Exegesis of the 'Rules of Computation of H-VAT' for Builders

The controversy regarding liability to pay VAT on agreements for sale of flats and units by builders and developers in Haryana has been emerged over a last few years. It is purely a grey area where nothing is crystal clear, in spite of recently amended rules and regulations. This article will provide the readers an insight to the amended provisions in Haryana VAT on this matter.

It has been clarified by the judgments of K. Raheja {141 STC 298 (SC)} and L & T {2013-TIOL-46-ST-CT-LB}, that where a builder sells readymade flat i.e. after the flat is constructed, it is considered as a sale of immovable property and there is no question of VAT liability and further, only under construction contracts/agreements where the builder enters into an agreement for sale of flat with prospective buyer when the construction is yet to commence or is under progress, are Vatable. Thus it is evident that the work done by the developer/contractor before the agreement for works contract has been entered into, is not covered under VAT.

Since the judgement in the case of CHD Developers Limited, Karnal vs. the State of Haryana And Others, [TS-147-HC-2015(P&H)-VAT​]​, has been issued and the applicability of VAT on the builders in Haryana has gained a further impetus.

Every State VAT law provides mainly for two main methods for computation of the VAT liability:

• Normal Provisions
• Composition Scheme

Both the schemes have been discussed in detailed in the subsequent paragraphs for the kind perusal of the readers under amended provisions.

I. Computation under normal provisions

Prior to the amendment in the HVAT Rules, Rule 25 governing the provisions of calculation of HVAT liability for builders didn’t provide for deductions for land. Nonetheless, on 23rd July, vide notification no. 19/ST-1/H.A.6/2003/S.60/2015, Rule 25 of the HVAT Rules have been amended retrospectively from 17/05/2010.

Amended Rule 25:

The amended rule provides that in case of turnover arising out of work contract, the amount included in taxable turnover is the total consideration paid or payable to the dealer under the contract and shall exclude the following:

(i) the charges towards labour, services and other like charges;

(ii) the charges towards cost of land, other charges relatable to land, if any, paid to the Government or its agency, subject to the dealer maintaining proper records such as invoice, voucher, challan or any other document evidencing payment of above referred charges to the satisfaction of the Taxing Authority.

The charges towards labour, services and other like charges shall include:

(i) labour charges for execution of works;

(ii) charges for planning and architect's fees;

(iii) cost of consumables such as water, electricity, fuel etc. used in the execution of the works contract in which the property in goods is not transferred in the course of execution of the works contract;

(iv) cost of establishment of the contractor to the extent it is relatable to supply of labour and services;

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

(vi) profit earned by the contractor to the extent it is relatable to supply of labour and services subject to furnishing of a profit and loss account of the works sites:

However, in case the books are not maintained, standard deduction of 25% is allowed in place of deducing the actual values of service portion, after deducting the cost of land.

The amended rule 25, also provides methods of determining the cost of land, the summary of the same is provided herewith-

1. Cost of land shall be highest of the following-

a. Where separate conveyance/sale deed of the land has been executed between the developer and the intended purchaser, the consideration amount of land stated in that deed; or

b. Where separate conveyance/sale deed of the land has not been executed for transfer of land between the developer and the intended purchaser and transfer of land is mentioned in the conveyance deed of the constructed unit, then the value of land in the value of composite works contract shall be determined on the basis of notified circle rates of land prevailing at the time of execution of agreement between the developer and the intended purchaser

2. In case the cost of land is not ascertainable as above, then the same shall be calculated @ 40% of the total value of contract, in case of commercial construction and 25% in other cases.

3. If only a part of the total area to be constructed is being transferred, the charges towards the cost of land shall be calculated on a prorate basis through the following formula:

Proportionate super area multiplied by Value of land as determined in this sub rule divided by Total plot area multiplied by Floor Area Ratio

Regardless of such amendment, rule 25 does not provide a clear picture as to how the liability of the builders will be determined. The same is discussed in detail in the succeeding paragraphs.

What should be the sequence of making deductions from the total consideration received or receivable?

The amended Rule 25 has made it ample clear that the charges towards labour, services and the charges towards cost of land are to be deducted but there still remains confusion as to the order in which these deductions are to be made.

Further, the rule is also silent on the point whether deduction for payment made to the sub-contractor is available or not.

To determine answers for the same, reliance can be placed on other states VAT laws, where it has been clearly specified.

In Maharashtra VAT, rule 58 provides that the percentage (i.e. the percentage mentioned in the table in case actual value of labour and service charges is not ascertainable) is to be applied after first deducting from the total contract price the cost of land determined under sub-rule (1A) and then, the quantum of price on which tax is paid by the sub-contractor, if any, and the quantum of tax separately charged by the contractor if the contract provides for separate charging of tax.

a. first deduct the cost of land, then

b. deduct the quantum of price on which tax is paid by the sub-contractor, and lastly

c. deduct the actual amount of labour and other service charges or apply percentage as provided in the table.

Thus, logically, the builders while calculating the taxable turnover on which VAT rate is to be applied, has to follow the below said sequence:

However, rule 25 does not speaks onto the deduction for sub-contractor’s work. For the same reliance can be placed on section 42 of the Haryana VAT Act, which states that if the contractor proves to the satisfaction of the assessing authority that the tax has been paid by the sub-contractor on the sale of the goods involved in the execution of the works contract by the sub-contractor and the assessment of such tax has become final, the contractor shall not be liable to pay tax on the sale of such goods but he shall be entitled to claim input tax, if any, in respect of them if the same has not been availed of by the sub-contractor.

Detailed discussion on the deduction for sub-contractor’s work has been done in the succeeding paragraphs.

Deduction for other services like, security, corporate staff, insurance etc.—whether inclusive in the standard deduction or not?

Doubtlessly the deductions available under rule 25 does not specifically states the deductions for other services like: security staff, corporate staff, insurance etc, but yet the total amount of deductions cannot exceed the max limit of 25%, as provided in the table under rule 25, subject to the satisfaction of the assessing authority.

Which Rate of tax to be applied?

The standard rate of tax under Haryana VAT as per section 7 is 12.5% {applicable for all items not specifically mentioned in respective schedules}. Further, section 7A also imposes 5% surcharge over and above the actual rate of VAT. Strictly speaking, rate of 13.125% should be applicable to the work contracts, as the rate of work contract is not specified under any schedule.

Further, rule 15(6) of the Punjab VAT Act also states that where the contractor has not maintained the accounts to determine the correct value of the goods at the time of incorporation or deductions being claimed under sub-rule 4 are considered to be unreasonably high in view of the nature of contract, he shall pay tax at the rate of twelve and a half percent on the total consideration received or receivable, subject to the deductions specified in the table.

But since rule 25 has no similar provision, one may take a view that the calculation of VAT should be based on item-wise entry in the schedules.

The controversy arises when the assesse deduct at a standard rate in place of amount as per actual book entries. It can be more clarified by the following example:

Total Value of contract: 1000
Value of Land to be deducted (as per circle rates): 600
Balance: 400
Value of labour (25% or actual w.e.l.): 100
Value for the purpose of levy of VAT: 300

Calculation of VAT liability:

As noted in the above example, there is a huge difference in the tax liability under both the options. Since the Rule 25 is silent on this aspect as to how to calculate the liability, i.e. whether to apply 12.5% as a standard rate on the value of material derived after deductions or to calculate the liability as per the ratio of materials used, it is open to the assesse and he can opt any of the two methods.

What is the taxable event?

The judgment of the Hon’ble Supreme Court in the case of M/s GANNON DUNKERLEY AND COMPANY AND OTHERS Vs STATE OF RAJASTHAN AND OTHERS, [1993] 88 STC 204 (SC) {Appeal (civil) No. 4861-64 of 1992}, decided on 17th November 1992, is a land mark judgment for determining the value of goods liable to tax under the works contract. In this case, the apex court upheld that the taxable event is the transfer of property in the goods involved in the execution of a works contract and the said transfer of property takes place when goods are incorporated in the works.

Hence, value of goods at the time of incorporation in the works can constitute measure for levy of tax.

Reason for Non-Taxability of material used before entering into agreement:

1. Supreme Court in the judgement of L & T (2013-TIOL-46-ST-CT-LB), has held that VAT is levied on the works contract, and the works contract starts only when agreement is entered into with the buyer. Thus the value of materials used before entering into agreement, is not vatable. Specifically, till the time there is no agreement, the question of leviability of VAT does not arise.

2. One may compare the activity of developer with other manufacturing dealers, to evaluate as to why the material used in construction before entering into agreement is not Vatable. In case of manufacturing dealer, the value of goods liable to tax is the whole value of the goods irrespective of the date of booking. Likewise in the case of developer also, the value liable to tax should be the value of goods at the time of their incorporation and the date of entering of a sale agreement should be considered as immaterial. However, this metaphor could be applied only in case where the input and the output both are movable goods. In construction contracts, goods (inputs) cease to be movable, reason thereof being their transformation into immovable goods. Further, the 46th constitutional amendment, which basically brought the works contract under VAT net, provides for breaking up of an indivisible contract into two contracts, one for supply and other for services. Thus it has become possible for the states to levy sales tax on the value of goods involved in a works contract.  So if there is no sale agreement there cannot be any sales tax liability on the goods used and incorporated by the contractor in the works contract. 

Thus, continuing with the previous example, in case the material applied before entering into agreement is 180, the VAT will be calculated on 300 – 180 = 120

How to discharge VAT liability – contract wise or period wise?

Section 14 read with rule 34 of the HVAT, provides that:

• If tax amount in the previous F.Y. is equal to or more than Rs 1 Lakh- monthly payment on or before 15th day of the next month.
• Otherwise, quarterly payment, within next month following each quarter.

However, in case the builder opts for composition scheme, rule 49(3) provides that monthly payment is to be made within 15 days of the following month.

Thus, depending on the statutory provisions, the logical approach is that the VAT liability of all the contracts of a particular project in a particular tax period is to be computed and discharged accordingly.

How to claim Input Tax Credit (ITC)?

There is no question of claiming ITC in case the builder is opting for composition scheme. In contrast, if the builder is opting for normal scheme, ITC is available while discharging VAT liability.

Nonetheless, the major point of concern is computation of ITC in the case of under construction agreements.

In this regard rule 25(6) provides that In the case of works contract where only a part of total constructed area is being transferred, the deduction towards labour, services and other like charges mentioned in sub-rule (3) and input tax credit under section 8 of the Act shall be calculated on a pro-rata basis.

Further the amended section 8 states that Input tax in respect of any goods purchased by a VAT dealer shall be the amount of tax actually paid to the State on the sale of such goods to him.

However, where the goods purchased in the State are used or disposed of partly in the circumstances mentioned in Schedule E and partly otherwise, the input tax in respect of such goods shall be computed pro rata.

Further if input tax in respect of any goods purchased in the State has been availed of but such goods are subsequently used or disposed of in the circumstances mentioned in Schedule E, the input tax in respect of such goods shall be reversed.

In order to claim ITC, the contractor must possess a tax invoice showing the tax charged to him on the sale of invoiced goods and the same is a proof of the tax paid on such goods for the purpose of claiming input credit.

Hence, in case of builder, where the inputs are purchased and a portion of the same is utilized for the construction, whereas out of total construction only a certain percentage of flats is booked, then ITC to be utilized shall be calculated on pro-rata bases.

Further, the provisions are silent regarding the fact that the ITC available related to the inputs not put to use in the concerned month, can be carried forward or not, we may assume a logical approach that, as and when the sale (taxable event) takes place, and such inputs are put to use, the proportionate ITC will be utilized depending upon the output liability.

Taxability in case work is subcontracted?

As a general logic, in case the construction of building is done through subcontractor/s, the liability to pay VAT on the work done by the sub-contractor, is of that sub-contractor only. Nevertheless, in most of the state VAT laws, the deduction of the work done by the sub-contractor is available to the main contractor while determining taxable turnover, provided the tax has been paid by the sub-contractor.

