A works contract is a mixture of service and transfer of goods. Examples of works contract are construction of a new building, erection, installation of plant and machinery.
Works contract consists of three kinds of taxable activities as per the current law.
- It involves supply of goods as well as supply of services. If a new product is created during the works contract, then such manufacture becomes a taxable event.
- Currently, the supply of goods is taxable in the form of VAT and the service is taxable under service tax.
- If a new product appears in the process of completing a works contract, Central Excise duty is levied.
So, different aspects of one a single activity are taxed by different laws. This causes a lot of confusion regarding treatment and taxability which is why there are so many legal disputes in related to works contracts.
Works Contract Under GST
GST Schedule II clearly mentions that the following are supply of service–
- construction of a complex, building, civil structure or a part thereof, including a complex or building intended for sale to a buyer, wholly or partly,
- works contract including transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract
Thus GST with its “One Nation One Tax” has removed the confusion regarding the tax treatment.This means works contract will be treated as service and tax would be charged accordingly (not as goods or part goods/part services).
This treatment of works contract as service and not as supply of goods will bring in much needed clarification to the works contracts. Under the current regime, different states have different schemes for VAT. There are different composition schemes with different VAT rates. Service tax too is complex with 60% abatement on new works and 30% abatement on repair contracts. GST will solve such with a much simpler straightforward calculation
Input Tax Credit is NOT available
Revised Model GST Law mentions that input tax credit is not available for-
- works contracts services when supplied for construction of immovable property, other than plant and machinery, except where it is an input service for further supply of works contract service
- goods or services received by a taxable person for construction of an immovable property on his own account, other than plant and machinery, even when used in course or furtherance of business.
On analysis, one finds this provision is quite contradictory.
For example, any contractor/builder will not enjoy any input tax credit on the input services if he constructs any building. But he will enjoy input tax credit on input service for further supply of works contract service. These two sentences are confusing and contradictory.
Input tax credit is available to a builder while constructing plant and machinery. But input tax credit is not available to any taxable person who constructs on his own account even if it is for business use.
Abatement is not Mentioned
No abatement has been prescribed for works contract service so far. Currently VAT is payable on the works contract. Service tax is paid @15% on either 40% (on new work) or 70% (on repair, maintenance work).
In case no abatement/ composition is provided, it may lead to significant increase in tax burden, especially if such works contract is taxed at Standard GST rate (which is 18%) and even if subjected to lower tax rate (12%).
- Composition scheme is not available to works contractors as it is treated as service under GST. Composition scheme is only available to suppliers of goods. This will be a big blow to the small sub-contractors who cannot opt for composition scheme. They will be forced to register for normal taxation scheme increasing their compliances and costs.
- While GST has clearly defined works contract as service bringing in some clarity, more information is required especially in the areas of input tax credit and composition schemes. Otherwise the same confusion and lengthy costly legal disputes will be seen also under GST regime.