Is Service Tax payable on retention money held by clients of EPC Contractors?
RECENTLY we received a mail from a multinational engineering consultant/EPC contractor on the extent of service tax liability on EPC contracts, the excerpts of which is as follows:
“In the contracts with our clients, generally there is a provision of 5% or 10% of total contract value as retention payable at the end of the project. Invoices (RB bills) are raised for the net amount (after deducting the proportionate retention) and service tax is levied on the net amount after deducting retention. Whether levying of service tax on the net amount (after deduction retention) is correct?”
This is an oft repeated question faced by service providers executing EPC contracts/turnkey projects. For the contractors executing mega turnkey projects / EPC contracts, the payments from the clients are linked to the phase wise completion of the projects and the payment terms and conditions usually speaks of a certain percentage of the value of contract being retained by the clients; which only becomes disbursable to the contractor after completion of the project subject to fulfilling such other relevant terms and conditions of the contract. The quantum of percentage of retention money usually serves as a disincentive to delay the execution of the projects and often serves as a penalty for not executing the projects on time.
The issue is whether service tax is payable on the entire value of the contract or the net value of the contract arrived after deducting the amount indicated as retention money in the contracts.
Section 67 of Finance Act, 1994 speaks of service tax being chargeable on the value of taxable service which is the gross amount charged by the service provider. However, Rule 6 of the Service Tax Rules, 1994 provides that the service provider shall be liable to pay service tax only on the amounts received from the clients.
Since retention money is not received till the end of the project, in terms of the existing provisions of Rule 6 of the Service Tax Rules, 1994, service tax may not be paid on such retention money till the same is released by the client and received by the contractor. Even at the end of the project, service tax is payable only on the amount actually received from the client, because in some cases some portion of the retention money may still be retained by the clients as a penalty for reasons like delay in execution of the project, quality etc.