JULY 07, 2009

Half baked approach by TRU in addressing valuation issue under Works Contract Service

By A Netizen

RIGHT from the time Works Contract Service has been brought into the ambit of service tax with effect from June 1, 2007, there were innumerable controversies surrounding this levy but all those controversies were restricted to the date of applicability of service tax on the activities which were brought under this taxable service but were existing as taxable services prior to the introduction of this levy.

Of late there were controversies surrounding the valuation to be adopted for this taxable service under the composition scheme where goods received free of cost were excluded from the gross amount declared as received for the works contract by the service providers.

By way of Works Contract (Composition Scheme for Payment of Service Tax) Rules, 2007, an option was provided for the service providers to pay service tax @ four percent on the gross amount charged for the works contract subject to the condition that the service provider does not avail CENVAT credit of duties or cesses paid on the inputs used in or in relation to the works contract service.

Through an explanation, for the purpose of these rules, gross amount charged for the works contract shall not include Value Added Tax (VAT) or sales tax, as the case may be, paid on transfer of property in goods involved in the execution of the said works contract.

Now an amendment is introduced in these rules whereby the said explanation explaining “gross amount charged” is replaced as follows:

“gross amount charged for the works contract shall be the sum,-

(a) including-

(i) the value of all goods used in or in relation to the execution of the works contract, whether supplied under any other contract for a consideration or otherwise; and

(ii) the value of all the services that are required to be provided for the execution of the works contract;

(b) excluding-

(i) the value added tax or sales tax as the case may be paid on transfer of property in goods involved; and

(ii) the cost of machinery and tools used in the execution of the said works contract except for the charges for obtaining them on hire.”

A new sub rule 4 is also inserted to specify that the option of payment of service tax @ 4% under sub-rule (3) thereof shall be permissible only where the declared value of the works contract is not less than the gross amount charged for such works contract.

In the words of JS TRU, this amendment in ascertaining the gross amount for the purpose of composition scheme under works contract service is brought in because the taxpayers are not including the full value of the goods required for execution of works contract for working out service tax liability under the composition scheme by either excluding the value of goods received free of cost from their client or splitting the contract into a sale contract (for a portion of goods required to execute the works contract) and works contract (for only a portion of the total value of goods and the labour charges), thus reducing the value of works contract for the purposes of calculating service tax.

While this amendment may bring in the desired results for those working under the composition scheme who exclude value of goods received free of cost from their client, it is to be seen as to how the issue of splitting of contracts into sale and service will be addressed successfully by this amendment.

Because legally speaking the recipient of service is free to choose the nature and type of goods and service he intends to procure and the manner in which he may procure them for his consumption.

Further, the controversy surrounding the exclusion of value of transfer of property in goods in goods in execution of the works contract for the purpose of arriving at the value of taxable service when composition scheme is not opted by the service provider is left untouched by TRU.

In the VAT regime, an option is provided to a dealer registered for this purpose i.e. engaged in transfer of property in goods in the execution of a works contract, to pay VAT on a certain percentage of the value of the contract where books of accounts to bifurcate labour and materials is not maintained and labour charges are not ascertainable (normally 70% of the value is deemed as material value).

In such instances, the value is only a deemed value but not actual value. There is no clarity under service tax regime for treatment of such deemed value because the sub clause (ii) of Rule 2A (1) of Service Tax (Determination of Value) Rules, 2006 provides for exclusion of actual value of transfer of property in goods on which VAT/Sales tax has been paid for determination of value of taxable service in terms of sub clause (i) ibid.

The time is ripe for TRU to come out with a suitable clarification in this regard.