Service tax on works contracts
(The article was written in 2007)
TWO MAJOR ISSUES- VALUATION OF SERVICE AND COMPOSTION SCHEME - CA SUDHIR HALAKHANDI
The Finance Minister Mr. P. Chidambaram through Finance Act- 2007 introduced Service Tax on works contract and now this service is made taxable w.e.f. 1st. June 2007 through Notification 23/2007-Service Tax dated 22-5-2007. At the time of introduction of service tax on works contract following two major points were clarified and these were: - 1. That the rules of determination of value will be declared later. 2. The composition scheme for this service will also be declared in due course. Now both these issues related to service tax on works contract have been settled and the Rule for determination of Value of works contract and composition scheme for this purpose have been introduced. Let us see a brief study of the both these major points of taxation of works contract service under service tax laws: - 1. DETERMINATION OF VALUE VAT is payable on the Value of transfer of property in goods involved in execution of works contract and service tax is payable on the labour and service involved in execution of works contract hence the Rules for determination of value on which service tax is payable by the service provider has been declared through insertion of Rule 2A in Service Tax (Determination of Value) Rules 2006 by Notification No. 20/2007 – Service Tax, dated 22-5-2007. The new Rule 2A is related to determination of value of works contract for the purpose of Service tax. These rues are applicable from the 1st. Day of June 2007 i.e. the day on which service tax on works contract is applicable. The determination of value of works contract is based on the following: - 1.As per Rule 2A of the Service Tax (Determination of Value) Rules 2006 the value of transfer of property in goods involved in execution of the works contract shall be deducted from Gross value of the contract. Here see: - VALUE OF WORKS CONTRACT= Gross value of works contract- Value of transfer of property in goods involved in execution of works contract. Two explanations are also added to this rule of determination of value of service under works contract: - 1.The Value added tax or sales tax paid on the works contract shall be excluded from the value of the Contract. 2.The levy has been further explained that the value of works shall include the following: - (i). Labour charges for execution of the works contracts; (ii). Amount paid to subcontractor for labour and Service. (iii). Charges for planning, designing and architect’s fees; (iv). Charges for obtaining on hire or otherwise, machinery and tools used for the execution of the works contract; (v). Cost of consumables such as water, electricity, fuel, used in the execution of the works contracts; (vi). Cost of establishment of the contractor relatable to supply of labour and services; (vii). Other similar expenses relatable to supply of labour and services; and (viii). Profit earned by the service provider relatable to supply of labour and services. It will not be practical to calculate the profit on transfer of goods and profit on labour or service separately. It will not be easy to determine the value of the transfer of property in goods involved in the execution of the works contract because here the value of the goods is not the purchase value and further to solve this problem to some extent it has been provided in Rule 2A(1)(ii) that the actual value of the goods on which the value added tax is paid shall be the value of the transfer of property in goods involved in execution of a works contract. The intention of the Government is to tax the value of labour and service and profit thereon. Hence the method of valuation of works contract has been explained by two ways to make the matter more clear. The Rules for determination of value of works contract as declared by the Notification No. 29/2007-Service tax, Dated 22-5-2007 as mentioned above are not only complicated but also very confusing. At first place it is stated that the value of works contract service shall be equal the gross value of the contract less value of transfer of property in goods involved in the execution of the works contract. But here though the purchase price or cost of goods involved in the works contract can be determined easily but the value of the Goods is subject to Gross profit involved in execution of works contract and it will be difficult to calculate the profit on supply of goods separately. The explanation part (b) has stated that the value of works contract shall include the cost of labour and service and profit thereon. It will practical problem to calculate the profit on labour and service. Let us see how in explanation (b) has clarified the ingredients of the gross value of works contract on which service tax is payable: - (i). Labour charges for execution of the works contracts; (ii). Amount paid to subcontractor for labour and Service; (iii). Charges for planning, designing and architect’s fees; (iv). Charges for obtaining on hire or otherwise, machinery and tools used for the execution of the works contract; (v). Cost of consumables such as water, electricity, fuel, used in the execution of the works contracts; (vi). Cost of establishment of the contractor relatable to supply of labour and services; (vii). Other similar expenses relatable to supply of labour and services; and (viii). Profit earned by the service provider relatable to supply of labour and services. Knowing the problem, an attempt is also made to solve this problem by inserting Rule 2A(ii) which provides that when the Value added tax has been paid on actual value of the transfer of property in goods involved in execution of works contract then such value shall be taken as the value of transfer of property in goods involved in execution of the works contract. Let us see this part of the Rule: - (ii)Where Value Added Tax or sales tax, as the case may be, has been paid on the actual value of transfer of property in goods involved in the execution of the works contract, then such value adopted for the purposes of payment of Value Added Tax or sales tax, as the case may be, shall be taken as the value of transfer of property in goods involved in the execution of the said works contract for determining the value of works contract service under clause (i). 2.COMPOSITION SCHEME The rate of tax under composition is 2% on Gross value of contract and it is declared by the Notification No. 32/2007- Service Tax, Dated 22-5-2007. The main features of the composition scheme is as under: - 1. The rate of tax under compostion scheme is 2% on gross value of contract. Gross value of contract does not include the amount paid the contractor as VAT and sales Tax. 2. The service provider providing works contract service opting for composition scheme shall have to opt for composition scheme before payment of service tax. No formal application is prescribed for this purpose hence the service provider can file his option with simple letter mentioning the work order No. and total amount involved in it. 3.The provider of taxable service under this head shall not have the right to claim CENVAT credit of the 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. 4. The composition tax is payable on whole amount of the works contract and once opted the service provider cannot withdraw from the scheme before completion of the contract. (Note :- The composition fees has been increased to 4% Now) Though no format of option has been mentioned and provided in the Notification No. 32/2007- ST, Dated 22-5-2007 hence a suggestive format for the same is given here for the benefit of the taxpayers: - FROM: - XYZ CONSTRUCTION COMPANY ___________________________ ___________________________ _______________ To, The Superintendent of Central Excise (Service Tax) __________________________ __________________________ ____________ Dear Sir, Re: - Option for Composition scheme as mentioned in Works Contract (Composition Scheme for payment of Service Tax) Rules 2007 as Notified through Notification No. 32/2007 ST Dated 22-5-2007 for our work order No. 23/2007 dated 1st. June 2007 with ABC Corporation amounting to Rs. 15 Crores. With reference to above we have to state that we are opting for payment of service tax under the Works Contract (Composition Scheme for payment of Service Tax) Rules 2007 as provided by Notification No. 32/2007-ST dated 22-5-2007 for the above mentioned works contract. The photo state copy of work order is enclosed herewith for your perusal and record. Thanking you Yours faithfully FOR XYZ CONSTRUCTION COMPANY (Auth. Sign) Encl: - Copy of work order No. 23/2007 dated 1st. June 2007. Since the Levy of service Tax on works contract and also the Rule for determination of value for taxation are very confusing and complicated hence an optional composition scheme is introduced but the contractors are under practical compulsion to opt for composition scheme. END
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