We can take the case of Rajasthan VAT, where rule 22A along with deduction of value of land and labour & service portion, deduction in respect of sub-contractor is also allowed.

Rule 22A(bb) provides for deduction of the amount on which tax has been paid by the sub-contractor.

In contrast, under the Haryana VAT, Rule 25 is silent on this aspect. However, section 42 (2) provides that if the contractor proves to the satisfaction of the assessing authority that the tax has been paid by the sub-contractor on the sale of the goods involved in the execution of the works contract by the sub-contractor and the assessment of such tax has become final, the contractor shall not be liable to pay tax on the sale of such goods but he shall be entitled to claim input tax, if any, in respect of them if the same has not been availed of by the sub-contractor.

On the perusal of the section 42, it can be derived that irrespective of the fact that rule 25 does not provide deduction of the amount on which tax has been deposited by the sub-contractor, the builder need not to pay the tax which has already been deposited by the sub-contractor, otherwise it will amount to double taxation. Thus continuing with the present example, in case the work done by the sub-contractor is 200, on which the sub-contractor has already deposited the tax, the value for the purpose of levy of HVAT would be:

Total Value of contract: 1000

Value of Land to be deducted (as per circle rates): 600

Balance: 400

Value of sub-contractor portion of work (on which tax has been paid by the sub-contractor): 200

Value of labour (25% or actual w.e.l.): 50 {400-200=200 X 25%}

Value for the purpose of levy of VAT: 150

Based on the above computation of liability (in case work is sub contracted), various models for computation of VAT liability of the builder can be derived. These are:

7.1 Fully owned contract: In case, builder has not sub contracted the work and completed the contract on its own, the computation is to be done as explained above in point 2.

7.2 Partly sub contracted: In case only a part of the work is subcontracted, to calculate the taxable turnover of builder, deduction of work done by sub-contractor (provided he has deposited VAT on the same) is allowed subject to the judgement of supreme court as held in the case of the case of Larsen and Toubro [2013 (9) TMI 853 - SUPREME COURT], as rule 25 does not explains the same.

The apex court has upheld the constitutional validity of Rule 58 of the MVAT Rules 2005, which provides that amounts paid by way of price for sub-contract, if any, to subcontractors is deductible while computing the taxable turnover for the builder/work contractor. Thus computation is to be done as explained above in point 7.

7.3 Fully sub contracted:  In such a case, builder does not perform any work on his own behalf and whole of the contract is sub contracted, thus, whether it means that builder has no liability to pay VAT? Rule 25 provides no answer regarding the same.

However, relying on section 42 as explained supra, the liability of main contractor will arise only in such a case where the sub-contractor has failed to pay the same.

Further, reliance can also be placed on the case of Larsen & Toubro Limited and another Vs. State of Andhra Pradesh and others [2006] 146 STC 616 where the Supreme court explained that by virtue of article 366(29A)(b) of the Constitution of India, once the work was assigned by the contractor the only transfer of property in goods would be by the sub-contractor, who was registered dealer, and who claimed to have paid the taxes under the Act on the goods involved in the execution of works. Once the work was assigned by the assessee to the sub-contractor, the assessee(Contractor) ceased to execute the works contract in the sense contemplated by article 366(29A) (b) because the property passed by accretion and there was no property in the goods with the contractor which was capable of re-transfer, whether as goods or in some other form. Thus in such a case the work executed by the sub-contractor resulted only in a single transaction and not multiple transactions. Hence, if the tax liability has already been discharged by the sub-contractor, the principal contractor ceases to be liable for the same.

