Works Contracts VS Contract of sales � Whether Tax Deduction is required u/s 194C.
Chapter XVII of Income tax Act 1961 ( The Act) provides for the collection and recovery of tax from the assessee. Deduction of Tax is one of the various modes of recovery as described in the chapter. Under this chapter various incomes have been prescribed from which the payer of such income needs to deduct Tax at source. Section 194C prescribes that certain payers as defined in the sections, are required to withhold tax from payment being made or credited to a contractor in pursuance of a contract for carrying out any work.
Since the very inception Section 194C has been prone to litigation. This has left the various assessee and the tax administrators stuck up in litigation at various stages. A hell lot of queries are raised by various tax payers and consultants seeking clarification on the subject. An attempt has been made to understand the complex issue in a simple way through this analysis.
The statutory Provisions
Section 194C was brought to the statute books by finance Act 1972 with effect from 01.04.1972. Since then the section has been amended from time to time and the latest amendment has been made in section 194C with effect from 01.06.2007 by way of substitution by Finance Act 2007. The newly substituted section 194C starts as following
�194C (1) Any person responsible for paying any sum to any resident (hereinafter in this section referred to as the contractor) for carrying out any work (including supply of labour for carrying out any work) in pursuance of a contract between the contractor and ����.�
The most controversial part of the section has been the meaning of the words �for Carrying out any work in pursuance of a contract between the contract and� used in the main body of the section. The work, carrying out any works, contractor and the contract have not been defined any where in the Act and are subject to different interpretation by various tax authorities and Courts.
The Statutory framework and clarification by CBDT
The Central Board of Direct Taxes (CBDT), from time to time, has issued various clarification and the circulars on the subject, which also have been subject matter of utter litigation and controversies. The first one was the circular no 86 dated 29.05.1972.In this circular the CBDT has given a distinction between a work contract and a contract for sale. Through this circular it was clarified that the contracts for construction and the contract and erection or installation of plant and machinery are in the nature of contracts for work and labour. Such contracts are �covered under the provisions of section 194C. Apart from this the contract for processing of goods sent for processing, will also fall within the purview of the new section.
The distinction of contract for sale and works contract was clearly spelt out in the circular in respect of contracts for fabrication of sea and river crafts. The circular clarified that where materials are supplied by one person and the fabrication work is done by a contractor the contract is a works contract. Where the contractor undertakes to supply any sea or river crafts fabricated according to the specifications given by other person and the property in such sea and river crafts passes to the person only after such crafts are delivered, the contract will be a contract for sale and, as such, outside the purview of the new provision.
This circular referred to the Apex Court decision in The circular clarified further that the �Contracts for rendering professional services by lawyers, physicians, surgeons, engineers, accountants, architects, consultants, etc. can also not be regarded as contract "for carrying out any work" and, accordingly, no deduction of income-tax will be made from payments relating to such contracts.
Circular 93 dated 26th September, 1972�further clarified that a transport contract cannot ordinarily be regarded as "contract for carrying out any work" and, as such, no deduction in respect of income-tax is required to be made from payments made under such a contract except in the case of a composite contract involving transport as well as loading and unloading, the entire contract will be regarded as "works contract" The Circular further provided that in contract Where,�the element of labour provided for loading and unloading is negligible, no income-tax will be deductible.
However with effect from 01.07.1995 a new explanation II has been inserted in the section 194C to include the�carriage of goods and passengers by any mode other then railways to include within the meaning of carrying of work.
Circular no 681 dated 08.03.1994 - With the issuance the of circular no 681 dated 08.03.1994 CBDT withdrew it�s own Circular no 86 dated 29.05.1972. dated and 93 dated 26.09.1972.�In this��circular 681 apart from contract�covered under works contract by circular no 86 dated 29.05.1972. by taking the interpretation of �any work� �provided by the Supreme Court in the case of Associated Cement Company Limited, the CBDT tried to apply the provisions of section 194C to all types of contracts for carrying out any work including transport contracts, service contracts, advertisement contracts, broadcasting contracts, telecasting contracts, labour contracts, materials contracts and works contracts. The services of lawyers, physicians, surgeons, engineers, accountants, architects, consultants were also brought under the preview of section 194C.
Apart from this the CBDT also included the �service contract� within the preview of section 194C based upon the Patna High Court interpretation of any work.. In a recent judgment the Bombay High Court In The case of: The East India Hotels Ltd. v. CBDT (Appeal No. : Writ Petition No. 2104 of 1994) has decided that the facilities/amenities�made available by a hotel to its customers do not constitute �work� within the meaning of section 194C. The services rendered by a hotel to its customers by making available certain facilities / amenities like providing multilingual staff, 24 hour service for reception, telephones, select restaurants, bank counter, beauty saloon, barber shop, car rental, shopping centre, laundry / valet, health club, business centre services, etc. do not involve carrying out any work which results into production of the desired object and, therefore, would be outside the purview of section 194C of the Act.
In this new circular it was clearly mentioned that the provisions of section 194C will not cover contracts for sale of goods including the fabrication contract intended as sales ( Emphasis Supplied)
Beside the above circulars on the subject, CBDT has issued various circulars for bringing the various contracts under the net of works contract so as to bring those contracts under the preview of section 194C.Circular : No. 433 and Circular : No. 487 [F.No. 275/34/86-IT(B)], dated 8-6-1987.� [F.No. 275/30/82-IT(B)], dated 25-9-1985 brought the� Payments to Road transports corporations by state roadways under the net of Section 194C Circular : No. 713, dated 2-8-1995 clarified that charting of aero plane for carriage of passengers or goods iscoverd under section 194C. Similarly Circular : No. 714, dated 3-8-1995 defined the . Scope and meaning of �advertising� for it�s coverage under the provisions of section 194C. clarified on Payments to munshis in Bidi industry, