Taxation of Works Contract under TN VAT

Meaning of Works Contract in TN VAT:

Sec 2(43) defines as “Works Contract” includes any agreement for carrying out for cash, deferred payment or other valuable consideration, building construction, manufacture, processing, fabrication, erection, installation, fitting out, improvement, modification, repair or commissioning of any movable or immovable property.

It need to be very careful while reading these lines that the act has not given the exact and exclusive definition but the definition specifically includes the activities/ nature of transactions covered under the Works Contract. In the absence of the exclusive definition for the words/ phrase “Works Contract” one need to refer the definition of works contract under the General Clauses Act. Considering these facts one has to be consider the definition under General Clauses Act  & TN VAT act for the clear view about the definition of TN VAT. These definitions need to be considered only when the user has doubt whether the kind of transaction fall under the works contract or not?

Taxation under TNVAT!

The works contract is been governed by two different methods and the option is left to the choice of the dealer.

First Method: This method is also known as Method of Composition or Composite method of tax payment. In this case the dealer is liable to pay tax on the total value of the works contract at the applicable rates. The applicable rates are 2% for civil works and civil maintenance works & 4% for all other works. And the highlighting points under this method are (a). The dealer has to present his option of payment of tax under this method with the assessing authority before 20th of May of the financial year or along with the first month return after commencement of the works contract execution, as the case may be,  (b) The option opted as above is final and binding and the dealer has no option to switch over to other method. (c) The dealer is not required to maintain books of accounts under this act., and it does not mean that he/ she need not maintain books of accounts under the other law(s) in the land, and (d) The dealer can not take Input Tax Credit on the purchases or on the inputs, and more importantly (e) the tax has to be paid out of the fund collected from the customer or has to be paid out of his margin earned or to be precise he has no rights to collect the tax portion from his customer(s), where the billing is made under composition. The reader may mark these facts/ points are covered under sec.  6 of the TNVAT  Act.

Second Method: It is opposite to the first method and it is known as Non-composition in general.

In this case,

(a)  the dealer is not liable to pay tax on the total value of the works contract at the applicable rates but on the taxable turnover only and again the percentage of tax payable on the said turnover is based on the form of the property and its applicable rate as listed in the different parts of the First Schedule of the Act.

(b) Unlike the other method the dealer need not place his/her option of payment of tax liability under Non-composition. Once the dealer fails to present the option, it is automatic that he is liable to pay tax under Non-composition method.

(c) The dealer is required to maintain books of accounts under this act and to produce the evidence(s) with the appropriative authorities, as and when required by them.

(d) The dealer can take Input Tax Credit on the purchases or on the inputs.

The reader may mark these facts/ points are covered under sec.  5 of the TNVAT  Act.

Common for both the cases/ Methods:

(a) The dealer can not take Input tax credit on the purchases under CST act., and  (b) The option opted as above is final and binding and the dealer has no option to switch over to other method with in the financial year. However switching from one method to another is possible from the next financial year, if the project is continued to in execution.

Difference between (i) Value of the Works Contract under the first method and  (ii) Taxable Turnover under the second Method:

The total consideration received or receivable in future in respect of the works contract agreement, accounted under the regular accounting practice of the dealer whether on Mercantile or  an accrual basis. To say the value received plus receivable plus escalation if any due in future is called Value of Works Contract. But to be very precise the value of VAT charged in the Invoice is not part of the value of the works contract.

The Taxable Turnover means, the value of the works contract adjusted by the component of exempted goods and services included or inbuilt in execution of the works contract. To cover an example(s) is/are: labour charges paid on execution of the civil works, equipments or apparatus covered under Part-B of Fourth Schedule (Sec. 15).

Assessment of Tax Liability on Taxable Turnover:

The dealer is liable to pay tax at the rates specified in the First Schedule on the taxable turnover. If the inputs/ purchases for execution of the projects are covered by more than one tariff category/ group of goods and services fall under more than one rate of tax, then the taxable turnover is divided in to more than one group in the same ratio of the inputs category/ group.  Now the splited taxable turnover be charges on the respective tax rates as per the first schedule to arrive the tax payable.

