Service Tax on Construction Industry – A compilation

A. Introduction :

Under the new regime of service tax i.e after 01.07.2012 service tax on construction service is explained u/s 66 E(b) i.e. declared service of the Finance Act,1994. The constitutional validity was also upheld under old regime in case of Maharashtra Chamber of Housing Industry v. Union of India (2012-TIOL-78) and G.S. Promoters v. Union of India (2010-TIOL-813-HC-P&H).

Let us now understand service tax on construction industry under present scenario :

B. Taxable services :

C. Provisions under Negative List :

There is no clause u/s 66 D which relates to construction industry i.e. there is no entry under said list which specifies that no service tax is payable on construction services.

D. Provisions under Mega Exemption :

Following are the services which are being exempt from service tax:

D.1) Entry No.12

12. Services provided to the Government, a local authority or a governmental authority by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of –

(a) a civil structure or any other original works meant predominantly for use other than for commerce, industry, or any other business or profession;

(b) a historical monument, archaeological site or remains of national importance, archaeological excavation, or antiquity specified under the Ancient Monuments and Archaeological Sites and Remains Act, 1958 (24 of 1958);

(c) a structure meant predominantly for use as (i) an educational, (ii) a clinical, or (iii) an art or cultural establishment;

(d) canal, dam or other irrigation works;

(e) pipeline, conduit or plant for (i) water supply (ii) water treatment, or (iii) sewerage treatment or disposal; or

(f) a residential complex predominantly meant for self-use or the use of their employees or other persons specified in the Explanation 1 to clause 44 of section 65B of the said Act;

D.2) Entry No 12A (inserted from 1st March, 2016) inserted vide Notification No. 9/2016-Service Tax Dated : 01.03.2016 :-

Services provided to the Government, a local authority or a governmental authority by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of –

(a) a civil structure or any other original works meant predominantly for use other than for commerce, industry, or any other business or profession;

(b) a structure meant predominantly for use as (i) an educational, (ii) a clinical, or (iii) an art or cultural establishment; or

(c) a residential complex predominantly meant for self-use or the use of their employees or other persons specified in the Explanation 1 to clause (44) of section 65 B of the said Act;

under a contract which had been entered into prior to the 1st March, 2015 and on which appropriate stamp duty, where applicable, had been paid prior to such date : provided that nothing contained in this entry shall apply on or after the 1st April, 2020.

D.3) Entry no. 13. (w.e.f. 01.07.2012 )

Services provided by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of,-

(a) a road, bridge, tunnel, or terminal for road transportation for use by general public;

(b) a civil structure or any other original works pertaining to a scheme under Jawaharlal Nehru National Urban Renewal Mission or Rajiv Awaas Yojana;

(ba) a civil structure or any other original works pertaining to the ‘In-situ rehabilitation of existing slum dwellers using land as a resource through private participation’ under the Housing for All (Urban) Mission/Pradhan Mantri Awas Yojana, only for existing slum dwellers. (Inserted from 1st March, 2016 vide Notification No. 9/2016-Service Tax Dated : 01.03.2016 )

(bb) a civil structure or any other original works pertaining to the ‘Beneficiary-led individual house construction/enhancement under the Housing for All (Urban) Mission/Pradhan Mantri Awas Yojana; (inserted from 1st March, 2016 vide Notification No. 9/2016-Service Tax Dated : 01.03.2016)

(c) a building owned by an entity registered under section 12AA of the Income tax Act, 1961(43 of 1961) and meant predominantly for religious use by general public;

(d) a pollution control or effluent treatment plant, except located as a part of a factory; or a structure meant for funeral, burial or cremation of deceased;

D.4) Entry no. 14. (w.e.f. 01.07.2012 )

Services by way of construction, erection, commissioning, or installation of original works pertaining to,-

(a) railways, excluding monorail and metro;

(b) a single residential unit otherwise than as a part of a residential complex;

[“Single residential unit has been defined in clause ( zc ) of the explanation to Notification No. 25/2012 as a self contained residential unit which is designed for use, wholly or principally, for residential purposes for one family.]

