(Article by M C Maheshwari, FCA, FCS)

EPC CONTRACT FRAMING AND INDIRECT TAXES:

This article briefly examines various aspects of indirect taxes having implication in
framing the EPC or Execution contracts (EPC Contracts) of large projects. Several parties
are involved in EPC Contracts namely Owner or the Project Company, EPC Company
and Contractor which includes various sub-contractors. This may result in a sequence of
events or transactions and thus have a cascading implication of taxation. Therefore, while
framing the EPC Contracts, one has to be careful as the financial implication on account
of indirect taxes may be substantial and may even erode the profitability of the project
besides cash flow.
There are two relevant aspects of EPC Contracts framing; one, the Legal Framework and
other the Contract Structure and Pricing which are discussed below:

A: LEGAL FRAMEWORK: Before preparing or even before negotiating any

contract, tax implication thereon need to be examined keeping in view the various
provisions of the following statues and policies:
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
(viii)

(ix)
(x)
(xi)

CST under Central Sales Tax Act, 1956

Service Tax under Finance Act,
VAT under respective Goods Tax Act or VAT Act of the relevant State.
Entry Tax under the local State law
Works Contracts Tax or VAT on works contracts under Goods Tax Act or
VAT Act of the relevant State.
TDS provisions on works contracts under Goods Act or VAT Act of the
relevant State.
Industrial Policy of the relevant State.
Specific policy of the State Government related to concerned industry e.g.
Power Policy in case of power project or Infra Policy in case of Infrastructure
project. of the relevant State.
Industrial Policy of the Central Government.
Specific policy of the Central Government in respect of the relevant project
e.g. Power Policy, Mega Power Policy or SEZ policy etc.
Any other policy, law, notification or guidelines of the regulatory bodies or
other authorities like telecom or electricity regulatory commissions etc.

We may find various provisions relevant to indirect taxation in the aforesaid legal
framework which will have financial implication on the EPC or Execution contracts and
some times the provisions may not be clear or even may be contradictory to each other
thus legally all aspects must be considered carefully.
Important provisions are discussed in brief as under:
(I) CENTRAL SALES TAX ACT, 1956:

(a) Registration: The Project Owner and the EPC Contractor both have to be
registered dealer in the relevant State so that C forms and other certificates like
E-1 or E-2 forms can be obtained. CST @ 2% is levied on the registered dealer
against C form otherwise it is levied at a higher rate.
(b) Items to be included in registration: Items to be mentioned in the
registration certificate should be as per Section 8 (3) of the CST Act. For this
purpose, all materials required for setting up of the project should be listed
besides normal trade items and included in the registration certificate.
(c) Interstate sale by transfer of documents: As per Section 3(b) of CST Act, a
sale or purchase of goods shall be deemed to take place in the course of inter-state
trade or commerce if the sale or purchase is affected by a transfer of documents of
title to the goods during their movement from one state to another. Therefore, all
subsequent interstate sales to registered dealers by transfer of documents during
movement of goods are exempt from CST [E-I and E-II transactions]. Thus, in
case of chain of contractors also CST is charged only on the first instance and not
on the subsequent sales provided proper procedure under E-I and E-II is followed
and the items are such which are prescribed in the registration certificate as
specified in Section 8(3) of CST Act.
(d) Sale in course of import: As per Section 5(2) of CST Act, a sale or purchase
is deemed to be in the course of import of goods into the territory of India, only if
the sale or purchase either occasions such import or is effected by a transfer of
documents of title to goods before the goods have crossed the customs frontiers of
India. The endorsement regarding transfer of documents of title of goods can be
done before the goods have been cleared from the customs or on high seas. The
contractor therefore can transfer the documents in favour of the project company.
(II) SERVICE TAX UNDER FINANCE ACT:
(a) Liability of Service Tax: Service Tax is a major component and attracts tax
@10.3% (including education cess) on the services portion of the contracts.
As per rules, the service tax is exempt on various components while other
works are liable to service tax. All contracts will be treated as the works
contracts for the purposes of service tax levy whether it is EPC or separate
contracts and whether material and service portion is divisible or not.
(b) Options under Service Tax Rules: Briefly, two options are available for
discharging the service tax liability as under:
(i) Service Tax under Rule 2A of Service Tax (Determination of Value
Rules, 2006: Under this method, the service tax is payable on the services
portion of the works contract at the full rate of 10.3%.
(ii) Service Tax under Composition Scheme: Under this method, the Works

