Service tax on works contract

Last updated: 06 June 2007

Section 65(105) of the Finance Act, 1994 defines the taxable service in respect of various categories of services. The Finance Bill, 2007 seeks to introduce sub-clause (zzzza) to clause (105) as below: -

“(zzzza) to any person, by any other person in relation to the execution of a works contract excluding works contract in respect of reads, airports, railways, transport terminals, bridges, tunnels and dams.

Explanation- For the purposes of the sub-clause “works contract” means a contract wherein-

i) transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods, and
ii) such contract is for the purposes of carrying out:-
a) erection, commissioning or installation of plant, machinery, equipment or structures, whether pre-fabricated or otherwise, installation of electrical and electronics devices, plumbing, drain laying or other installations for transport of fluids, heating ventilation or air-conditioning including related pipe work, duct work and sheet metal work, thermal insulation, sound insulation, fire proofing or water proofing, lift and escalator, fire escape staircases or elevators; or
b) construction of a new building or a civil structure or a part thereof, or of a pipeline or conduit, primarily for the purposes of commerce or industry; or
c) construction of a new residential complex or a part thereof; or
d) completion and finishing services, repair, alteration, renovation or restoration of, or similar services, in relation to (b) and (c); or
e) turnkey projects including engineering, procurement and construction of commissioning (EPC) Projects”

The issues that arise out of the proposed amendment are discussed hereunder: -

TYPES OF WORKS CONTRACTS COVERED
Only works contracts involving transfer of property in goods involved in the execution of such contract leviable to tax as sale of goods, and being contracts of the nature specified in clauses (a) to (e) above are covered under the definition. Therefore, all other works contracts are not subject to levy of service tax under this category. For examples, printing contracts, dyeing contracts, maintenance contracts, electrical or structural contracts etc. which are not in the nature of services specified above, are not taxable under this category.

RESIDENTIAL COMPLEX HAVING LESS 12 UNITS OR LESS
Clause (c ) above covers construction of new residential complex or a part thereof. Under construction of complex service, construction of a residential complex consisting of more than 12 residential units only is taxable. The issue arises as to whether construction of a residential complex consisting of 12 residential units or less is taxable under the category of works contract.

Section 65(91a) defines “residential complex” to mean any complex comprising of –

i) a building or buildings, having more than twelve residential units.
ii) -----

The definition is applicable only to construction of complex service. Wherever the terms “residential complex” appears in the Finance Act, it should have more than 12 residential units.

However no point for exclusion of residential bungalows is made, which may not form part of residential complex.

COMPOSITION SHCEME
An option for composition to pay service tax @ 2% on entire value is likely to be provided as stated by the Finance Minister in the Budget Speech. However, the methodology of valuation or and the conditions for composition are yet to be notified. However, providing for a composition rate of 2% for works contracts classified under clause (zzzza) would create inequality. However, services provided by Resident Welfare Associations to their members who contribute Rs 3,000 or less per month will be exempted from paying the tax.

SERVICE PROVIDED BY SUB-CONTRACTOR
The issue as to whether both sub-contractor and main contractor would be liable to pay service tax on the works contract would arise in view of the decision of the Andhra Pradesh High Court in L & T and another V/s. State of A.P.- 148 STC 616 (AP). The court observed that in a transaction of works contract, the property in goods passes directly to the employer by the theory of accretion and that the sub-contractor is only an agent of the contractor and the property in goods passes directly from the sub-contractor to the employer and therefore there can only be one sale which is recognized by the legal fiction created under sub-Article 29A of Article 366. The court further observed that there is no principle of law which establishes that the property in goods passes to the contractor at any stage of the execution of the works contract in the event of the contractor awarding the contract in the event of a contractor awarding the contract to a sub-contractor and that there are two taxable events in such a transaction, enabling the State to levy and collect tax both from the sub-contractor and the contractor.

For Contractors…………

The Supreme Court in the M/s. K. Raheja Developments case has further observed that, “if the agreement is entered into after the flat or unit is already constructed, then there would be no works contract, but so long as agreement is entered into before the construction is complete, it would be a Works Contract.”

DATE OF TAXABILITY

From the date of approval of budget i.e 11/05/2007

Category Service Tax Report

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Service tax on works contract

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