(c) low-cost houses up to a carpet area of 60 square metres per house in a housing project approved by competent authority empowered under the ‘Scheme of Affordable Housing in Partnership’ framed by the Ministry of Housing and Urban Poverty Alleviation, Government of India;

“(ca) low cost houses up to a carpet area of 60 square metres per house in a housing project approved by the competent authority under :

(i) the “Affordable Housing in Partnership” component of the Housing for All (Urban) Mission/ Pradhan Mantri Awas Yojana;

(ii) any housing scheme of a State Government.”. (Inserted from 01.03.2016 )

(d) post-harvest storage infrastructure for agricultural produce including a cold storages for such purposes; or

(e) mechanised food grain handling system, machinery or equipment for units processing agricultural produce as food stuff excluding alcoholic beverages;

D.5) Entry No. 14A (w.e.f. 01.04.2016 vide Notification No. 9/2016-Service Tax Dated : 01.03.2016)

“14A. Services by way of construction, erection, commissioning, or installation of original works pertaining to an airport or port provided under a contract which had been entered into prior to 1st March, 2015 and on which appropriate stamp duty, where applicable, had been paid prior to such date :

Provided that Ministry of Civil Aviation or the Ministry of Shipping in the Government of India, as the case may be, certifies that the contract had been entered into before the 1st March, 2015 :

Provided further that nothing contained in this entry shall apply on or after the 1st April, 2020;”

E. Provisions under Valuation / Abatement :

Notification No. 26/2012 ST, dated 20-06-2012 as amended vide Notification 8/2016 dated 01.03.2016 states as under :

Though it is stated in the Notification that “ Value of land is to be included in the amount charged from the service receiver” in one of the recent case it was held unconstitutional in case of under construction flats . Let us have a look on the decision given by Delhi High Court in case of “Suresh Kumar Bansal vs UOI (Reference: W.P.(C) 2235/2011 )” ,

“ In the present case, neither the Act nor the Rules framed therein provide for a machinery provision for excluding all components other than service components for ascertaining the measure of service tax. The abatement to the extent of 75% by a notification or a circular cannot substitute the lack of statutory machinery provisions to ascertain the value of services involved in a composite contract.”

Thus as per judgment of High Court no service tax shall be levied and collected on under construction flats from buyer. The judgement is subject to approval by Hon’ble Supreme Court.

F. Provisions of service tax basic exemption :

As per Notification No. 33/2012 – ST, dated 20-06-2012 the service provider is entitled to the benefit of the exemption of up to Rs.10 lacs in the current year, provided the aggregate value of taxable service has not exceeded Rs.10 lacs in the preceding financial year. Thus if gross consideration exceeds Rs.10 lacs then a builder is required to take registration for service tax.

However in case of Ashok Kumar Mishra v/s Commissioner of C. Ex., Allahabad it was held by Delhi Bench by Stay Order No. ST/56933/2013-Cus(BR)(PB), dated 13-3-2013 that “We have seen the notification in question. Preamble of the notification is to the effect that same exempts the taxable services of description specified in Volume 3 of the table to the extent shown in corresponding entry in column 4 of the said table. Inasmuch as the notification in question uses the expression exemption, we at this prima facie stage, agree with the learned advocate that exempted part of the services should not be taken into account while computing the total value of the services for the purpose of falling under the SSI notification. We accordingly grant waiver of pre-deposit of and stay the recovery thereof.”

Thus stay was given in favour of assessee and for considering SSP exemption, exempted/abatement part of services should not be taken into account while computing total value of services.

E.g. suppose total receipts of a builder in F.Y.2015-16 are Rs.40 lakh and want to know about his service tax liability. As per above case calculation for SSP exemption will be made as under :

However alternative calculation as under :

G. Provisions under Point of Taxation :

To understand the point of taxation in case of Construction services we will have to first understand concept of Continuous supply of service . Point of Taxation rules, 2011 Rule 2 clause (c) states as under :

“Continuous supply of service” means any service which is provided, [or to be provided continuously or on recurrent basis, under a contract, for a period exceeding three months with the obligation for payment periodically or from time to time], or where the Central Government, by a notification in the Official Gazette, prescribes provision of a particular service to be a continuous supply of service, whether or not subject to any condition;

Thus if construction services are provided for a period exceeding 3 months, it will be considered as continuous supply of service.

As per Rule 3 . Determination of point of taxation. – For the purposes of these rules, unless otherwise provided, ‘point of taxation’ shall be,-

(a) the time when the invoice for the service [provided or agreed to be provided] is issued :[Provided that where the invoice is not issued within the time period specified in rule 4A of the Service Tax Rules, 1994, the point of taxation shall be the date of completion of provision of the service.]