Contract (Composition Scheme for Payment of Service Tax) Rules have been
notified and according to the said rules, service tax at the flat rate of 4.12% on
the total value of contract including labour and material cost is payable.
The Company can opt for any of the above options after considering financial
benefits and carefully examining the CENVAT credits as may be available to it.
(III) VAT, ENTRY TAX AND WORKS CONTRACTS TAX UNDER STATE LAW:
(a) The Local Taxes involved in any State typically will be as under:
(i)
Tax payable on every sale of goods by the registered dealer
(ii)
Tax payable on every entry of goods for consumption, use or sale in local area
of the State other than a non taxable import.
(b) Local Tax will not be payable on sales when such sales take place:
(i) in the course of inter-state trade or commerce; or
(ii) outside the State; or
(iii) in the course of import of goods into or export of goods out of territory of
India.
(c) Goods used in the execution of a works contract are subject to local tax under the
relevant law of the State. The State Govt. specifies the rates of tax either separately or the
VAT rates are applicable on the goods used in the execution of EPC or works contract.
Taxable turnover of the works contract shall be the amount which represents charges
towards goods used in the said contract. If separate charges for goods are not
ascertainable from the terms of contract, the amount of such charges shall be arrived
at by deducting the labour portion as may be specified.
(IV) WORKS CONTRACTS TDS LIABILITY ON CONTRACTS:
(a) Every person responsible for making any payment of discharging any liability on
account of any amount purporting to be full or part consideration for the transfer of
property in goods (whether as goods or in some other form) involved in the execution of
a works contract shall have liability of deducting tax at source as per local laws of the
State.
(b) There may be provision in the local tax laws for deduction of tax at source at lower
rate, where on an application being made by any contractor, the prescribed authority if
satisfied that overall liability in any works contract may be lower, may issue such
certificate.
(V)OTHER POLICIES:
The fiscal benefits of taxes are available under several State or Central Government
policies etc. e.g. benefits of deemed exports in case of Mega Power Projects which are
available to the contractor and will be available through sub-contracts also.

B: CONTRACTS STRUCTURE:
3

I. FRAMING OF CONTRACT:
Based on the legal provisions of various indirect tax laws, it will be better that the
separate contracts for supplies and services be placed. The following are the typical
contracts which are normally finalized and have been found most beneficial:
(a) Supply portion- onshore
(b) Services portion- onshore
(c) Supply portion offshore
(d) Services portion offshore
For each of the main activity, separate contracts can be placed on different contractors
and in case of above well defined packages, single point responsibility will be taken by
the main contractor under a WRAP contract or an Umbrella agreement.
II. STRUCTURE OF PRICING IN CONTRACTS:
The price schedule of different supplies and services has to be carefully incorporated
in the contracts so that the tax liability is the minimum and double taxation is
avoided. The break up of price schedule for various works is to be separated for
materials and execution part.
III - IMPLICATION OF TAXES ON CONTRACTS:
The tax implication on the contracts therefore should be examined for following
taxes:
1. Central levies and Taxes:
(a) Custom duty
(b) Central Excise duty
(c) Service Tax
(d) Central Sales Tax (CST)
(e) R&D Cess
2. State levies and Taxes:
(a) Local Sales Sales Tax/ VAT or Goods Tax
(b) Entry Tax and/ or Octroi
(c) Works Contract Tax (VAT on value of goods used in works contract)
(d) Local Area Development Tax etc.
3. Service Tax.