Service Tax on Work Contract

CA Rockey

Meaning of Work-Contract:-

Clause 44 of section 65B of Finance Act, 1994, defines the Work-Contact as follows:

“works contract” means a contract wherein transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods and such contract is for the purpose of carrying out construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, alteration of any movable or immovable property or for carrying out any other similar activity or a part thereof in relation to such property.

Analysis of above definition

1. There is a transfer of property in goods involved in the execution of such contract, and

2. Such transfer of property in goods is leviable to tax as sale of goods (such as sales tax, VAT or WCT, etc.).

It must be noted that the words which are used here are “leviable to tax as sale of goods’, therefore, it is not necessary that VAT has been actually paid on the transfer of property involved in such contract. It is enough if transfer of property is leviable to tax as sale of goods for determining whether such contract is a works contract or not.

3. Such contract is for the purpose of carrying out:

(a) Construction,

(b) Erection,

(c) Commissioning,

(d) Installation,

(e) Completion,

(f) Fitting out,

(g) Repair,

(h) Maintenance,

(i) Renovation,

(j) Alteration

The definition provided u/s 65B(44) is an exhaustive definition but simultaneously ends with an inclusive limb i.e. “any other similar activity”. Hence, the last part of the definition ‘for carrying out any other similar activity or a part thereof in relation to such property’ has wide implication and prone to litigation.

It can concluded that work contract is the composite/single contract for providing:-

a) transfer of property in goods and

b) provision of service

Work contract is declared Service:-

Section 66E of Finance Act, 1994, provided clarity in respect of few services, which shall be considered as service and hence liable to charge service tax unless they are exempted anywhere else in service tax law.  Clause (h) of this section stipulated that Service portion in the execution of a Work Contract is a service, hence on this part service tax is to be levy accordingly.

Reverse Charge Mechanism for Works Contract:-

Service provider is under obligation to discharge the Service tax liability on service portion in execution of a work contract. However, in few case this obligation is partially shifted to service recipient.

Notification No. 30/2012-ST, issued by CBEC on 20.06.2012, bring the concept of partial reverse charge on service portion in execution of a work contract as follows:

This Notification provides that in case of taxable services provided or agreed to be provided by way of service portion in execution of works contract by any:

a) individual,

b) Hindu Undivided Family or

c) partnership firm, whether registered or not, including association of persons,

Located in the taxable territory to

a) business entity registered as body corporate, located in the taxable territory,

The percentage of service tax payable by service provider and service receiver would be as under:

Hence, the service provider is liable only to the extent of 50% of total service tax liability to be deposited in the Government Treasury and balance 50% shall be deposited by the service receiver on reverse charge basis directly in the Government Treasury subject to below conditions.

1. The service receiver must be a business entity registered as body corporate:-

Business Entity: Clause (17) of Section 65B of the Act provides interpretation of term “Business entity” and accordingly, it means any person such as

I a corporate,

II firm,

III limited liability partnership,

IV association of person

V an individual

ordinarily carrying out any activity relating to industry, commerce or any other business.

Note: Thus, a charitable organization not carrying any business or profession, even if it is a body corporate would not be liable under reverse chare mechanism as it is not a ‘business entity’.

Body Corporate: Clause (11) of Section 2 of the Companies Act, 2013 which provides that “body corporate” or “corporation” includes a company incorporated outside India, but does not include—(i) a co-operative society registered under any law relating to co-operative societies; and

(ii) any other body corporate (not being a company as defined in this Act), which the Central Government may, by notification, specify in this behalf.

Therefore, it can be concluded that business entity registered as body corporate mean a company ordinarily carrying out any activity relating to industry, commerce or any other business.

2. The service provider must be –

a. an individual;

b. HUF;

c. proprietary firm;

d. partnership firm (whether registered or not);

e. limited liability partnership (as definition of partnership firm includes limited liability partnership); or

f. AOP

3. Both service provider and service receiver must be located in taxable territory.

The reverse charge mechanism in relation to works contract services, are summarized hereunder:

Services provided or agreed to be provided by any person who is located in a non-taxable territory and received by any person located in the taxable territory, 100% service tax would be payable by service receiver only.