(b) in a case, where the person providing the service, receives a payment before the time specified in clause (a), the time, when he receives such payment, to the extent of such payment :

[Provided that for the purposes of clauses (a) and (b), –

(i) in case of continuous supply of service where the provision of the whole or part of the service is determined periodically on the completion of an event in terms of a contract, which requires the receiver of service to make any payment to service provider, the date of completion of each such event as specified in the contract shall be deemed to be the date of completion of provision of service;

(ii)…

Thus to determine Completion of service in case of construction service one has to look an event specified into contract / agreement entered with builder.

e.g Suppose ABC Ltd. constructs a 4 storied building and each flats sale value is 1 cr.and payment terms are as under :

In the above case events for completion of service will be 1st Floor, 2nd Floor etc. and accordingly 30 days will be calculated from that date and accordingly Point of Taxation will be determined.

H. Special Provision :

As per clause (b) of section 66 E, if the service provider receives the entire consideration after issuance of completion certificate by competent authority no service tax is payable by the service provider.

On 26/10/2015 a press information was released as follows :

“Sale of flats/dwellings etc., where the entire consideration is received after issue of occupancy certificate by BMC, leading to a mere transfer of title in immovable property, falls outside the definition of “Service” provided in Section 65B (44) of the Finance Act, 1994, and is therefore, not taxable.”

I. Let us now take different scenarios under construction industry with regards to agreement between various parties :

1) As per Circular No. 151/2/2012-S.T., dated 10-2-2012 many issues have been referred by the field formations, in the recent past, seeking clarification regarding the levy and collection of service tax on construction services [clauses (zzq),(zzzh) of section 65(105) of the Finance Act, 1994], in the light of varying business models. Across the country, divergent business models and practices are being followed in the construction sector. Some of these business models and practices could be region specific.

2) From the issues referred by the field formations, important ones have been identified model wise, examined and clarified as follows :

2.1 Tripartite Business Model (Parties in the model : (i) landowner; (ii) builder or developer; and (iii) contractor who undertakes construction) : Issue involved is regarding the liability to pay service tax on flats/houses agreed to be given by builder/developer to the land owner towards the land /development rights and to other buyers.

Clarification : Here two important transactions are identifiable :

(a) sale of land by the landowner which is not a taxable service; and

(b) construction service provided by the builder/developer.

The builder/developer receives consideration for the construction service provided by him, from two categories of service receivers:

(a) from landowner: in the form of land/development rights; and

(b) from other buyers: normally in cash.

(A) Taxability of the construction service :

(i) For the period prior to 1-7-2010 : construction service provided by the builder/developer will not be taxable, in terms of Board’s Circular No. 108/2/2009-S.T., dated 29-1-2009 [2009 (13) S.T.R. C33].

(ii) For the period after 1-7-2010, construction service provided by the builder/developer is taxable in case any part of the payment/development rights of the land was received by the builder/ developer before the issuance of completion certificate and the service tax would be required to be paid by builder/developers even for the flats given to the land owner.

(B) Valuation :

(i) Value, in the case of flats given to first category of service receiver, is determinable in terms of section 67(1)(iii) read with rule 3(a) of Service Tax (Determination of Value) Rules, 2006, as the consideration for these flats i.e., value of land/development rights in the land may not be ascertainable ordinarily. Accordingly, the value of these flats would be equal to the value of similar flats charged by the builder/developer from the second category of service receivers. In case the prices of flats/houses undergo a change over the period of sale (from the first sale of flat/house in the residential complex to the last sale of the flat/house), the value of similar flats as are sold nearer to the date on which land is being made available for construction should be used for arriving at the value for the purpose of tax. Service tax is liable to be paid by the builder/developer on the ‘construction service’ involved in the flats to be given to the land owner, at the time when the possession or right in the property of the said flats are transferred to the land owner by entering into a conveyance deed or similar instrument (eg. allotment letter).

(ii) Value, in the case of flats given to the second category of service receivers, shall be determined in terms of section 67 of the Finance Act, 1994.

2.2 Redevelopment including slum rehabilitation projects : Generally in this model, land is owned by a society, comprising members of the society with each member entitled to his share by way of an apartment. When it becomes necessary after the lapse of a certain period, society or its flat owners may engage a builder/developer for undertaking re-construction. Society /individual flat owners give ‘No Objection Certificate’ (NOC) or permission to the builder/developer, for re-construction. The builder/developer makes new flats with same or different carpet area for original owners of flats and additionally may also be involved in one or more of the following :

(i) construct some additional flats for sale to others;

(ii) arrange for rental accommodation or rent payments for society members/original owners for stay during the period of re-construction;

(iii) pay an additional amount to the original owners of flats in the society.

