

Fabrication and installation of Plant & Machinery

25

2

Fabrication and erection of structural works of iron and steel including fabrication, supply and erection of iron trusses, purlins and the like.

15

3

Fabrication and installation of cranes and hoists

15

4

Fabrication and installation of elevators (lifts) and escalators

15

5

Fabrication and installation of rolling shutter and collapsible gets

15

6

Civil Works like construction of building, bridges, roads, dams, barrages, canals and diversion

30

7

Installation of doors, door frames, windows, frames and grills

20

8

Supply and fixing of tiles, slabs, stones and sheets

25

9

Supply and installation of air conditioners and coolers

15

10

Supply and installation of air conditioning equipments including deep freezers, cold storage plants, humidification and plants and dehumidors

15

11

Supply and fitting of electrical goods, supply and installation of electrical equipments including transformers

15

12

Supply and fixing of furniture and fixtures, partitions including contracts for interior decorators and false ceiling

20

13

Construction of railway coaches and wagons on undercarriage supplied by railway

30

14

Construction or mounting of bodies of motor vehicles and construction of trailers

20

15

Sanitary fitting for plumbing and drainage or sewerage

20

16

Laying underground or surface pipelines, cables or conduits

30

17

Dying and printing of textiles

30

18

Supply and erection of weighing machines and weighing bridges

15

19

Painting, polishing and white washing

25

20

All other contracts not specified from s.n. 1 to 19 above

25

 Returns to be submitted by Contractor

 

Contractors who have taken exemption certificates for all the contracts performed by them during the year are required to submit only Annual Return to the department in form VAT-11.

Contractors who have not taken exemption certificates or taken exemption certificates for some work orders then they are required to submit quarterly VAT Returns in form VAT-10 and Annual VAT return in form VAT-10A.

Now let’s discuss the second method for payment of tax under Work Contract in Rajasthan. The second method is “VAT Method”

Which method to choose “Exemption Fees” or “VAT Method”

This is a tricky issue and a lot of tax planning is involved here whether to go for exemption fees option or VAT option. A contractor can go for exemption fees option for one contract and VAT option for another contract. The exercise of each option should be done after estimating the requirements of goods required to be purchased for each type of contract and after doing a Cost and Benefit Analysis of both type of methods.

I hope that this article clarifies most of the issues pertaining to taxability of contractors in the Works Contract Regime. However, suggestions for any further inclusions to be made in this article are gladly invited.

(CA Amit Mundhra- Author is a member of ICAI and he can be reached at amit.mundhra@gmail.com)

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