On the same lines, Kerala High Court in the case of M/S. SURYA CONSTRUCTIONS VERSUS COMMERCIAL TAX OFFICER (WC & LT) AND STATE OF KERALA {2015 (4) TMI 570 KERALA HIGH COURT}, has delivered a recent judgement. In the said case also, the petitioner had sub contracted the entire work and also obtained the Form 20H certificate from the sub-contractor who undertook to discharge the tax liability in respect of the entire work that was sub contracted. The amounts retained by the petitioner, from out of payments made by the awarder of the contract, represented only the profit element that accrued to the petitioner in his capacity as the main contractor. It is not in dispute in the instant case that the tax liability in respect of the work that was sub contracted was not due from the petitioner in his capacity as the main contractor. In fact the very demand against the petitioner is only on the amount that was retained by him towards profit under the transaction with the awarder of the contract. The Kerala HC held that, there was no liability on the petitioner in terms of the Kerala Value Added Tax Act since there was no sale of material in the course of execution of works contract that emanated from the petitioner to the awarder of the contract. In the absence of any taxable event under the Kerala Value Added Tax Act, the respondent could not have demanded tax on the amounts retained by the petitioner as profits arising out of the transaction in question. The demand of tax from the petitioner is thus illegal and liable to be set aside.

Further, the Kerala HC also relied upon the case of the decision of the Honourable Supreme Court in State of Andhra Pradesh and Others v. Larsen & Tourbo Ltd. And Others [(2008) 17 VST 1(SC)]. At paragraph 19 of the said decision, it is stated as follows:

"19. If one keeps in mind the above quoted observation of this court in the case of Builders Association of India [1989] 73 STC 370 the position becomes clear, namely, that even if there is no privity of contract between the contractee and the subcontractor, that would not do away the principle of transfer of property by the subcontractor by employing the same on the property belonging to the contractee. This reasons is based on the principle of accretion of property in goods. It is subject to the contract to the contrary. Thus, in our view, in such a case the work executed by a subcontractor, results in a single transaction and not multiple transactions. This reasoning is also borne out by section 4(7) which refers to value of goods at the time of incorporation in the works executed. In our view, if the argument of the Department is to be accepted it would result in plurality of deemed sales which would be contrary to article 366(29A)(b) of the Constitution as held by the impugned judgment of the High Court. Moreover, it may result in double taxation which may make the said 2005 Act vulnerable to challenge as violative of articles 14, 19(1)(g) and 265 of the Constitution of India as held by the High Court in its impugned judgment."

Hence relying upon the above mentioned case laws, it can be presumed that in case the work is fully subcontracted, the main contractor is not liable at all (even for the profit margin) till the liability is fully discharged by the sub-contractor.

What will be the Point of taxation?

So far as point of taxation is concerned, tax is liable to be deposited when taxable event took place and as mentioned supra, the taxable event is when the transfer of property in the goods involved in the execution of a works contract takes place.

To be specific, the point of time when the tax is due is, as and when the installments become due and payable or are received, whichever is earlier. Thus the date of entering into an agreement with the buyer or the effective date of booking is the date from which the liability to pay tax on the goods used in the work is to be calculated.

Case where the construction has not started till the launch of the project

There are cases when the construction activity is taken up after the project is launched. Further, the booking of flats may not take place immediately for all of the units immediately post the launch. In such a case, whole of the construction will be taxable, as the construction activity is yet to be started.

Case where the construction has started before the booking of units: sale of under construction flats

Generally, the units are sold over a period of time and the construction starts even before the booking of units. In such a case, as explained in the previous paragraphs, the taxable turnover is to be determined from the date of booking/entering into agreement for sale with the buyer. Thus the developer is required to maintain books of account in such a way so as to keep a record of the date of booking/agreement of all the units for the construction work.

For Example:

II. Computation under composition scheme

In case the builders opt for the composition scheme {known as composition developer}, as per NOTIFICATION No. S.O. 89/H.A.6/2003/S.60/ 2014 dated 12.8.2014 as amended by Notification 23/H.A.6/2003/S.60/2015 dated 24th September, 2015 and rule 49A, a lumpsum amount need to be deposited by the builder @ 1% of entire aggregate amount specified in the agreement or value specified for the purpose of stamp duty, whichever is higher, in respect of the said agreement.