Clarification : Under this model, the builder/developer receives consideration for the construction service provided by him, from two categories of service receivers. First category is the society/members of the society, who transfer development rights over the land (including the permission for additional number of flats), to the builder/developer. The second category of service receivers consist of buyers of flats other than the society/members. Generally, they pay by cash.

(A) Taxability :

(i) Re-construction undertaken by a building society by directly engaging a builder/developer will not be chargeable to service tax as it is meant for the personal use of the society/its members. Construction of additional flats undertaken as part of the reconstruction, for sale to the second category of service receivers, will also not be a taxable service, during the period prior to 1-7-2010;

(ii) For the period after 1-7-2010, construction service provided by the builder/developer to second category of service receivers is taxable in case any payment is made to the builder/developer before the issuance of completion certificate.

(B) Valuation :

Value, in the case of flats given to second category of service receivers, shall be determined in terms of section 67(1)(i) of the Finance Act, 1994.

2.3 Investment model :

In this model, before the commencement of the project, the same is on offer to investors. Either a specified area of construction is earmarked or a flat of a specified area is allotted to the investors and as it happens in some places, additionally the investor may also be promised a fixed rate of interest. After a certain specified period an investor has the option either to exit from the project on receipt of the amount invested alongwith interest or he can re-sell the said allotment to another buyer or retain the flat for his own use.

Clarification :In this model, after 1-7-2010, investment amount shall be treated as consideration paid in advance for the construction service to be provided by the builder/developer to the investor and the said amount would be subject to service tax. If the investor decides to exit from the project at a later date, either before or after the issuance of completion certificate, the builder/developer would be entitled to take credit under rule 6(3) of the Service Tax Rules, 1994 (to the extent he has refunded the original amount). If the builder/developer resells the flat before the issuance of completion certificate, again tax liability would arise.

2.4 Conversion Model :

Conversion of any hitherto untaxed construction/complex or part thereof into a building or civil structure to be used for commerce or industry, after lapse of a period of time.

Clarification : Mere change in use of the building does not involve any taxable service, unless conversion falls within the meaning of commercial or industrial construction service.

2.5 Non requirement of completion certificate/where completion certificate is waived or not prescribed :

In certain states, completion certificates have been waived or are considered as not required for certain specified types of buildings. Doubts have been raised, regarding levy of service tax on the construction service provided, in such situations.

Clarification : Where completion certificate is waived or is not prescribed for a specified type of building, the equivalent of completion certificate by whatever name called should be used as the dividing line between service and sale. In terms of the Service Tax (Removal of Difficulty) Order, 2010, dated 22-6-2010, authority competent to issue completion certificate includes an architect or chartered engineer or licensed surveyor.

2.6 Build-Operate-Transfer (BOT) Projects : Many variants of this model are being followed in different regions of the country, depending on the nature of the project. Build-Own-Operate-Transfer (BOOT) is a popular variant. Generally under BOT model, Government or its agency, concessionaire (who may be a developer/builder himself or may be independent) and the users are the parties. Risk taking and sharing ability of the parties concerned is the essence of a BOT project. Government or its agency by an agreement transfers the ‘right to use’ and/or ‘right to develop’ for a period specified, usually thirty years or near about, to the concessionaire.

Clarification : Transactions involving taxable service take place usually at three different levels: firstly, between Government or its agency and the concessionaire; secondly, between concessionaire and the contractor and thirdly, between concessionaire and users, all in terms of specific agreements.

At the first level, Government or its agency transfers the right to use and/or develop the land, to the concessionaire, for a specific period, for construction of a building for furtherance of business or commerce (partly or wholly). Consideration for this taxable service may be in the nature of upfront lease amount or annual charges paid by the concessionaire to the Government or its agency. Here the Government or its agency is providing ‘renting of immovable property service’ (renting of vacant land to be used for furtherance of business or commerce) and in such cases the concessionaire becomes the service receiver.

In this model, though the concessionaire is undertaking construction of a building to be used wholly or partly for furtherance of business or commerce, on the land provided by the government or its agency for temporary use, he will not be treated as a service provider since such construction has been undertaken by him on his own account and he remains the owner of the building during the concession period.

At the second level, transaction can take place between a concessionaire and the contractor. Where the concessionaire himself does not have exposure to construction sector, he may engage a contractor for undertaking construction of a building on the land, in respect of which right to use has been obtained in his favour, from the Government or its agency. If the concessionaire is himself a builder/developer, this level of transaction may not arise. Where an independent contractor is engaged by a concessionaire for undertaking construction for him, then service tax is payable on the construction service provided by the contractor to the concessionaire.