Taxable value of service portion in execution of work contract:-

In general, the provisions of valuation of service are governed by Section 67 of the Act read with Service Tax (Determination of Value) Rules, 2006. As a general rule, value of taxable service is gross amount charged for a service whether in the form of money or otherwise.

Vide Notification No. 24/2012 Dated 06.06.2012, CBEC provided a new Rule 2A {Service Tax (Determination of Value) Rules, 2006}. According to new Rule 2A of Service Tax (Determination of Value) Rules, 2006, subject to the provisions of section 67, the value of service portion in the execution of a works contract, referred to in clause (h) of section 66E of the Act, shall be determined in the following manner, namely:-

(a) Regular Scheme [Rule 2A(i)]

(b) Standard Deduction Scheme [Rule 2A(ii)]

Regular Scheme:-

Rule 2A(i) of the said rules, provides that value of service portion in the execution of a works contract shall be equivalent to the gross amount charged for the works contract less the value of property in goods transferred in the execution of the said works contract. However, such gross amount charged shall not include VAT/Sale Tax.

However, there may be a case that the service provider is paying VAT/Sales tax not on the actual value of respective State VAT/sales tax law, then service element will consist of following components as mentioned in Explanation (b) to the Rule 2A of said Valuation Rules:

(a) labour charges for execution of the works;

(b) amount paid to a sub-contractor for labour and services;

(c) charges for planning, designing and architect’s fees;

(d) charges for obtaining on hire or otherwise, machinery and tools used for the execution of the works contract;

(e) cost of consumables such as water, electricity, fuel used in the execution of the works contract;

(f) cost of establishment of the contractor relatable to supply of labour and services;

(g) other similar expenses relatable to supply of labour and services; and

(h) profit earned by the service provider relatable to supply of labour and services;

Standard Deduction Scheme:-

Rule 2A(ii) provides that where value has not been determined under Rule 2A(i) as above, the person liable to pay tax on the service portion involved in the execution of the works contract shall determine the service tax payable in the following manner, namely:-

Upto 30^th, October, 2014.:

With effect from 1st October, 2014 [Notification No. 11/2014 Dated 11 July, 2014]:

In Rule 2A of the Service Tax (Determination of Value) Rules, 2006, category “B” and “C” of works contracts are merged into one single category, with percentage of service portion as 70%; this change has come into effect from 1^st October, 2014. This rationalization by way of merger of categories has been made to avoid disputes of classification between these two categories. The new provisions are as under:

Original Work:- (1) “original works” means-

(i) all new constructions;

(ii) all types of additions and alterations to abandoned or damaged structures on land that are required to make them workable;

(iii) erection, commissioning or installation of plant, machinery or equipment or structures, whether pre-fabricated or otherwise;

Total amount:- “total amount” means –

the sum total of the gross amount charged for the works contract and the fair market value of all goods and services supplied in or in relation to the execution of the works contract, whether or not supplied under the same contract or any other contract, after deducting-

(a) the amount charged for such goods or services, if any; and

(b) the value added tax or sales tax, if any, levied thereon.

(3) “Fair Market Value” –

The fair market value of goods and services so supplied may be determined in accordance with the generally accepted accounting principles.

Note: it is to be noted that percentage scheme is not to be always referred. It is to be referred only where value is not determinable as per the provisions of Rule 2A(i) of the said Valuation Rule 2.

Cenvat Credit: –

1. As per Explanation 2 to Rule 2A of said Valuation Rules, the provider of taxable service i.e. the works contract service shall not take CENVAT credit of duties or cess paid on any inputs, used in or in relation to the said works contract, under the provisions of CENVAT Credit Rules, 2004.

2. According to sub-rule (7) of Rule 4 of CENVAT Rules, the CENVAT credit in respect of input service shall be allowed, on or after the day on which the invoice, bill or, as the case may be, challan referred to in rule 9 of the said rules, is received.

3. First proviso to Rule 4(7) provides that in case of an input service where the whole of the service tax is paid on reverse charge by the recipient of the service (i.e. u/s 68(2) of Finance Act, 1994), the CENVAT credit in respect of such input service shall be allowed after the service tax paid.