Works Contract: Impact of the landmark judgments of the Hon’ble Apex Court on GST
CA Sandesh Mundra and Naimesh Padhiar
Works contract is one area, where the taxability and valuation till date have been governed more by the court judgements rather than the prescription of act and rules. Some of the judgements relate to identifying whether a particular contract is a works contract or not, some determine the value of goods involved in a contract, some on taxability of inter-state works contract etc. Now, these judgements may remain relevant even under GST. The government may also be requested to cover such issues within the proposed education guide that they may be planning to release after introducing the GST law to facilitate the overall implementation.
Let’s look at some of the relevant judgements :-
Q1: Will the test of ‘Dominant Intention’ theory be relevant even under the GST laws?
In various decisions of the courts, the test of the dominant nature of the contract has been held to be non relevant. In case of ACC Ltd. Vs. CC reported at 2001-VIL-13-SC-CU where the Apex court has held that even if the dominant intention of the contract is the rendering of a service, which will amount to a works contract, after the Forty-sixth Amendment the State would now be empowered to levy sales tax on the material used in such contract. The same view was also confirmed in case of Larsen & Toubro Limited vs. State of Karnataka reported at 2013-VIL-03-SC-LB where it was held that the dominant nature test has no application and the traditional decisions which have held that the substance of the contract must be seen have lost their significance where transactions are of the nature contemplated in Article 366(29-A). Even if the dominant intention of the contract is not to transfer the property in goods and rather it is rendering of service or the ultimate transaction is transfer of immovable property, then also it is open to the States to levy sales tax on the materials used in such contract if such contract otherwise has elements of works contract. The enforceability test is also not determinative. [para 101 (vi)]
The dominant nature test was relevant where there was a confusion in case of supply of goods or services. However, in case of Model GST Law, an attempt has been made to identify the specific supply of service or goods, however for all the undefined areas, composite supplies, the dominant nature test might continue to be relevant. Hence the above case laws may again have to be referred to.
Q2: Whether the contractor or the sub-contractor be subject to GST in case of back to back contracts?
There is always an open issue in case of contractors and sub-contractors for discharging their liability in case of works contract be a service tax or VAT where any one party be a contractor or the sub-contractor has discharged the liability, whether the other party shall be liable to get discharge its liability. In case of Larsen and Toubro Ltd. before the Apex Court reported at 2008-VIL-30-SC it was held that in case of works contractor it is the sub-contractor who is liable to pay tax and once paid, contractor is no more liable to that extent as the property passes directly from the sub-contractor to ultimate client.
Under the VAT Laws of the different States, some of the States like Maharashtra have the provision for the exemption in case if the main contractor has discharge the liability the sub-contractor will not have any obligation on such works subject to the procedures under the laws. Further the credit on inputs paid are also available to the sub-contractors to be utilized for the other taxable turnover. Hence, the exemptions to sub-contractors under the VAT laws of different States are available for the sub-contractors without any lapses of input credits. Under service tax Laws both the contractor and sub-contractors are treated as distinct person and hence the liability for the service tax is independent in both the cases. Further under Works Contract services, the services are considered under partial reverse charge, if such services are provided by an Individual, HUF, Partnership Firm and AOP to body corporate to the extent of 50%. Even though the main contractors in such cases i.e. the body corporate have discharge its full liability for such contracts, they are liable to discharge their liability under reverse charge. This seems that the intentions of the Central Government were never to provide the exemption under such arrangements of contractors and sub-contractors.
Under the GST Law such provisions for the arrangements in case of contractor & sub-contractors are likely to have no validity and the contractor and sub-contractor will have their independent liability for GST. Further in our view the application of Larsen & Toubro back to back judgement may have some relevance as under GST supply includes sale which will continue to take place by way of accretion under works contracts related to immovable property. It can be marked that even if the facts and issues of the judgment are made applicable to the GST Law, it would have practical implication on implementing as the contractor’s liability will stand waived off to the extent of the liability discharged by the sub-contractor. However in case of value addition i.e. profit and other charges, contractor shall be liable and would have to discharge its liability on such value addition.
Q3: Why is government continuing with Article 366(29a)? Do they still wish to tax the deemed sales of goods in a works contract?
Article 366(29A) in The Constitution Of India which specifies the inclusion of a tax on sale or purchase of goods, the sub-clause (b) of the Article 366 (29A) states a tax on the transfer of property in goods (whether as goods or in some other form) invoked in the execution of a works contract. Interestingly there is no constitutional amendment under this article have been made for implementing the GST Law.
However, as per the scope of the supply of goods or services which includes all the supply included in Schedule II, in respect of matters mentioned therein, shall apply for determining what is to be treated as a supply of goods or a supply of services. Now as per Para 5(f) of the Schedule II specifies works contract including transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract to be treated as supply of services.
This seems that the GST Model Law states that the ‘works contract’ shall be treated as‘service’, however, the constitution states that it is deemed sale of ‘goods’. Hence this provision of the GST Model Law can be technically challenged on account of contrary to the Constitution of India. This may create disputes on account of levy of GST on ‘Works Contract’.
Q4: Taxability of real estate property constructed prior to entering into agreement with the prospective customer ?
In case of Larsen & Toubro Limited vs. State of Karnataka reported at 2013-VIL-03-SC-LB where the Supreme Court has held that the taxable value is the value of goods at the time of transfer and not the cost to the contractor. It was also held that the cost of construction from the date of agreement can only be considered as works contract. The relevant para of the case is cited as below,
“115 It may, however, be clarified that activity of construction undertaken by the developer would be works contract only from the stage the developer enters into a contract with the flat purchaser. The value addition made to the goods transferred after the agreement is entered into with the flat purchaser can only be made chargeable to tax by the State Government.”
However no such benefit is passed on under the Model GST Law and the issue is still open and may be challenged considering that stamp duties have not been subsumed under GST.
This and many more such judgements need to be studied in light of the model GST Law to understand the exact implications in advance.
[Views expressed are strictly personal]