Illustration:  Dealer Company ‘A’ has accepted an assignment of Design, Development, Commissioning of sewerage water treatment plant from Govt. department ‘B’ for a consideration of Rs.100 lakhs plus applicable VAT.  In this case the contractor company ‘A’ has spent labour expenses in construction a sum of Rs.32.00 lakhs, Design charges a sum of Rs.1.50 lakhs, Purchase of Pumps from the dealer situated in other state a sum of Rs.10.00 lakhs, Purchase of Pumps & motors from the dealer situated with in the state a sum of Rs8.50 lakhs, Purchase of cements from the dealer situated with in the state a sum of Rs.8.50 lakhs, Purchase of bricks, blue metals etc from the dealer situated with in the state a sum of Rs.8.50 lakhs  and Purchase of Electrical goods from a dealer situated outside the state a sum of Rs.7.00 lakhs and dealer situated with in the state a sum of Rs.15.00 lakhs. Based on this stimulated data’s lets assess the tax liability of the dealer to the VAT authorities.                                                                                                                                                                    

(1)If the dealer wishes to pay tax on composition/ first method, the tax payable is 4% on the total contract value of Rs.100.00 lakhs. (ie 4 .00 lakhs)

(2)If the dealer wishes to pay tax on Non-composition/ second method, the process of assessment is as follows:

Now the taxable turnover need to be splited in to more than one group so as to compute tax @ 1% or 4% or 12.5% as the case may be.

Inputs covered under 4% category or Part-B of First Schedule:

Basic Value of goods purchased (goods falling under Part-B of first schedule) : Rs. 47.10 lakhs

Inputs covered under 12.5% category or Part-C of First Schedule:

Basic Value of goods purchased (goods falling under Part-C of first schedule) : Rs.7.55 lakhs

Ratio between the above two :  47.10 : 7.55

Now the taxable turnover of Rs. 66.50 lakhs need to be splited in to two groups in the same ratio as calculated above, which works to   57.31 : 9.19

Hence Taxable turnover taxable @ 4%  is Rs.  57.31 lakhs  ( tax of Rs.2.29 lakhs)

And  Taxable turnover taxable @ 12.5% is Rs. 9.19  lakhs   (tax of Rs.1.15 lakhs)

Considering the Tax clause in the agreement, in case of composition the total billing would be Rs. 104.00 lakhs and tax payable by the dealer is Rs.4.00 lakhs and in case of second/  Non-composition  method total  billing  would  be  of  Rs.103.44  lakhs  and  tax payable by the dealer is Rs.1.25 lakhs only after adjusting the Input Tax Credit. In both the cases the customer is liable to deduct TDS under VAT @ 4% unless the dealer produces Form S u/r Rule 9(2) of The VAT Rules 2007.

If the dealer opt to pay tax on the first method/ composition method of tax liability, he can not apply for Form S with the authorities unless he makes the full payment in advance. In the absence of Form S, The customer is bound to deduct 4% on the works contract value. In practice most of the tax deductors are deducting 4% TDS on the full value of the bill (ie Basic value of the contract + VAT), which leads to 4.16% of the works contract. In view of this the dealers are bound to file a refund return to the extent of 0.16% or to carry forward the credit balance of 0.16%. In case if the dealer wishes to avoid this, he has the option to pay the VAT taxes billed in the invoice in advance to the assessing authorities and obtain the Form S and avoid the TDS process.

Conclusion: A prudent dealer has to do an exercise to place the option of his own choice as to whether he/she can choose to pay tax under composition or non-composition and it is also true that the dealer can opt one project under composition and other project under non-composition at his choice of assessment, so as to maximize the profit element. Based on the information’s made available here, the reader(s) could have understood how the element of profit is been taxed under the VAT and how it works in reducing the cost of the project.

Memorandum need to be Presented with the Govt by the Traders Association:  The VAT Rules provides the fact that if the sub-contractor is registered dealer filing the returns under VAT Act., the main contractor turnover to the extent of the subcontract value  is exempted from works contract value/ taxable turnover.  The VAT Act or Rules has not given effect of exemption in the hands of sub-contractor, if the main contractor has opted to pay under composition under sec 6 of the act.,  and in addition to this the Rule 8(5)(d) provides to assess the exemption from the taxable turnover in the absence of data’s in the books of accounts. But the rule has failed to restrict the allowance subject to the maximum amount as calculated under this rule or actual amount spent, whichever is lower, so as to tax the profit element behind the project.

For any further clarifications the reader may reach the author -

P.Jagadeeswaran,

VAT – Practitioner,

No. 33, FF, Elango Street, 

Chelliamman Nagar,  Athipet, Ambattur, 

Chennai – 600 058   

Mobile: 9176038176

The readers are informed to note that the facts and information’s stated in this article is only the opinion of the author and in no way it is binding on part of the judiciaries, however assesses can use the concepts and logical used in this article in support of their cases.