Back to Back Works Contract under Service Tax – Brief Analysis
Introduction
Works contract, as understood in trade, means a composite contract involving both supply of goods and provision of service. As per Article 366(29A) of the Constitution of India, transfer of property involved in goods in the execution of works contracts are considered as deemed sale. The service tax levy on “works contract” was specifically introduced way back in 01.06.2007.
Till the introduction of Negative list based taxation, the chargeability of Service tax on ‘Works contract’ was always in a haze. However, post July 2012, to rest the doubt about the validity of such transaction to be considered as service, ‘service portion in the works contract’ is specifically declared as a service under Section 66E(h) of the Finance Act, 1994.
Definition of Works Contract [Section 65B(54)]
"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.
Service Portion in the execution of Works Contract [Section 66E(h)]
It is relevant to note that works contract is deemed to be a sale in terms of Article 366(29A) of the Constitution. Though deemed sale is not a service as per the definition of ‘Service’, the legislature has carefully drafted the Act to include service portion in the works contract under service tax net.
This has been specifically declared as a service so as to remove the confusion on whether service tax is applicable when the said service is covered under the levy of VAT/ sales tax. Presently the law declared by the Larger Bench in the case of L & T Ltd. vs CST [2015-TIOL-527-CESTAT-DEL-LB], is that a works contract can be segregated into a contract of sale of goods and contract of provision of service even before 01.06.2007. This declared list entry has been incorporated to capture this position of law in simple terms.
Exemptions under Notification 25/2012-ST dtd 20.06.2012
There are exemptions in the mega exemption notification no. 25/2012-ST dated 20.06.2012, as amended, with respect to the works contract service. Such exemptions are mainly pertaining to certain specified categories of works contract services provided to Government, local authority and governmental authority and are mainly given under entry 12, 13 and 14.
Here doubt may crop up in our mind that what happens if the contract is sub-contracted. Can the sub-contractor executing the specified works avail the exemptions under entry 12, 13 & 14? In this regard, it may be noted that in terms of principles of interpretation given under section 66F(1) of the Finance Act, 1994, “reference to a service (herein referred to as main service) shall not include reference to a service which is used for providing main service.” Therefore, strictly speaking the sub-contractor would be ineligible for the exemption unless they are also independently falling in to any of the specific entry contained therein.
However, interestingly mega exemption notification covers entry 29(h). This entry exempts the works contract service provided by sub-contractor to another contractor providing works contract services which are exempt. To get covered under the said exemption entry following conditions has to be fulfilled:
a. The Main contractor work should be works contract;
b. Such works contract should be exempted;
c. Sub-contractor should be doing works contract (not mere labour works) for such works contract.
Back to back works contract
In simple terms, back to back works contract means the 100% sub-contracting of the original contract by the main contractor. In other words, the sub-contractor would provide the material and would execute the original contract. We will now see the taxability of back to back works contract.
From the VAT perspective, though there is no direct contractual relationship between the sub-contractor and the contractee, the sub-contractor would be liable to pay VAT, by virtue of principle of accretion. It is to be noted that in the case of State of AP vs Larsen & Toubro Ltd. & Ors. [2008-TIOL-158-SC-VAT], Hon’ble Supreme Court held that when the work is sub-contracted, the material transfer in the said contract would be directly from the sub-contractor to the ultimate customer and it does not pass on to the main contractor and from main contractor to the ultimate customer.
From the Service Tax perspective, as discussed above, if the main contractor is providing works contract which is exempted, the sub-contractor would be eligible to exemption under entry 29(h).
In case of back to back contracts since the whole of the work is sub-contracted on back to back basis, the question arises as to, in the absence of transfer of property in goods involved in the execution of such works contract, from the main contractor to contractee, whether the main contractor is eligible to be called as works contractor. In this regard, recently the Bangalore Larger Bench in the case of Lanco Infratech Ltd. vs CCE & ST [2015-TIOL-768-CESTAT-BANG-LB], held that in such scenario the main contractor cannot be considered as works contractor. This decision has basically overruled the decision in the case of Ramky Infrastructure Ltd. vs CST 2013 (29) STR 33 (Tri.-Bang), wherein it was held that it is sufficient to consider the main contractor as works contractor, since the contract between main contractor and contractee involves transfer of property.
However in the personal view of the paper writer the Lanco Infratech Ltd., decision cited above does not examine the difference in the wordings of the definition of ‘works contract’ as defined in Finance Act, 1994 and the principle of accretion adopted by Hon’ble Supreme Court in the case of Larsen & Toubro Ltd. cited above. The definition given in Service Tax only requires the transfer of property involved in the contract, which is subject matter of VAT/Sales Tax. It does not envisage that the liability should be on the service provider. However till any higher forum distinguishes the decision of Lanco Infratech Ltd., the law laid therein has to be followed.
It is to be noted that by virtue of Lanco decision, in back to back contracts, since the main contractor would not be called as a works contractor, the sub-contractor may not be eligible for the exemption under entry 29(h) of the Notification 25/2012-ST dated 20.06.2012 (assuming the main contract is exempted).
Authors Note: It is to be noted that though the Lanco case is mainly in the context of back to back contracts, the same analogy would be applicable even in case a part of the contract is sub-contracted if no work is undertaken by the main contract in which he transfers property in goods involved in such contract. For feedback- monalisa@hiregange.com
CA. Monalisa Khuntia
Original article in newsletter of Hiregange Academy. (hiregangeacademy.com)
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