Thursday, 10 February 2022


 Under the previous tax regime, infrastructure projects were burdened with litigation on the issue of whether the contracts have to be treated as separate ‘supply of goods’ or ‘supply of service’ contracts, or could they be treated as a composite works contract involving supply of both goods and services. This was an important determination, as ‘supply of goods’ was subject to Value-added Tax (“VAT”), which was a state tax, while ‘supply of services’ was subject to service tax, which was a central tax. Moreover, composite works contract was subject to a combination of both VAT and service tax. Works contract is a composite contract for the supply of goods and services. Works contract is a composite contract for the supply of goods and services. Works contract is a composite contract for the supply of goods and services.

With the implementation of GST these litigations will come to an end. The Central GST Act, 2017 (“GST Act”)1, specifically provides that ‘works contract (including any transfer of property in goods in the execution of such contract)’ as well as ‘construction of a complex or a building, civil structure or a part thereof’ shall be treated as supply of services. Even though this provision will provide clarity to a great extent, it may not be able to eliminate ambiguity completely. Contracts in the infrastructure sector can be quite complex, involving multiple parties and multiple scopes of works for either full project or for parts of a single project. Thus, determining the nature of these contractswould be difficult, and critical from the perspective of the place of supply, the taxable value, the applicable rate of tax and the compliances to be undertaken.

Under the erstwhile regime, majority of construction contracts were in the nature of work contracts and were subjected to a combination of service tax and VAT. A service tax of around 4.5 per cent (assuming taxable component of the service contract is 30%)was applicable to construction contracts. However, there were several construction activities, such as construction of roads, dams, irrigation, that were exempted from service tax. Furthermore, the VAT applicable to the supply of goods portion of the construction contracts, varied from State to State and ranged from 1-15 per cent.Thus, the effective tax incidence for an average construction contract, under the previous regime, ranged from 11 to 18 per cent. With the rollout of GST, a higher rate of 18 per cent will be applicable to works contract. The constructive activities, which were previously exempted from service tax, may be negatively impacted with such a high GST rate of 18 per cent.


While prima-facie, the GST rate for construction contracts is higher than the previous tax rate, the benefit of input tax paid and ITC on the raw-materials could set off the higher GST rate. However, GST rates could also result in higher costs, if there is limited scope for renegotiating construction contracts and contracts do not account for contingency factors. Cost of construction services will also be impacted due to credit restrictions provided under Section 17 (5) of the GST Act. According to the aforesaid section, “input tax credit shall not be available for works contract services, when supplied for construction of an immovable property, except where it is an input service for further supply of works contract service2".

Thus, we can see that this provision is confusing and contradictory. For example, a contractor will not get ITC if he constructs a building, but can avail the benefit of ITC on construction services availed from the sub-contractor. Furthermore, the aforesaid section also provides that ITC shall not be available on goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery)3. Thus, ITC would be available to a builder on goods or services received by him while constructing plant and machinery, but not so when constructing any other immovable property. We can see that implementation of the above-mentioned credit restrictions can have an adverse impact upon the infrastructure sector

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