Registration under composition scheme:

1. A developer may opt for payment of tax in lump sum w.e.f. 1-04-2014 (in accordance with the provisions of new notification dated 24-09-2015) by submitting an application in Form VAT-CD1 to the appropriate assessing authority, within 60 days of the issue of the notification.
2. If a developer gets registration certificate after the issue of the notification, he may opt for the scheme within 30 days of the issue of registration certificate under the Act.
3. Further, a registered developer (who is already registered under this act) can also exercise such option from the beginning of a financial year by submitting the application to the appropriate assessing authority within 30 days of the commencement of the financial year concerned.

However, following restrictions will be applicable on the builder opting for composition scheme:

• Composition Developer shall be treated as NON- VAT dealer and not eligible to claim input tax credit u/s 8.
• Composition Developer shall not be eligible for deduction on account of tax paid by the contractor /sub contractor.
• Composition Developer shall purchase goods for use in the execution of the works contract from a registered dealer of the State but shall not be entitled to claim any input tax credit thereon.
• If the input tax in respect of any goods purchased in the State has been availed of by a developer and such goods are held in stock at the time of option of composition scheme, the input tax in respect of such goods shall be reversed. In case any goods used in the execution of works contract are procured or purchased from dealers other than the registered dealers from within the State or from outside the State on which no tax has been paid to the State, the composition developer shall be liable to pay an amount equal to the amount of tax that would have been payable, had the goods been purchased within the State from a registered dealer.
• The composition developer shall be entitled to purchase or receive goods, from any place outside the State including imports from out of India, against prescribed declaration forms, to be used in the execution of the contract at any time during the period for which the composition remains in force under this Scheme, but he shall pay tax at the rate of 4% on purchase price thereof and on goods purchased and or received from any place outside the State and held in stock at the time of option of the composition scheme, and such tax shall not be adjustable towards his composition tax liability
• The composition developer not be entitled to use declaration Form VAT D-1 for purchasing goods at concessional rate of tax from within the State
• Composition Developer shall not collect any amount by way of tax.
• Composition Developer shall not issue Tax invoices.
• Composition Developer shall retain the originals of all tax invoices and all the retail invoices for all his purchases.
• Composition Developer shall not be entitled for refund.

Transitional Provisions:

A composition developer who has opted for lump sum payment of tax under the lump sum scheme notified on the 12th August, 2014, shall be deemed to have opted for lump sum payment of tax under this scheme. In case the tax deposited under the scheme notified on the 12th August, 2014 is more than the tax liability calculated under this Scheme, the excess tax shall be adjusted against the future tax liability but no adjustment on account of such excess tax shall be allowed if the composition developer opts out of the Scheme.

Due date of payment:

Rule 49A provides that the tax period for the composition developer shall be monthly and the payment of lump sum in lieu of tax shall be paid by the composition developer within 15 days of the close of the month. Further, if a composition developer fails to make the payment of tax in time under this scheme, then he shall be liable to pay interest as per the provision of sub-section (6) of section 14 of the Act.

Point of taxation in case of composition developer:

Generally, the point in time when the tax is due is the taxable event. As discussed in previous paragraphs, the taxable event is the transfer of property in the goods involved in the execution of a works contract and the said transfer of property takes place when goods are incorporated in the works. Concluding from this equation, one may say that, as and when the taxable event in the particular contract takes place {i.e., percentage of goods incorporated in the works contract}, VAT is to be deposited @ 1%, based on the agreement value multiplied by the said percentage.

Eligibility to claim Input Tax Credit:

Rule 49A(2)(iv) provides that the composition developer shall be treated as non-VAT dealer and not eligible to claim input tax credit under section 8 of the Act. Thus, the developer opting for composition scheme, cannot claim ITC.

Deduction for the work done by sub-contractor:

Rule 49A (4) provides that where the composition developer awards any portion of his contract to a contractor or sub-contractor, such composition developer shall not be eligible for any deduction on account of any tax paid by the contractor or the sub-contractor under the Act. Thus no question of deduction arises in case the developer opts for composition scheme.

Filing of Return:

A composition developer shall furnish a quarterly return in Form VAT R-13 to the appropriate assessing authority and also submit proof of payment of tax along with the return.

By: CS Priyanka Gupta
PRA & Associates (VAT Team)