Liquidated damages in contracts will attract GST: AAR

Liquidated damages, the penalty imposed on contractor for delay in execution of projects, will attract GST, said the Authority for Advance Rulings (AAR).

The Mahashtra bench of AAR passed the order on an application filed by Mahashtra State Power Generation Company (Mahagenco).

The company, which is engaged in power generation, sought the opinion of the AAR on whether Liquidated damages (LD) would attract GST and, if so, at what rate.

"... GST would be applicable on the Liquidity Damages," AMRG & Associates Partner Rajat Mohan said, adding LD charges are a mandatory clause in high-value construction and maintenance contracts.

"By construing it as a service and subjecting it to a levy of GST at 18 per cent could have momentous impact on innumerable businesses. Due to this ruling, most of the contractees are looking at colossal tax demands since July 2017 and the credit of which may also be in jeopardy," Mohan said.

EY India Tax Partner Abhishek Jain said as per the AAR order, LD has been identified as an independent levy and not as a reduction of the contract price.

"While the ruling corroborates the view of revenue authorities (who have been contending a service tax levy on similar lines), it may entail opening of a series of litigation for industry players who have taken a no tax position on such recoveries," Jain said.

Mohan said charging 18 per cent tax on LD charges irrespective of the underlying contract would knockout suppliers/contractors who are exempt from tax, namely, government contractors, contractors under Pradhan Mantri Awas Yojana, government service providers in relation to agriculture, water management, fisheries, rural housing, roads, fire services, forestry and public amenities.