Composite contracts - Service Tax leviable on service element

Strange are the ways Tribunals of this country behave, reversing judgments has been on a spree and this time it’s a seven year old CESTAT judgment in the Daelim Industrial Co. Ltd. vs. CCE, Vadodara (CEO 2003 CESTAT 14), which ruled the issue of taxability of Composite contracts or turnkey projects which has been Reversed. Its a major blow to industries involved in execution of turnkey projects the Large Bench of CESTAT, New Delhi while deciding an appeal filed by the department of Central Excise in its case against M/s BSBK Pvt. Ltd vide its recent Order dated 06.05.2010 held that turnkey contracts can be vivisected. It further held that discernible service elements involved therein can be segregated and classifiable as well as valued for levy of Service Tax under Finance Act, 1994 provided such services are taxable services as defined by that Act.

It is now held that depending on the facts and circumstance of each case, services by way of advice, consultancy or technical assistance in the case of turnkey contract shall attract Service Tax liability. Severability of composite and turnkey contract permitted by Constitution by Article 366 (29-A) (b) cannot be said to have been for the mere purpose of levy of Sales Tax. Severance discerns service elements of the contracts and provides measure of levy to impose Service Tax on taxable services. When Article 366(29-A)(b) to the Constitution has made indivisible contracts of the aforesaid nature divisible to find out goods component and value thereof, it can be unambiguously be stated that the remnant part of the contract may be attributable to the scope of Service Tax under the Provisions of Finance Act, 1994.

The issue before the CESTAT in this case was whether service by way of advice, consultancy or technical assistance in the case of turnkey contract will attract Service Tax and whether turnkey contract can be vivisected. However, interestingly these matters pertain to the period prior to the introduction of the Works Contract Services in the year 2007.

While deciding the Service Tax liability on the element of service in turnkey contracts the CESTAT held that in execution of Turnkey contract, while goods (property of which is transferred) incorporated into such contract are taxable by State, services involved to translate such goods into work to give rise to a structure or any other form, inevitably contribute for execution of such contract and becomes taxable under Finance Act, 1994 by Government of India provided those are "taxable services" as defined by law. The term service generally means service of any description which is made available to potential user and includes the provision of facilities. Such term has variety of meanings. It may mean any benefit or any act resulting in promoting or serving Interest of the recipient. It may be contractual, professional, public, domestic, legal and statutory etc. How it should be understood and what it means depends in the context in which it has been used in an enactment. Permutation and combination of activities or services do not change character of the activity or service. It may be possible that while an activity in a cluster of activities may be dominant others may not be prominent. But each activity has its identity, existence and independence and plays its role. A plain and simple service contract or a composite contract comprising various activities of different nature of services do not make any difference to discern role of each service involved in a composite or Turnkey contracts.

While deciding the aspect of value of such services, it observed that once value of goods involved in composite or turnkey contracts is determinable applying the ratio of Gannon & Dunkerley case - (1992) 88 STC 204 (SC), the remnant part of such contract is attributable to the service element leaving scope for levy of Service Tax on such element subject to the provisions of Chapter V of Finance Act, 1994. Difficulty may arise only in determination of assessable value of such service involved in such contracts. But Article 366 (29A) (b) read with Article 286A and 246 has obviated such difficulty enabling to determine value of goods segregating the same from different elements of service involved. In these contracts both the elements being thus segregated, fall into respective fields of taxation under List-I and List 41 of Seventh Schedule of Constitution. Since Article 366 dealing with definitions of the expressions used therein is within the body of the Constitution, Article 268 cannot be read in isolation thereof. Segregation of service element from goods involved in the above nature of contracts is permissible when sale of goods involved in such contract is segregated under the constitutional provisions.

This judgment of the larger bench of CESTAT although having over riding effect on the decision of Tribunal in Daelim's case in view of the principles of judicial discipline, the issue has not attained finality as it is bound to travel to the Apex court for its final say on the issue. This judgment will also lead to multiplication of litigations as the department is bound initiate action with an intention to reopen many cases which were otherwise settled in favour of the assesses placing reliance on the judgment of Tribunal in Daelim Industrial Co. Ltd. vs. CCE, Vadodara) (CEO 2003 CESTAT 14), which till the pronouncement of the present judgment by the larger bench of CESTAT ruled the issue of taxability of Composite contracts or turnkey projects.