At the third level, the concessionaire enters into agreement with several users for commercially exploiting the building developed/constructed by him, during the lease period. For example, the user may be paying a rent or premium on the sub-lease for temporary use of immovable property or part thereof, to the concessionaire. At this third level, concessionaire is the service provider and user of the building is the service receiver. The concessionaire may provide to the users, taxable services such as ‘renting of immovable property service’, ‘business support service’, ‘management, maintenance or repair service’, ‘sale of space for advertisement’, etc. Service tax is leviable on the taxable services provided by the concessionaire to the users.

There could be many variants of the BOT model explained above and implications of tax may differ. For example, at times it is possible that the concessionaire may outsource the management or commercial exploitation of the building developed/constructed by him, to another person and may receive a pre-determined amount as commission.

Taxable service here will be business auxiliary service and service tax is leviable on the commission.

(A) Taxability :

(i) the service provided by the Government or its agency to the concessionaire is liable to service tax;

(ii) the construction services provided by the contractor to the concessionaire would be examined from the point of taxability as to whether the activity is not otherwise excluded;

(iii) the services provided by the concessionaire to the user of the facility are liable to service tax;

(B) Persons liable to pay tax :

Government or its agency and concessionaire are liable to pay tax on the services being provided by them. There could be several other persons liable to pay service tax, depending on the variant of the BOT model followed.

2.7 Joint Development Agreement Model : 

Under this model, land owner and builder/developer join hands and may either create a new entity or otherwise operate as an unincorporated association, on partnership /joint / collaboration basis, with mutuality of interest and to share common risk/profit together. The new entity undertakes construction on behalf of landowner and builder/developer.

Clarification : Circular 148/17/2011-S.T., dated 13-12-2011 particularly paragraphs 7, 8, 9 apply mutandis mutandis in this regard.

Paragraphs 7,8,9 of Circular No.148/17/2011 are reproduced below :

7. Unincorporated joint venture, not operating on principal-to-principal basis, will exist only if the arrangement entered into between the two independent persons is also recognized as a person. It may be noted that the word “person” has not been defined in the Finance Act, 1994. As per Sec. 3(42) of General Clauses Act, 1897 “person shall include any company or association or body of individuals, whether incorporated or not”. In this regard attention is invited to explanation to Sec. 65 of the Finance Act, 1994 wherein the taxable service includes any taxable service provided or to be provided by any unincorporated association or body of persons to a member thereof.

8. Such a joint venture is also recognized as a legal & juristic entity in the nature of a partnership of the constituent companies by the Hon’ble Supreme Court of India in the case of New Horizons [1995 SCC (1) 478; 1994 -TMI – 83686] wherein it was held that “the expression ‘joint venture’ connotes a legal entity in the nature of a partnership engaged in the joint undertaking of a particular transaction for mutual profit or an association of persons or companies jointly undertaking some commercial enterprise wherein all contribute assets and share risks. It requires a community of interest in the performance of the subject-matter, a right to direct and govern the policy in connection therewith, and duty, which may be altered by agreement, to share both in profit and losses. The independence of joint venture as a separate legal entity, away from its constituent members, has further been fortified in the case of M/s. Gammon India Ltd. v. Commissioner of Customs, Mumbai, 2011 (269) E.L.T. 289 (S.C.) wherein the Hon’ble Supreme Court categorically denied the benefit of exemption to the JV as the impugned goods were directly imported by constituent member.

9. Thus, where the distributor or sub-distributor or area distributor enters into an arrangement with the exhibitor or theatre owner, with the understanding to share revenue/profits and not provide the service on principal-to-principal basis, a new entity emerges, distinct from its constituents. As the new entity acquires the character of a “person”, the transactions between it and the other independent entities namely the distributor/sub-distributor/area distributor and the exhibitor etc. will be a taxable service. Whereas, in cases the character of a “person” is not acquired in the business transaction and the transaction is as on principal-to-principal basis, the tax is leviable on either of the constituent members based on the nature of the transaction and as per rules of classification of service as embodied under Sec. 65A of Finance Act, 1994.

Conclusion :

There are lot of provisions/circulars/notifications etc. and plethora of judgements in respect of various aspects of construction services. One has to carefully go through all scenarios and accordingly apply tax provisions. But, one thing is certain – that, nothing is certain except death and taxes!!!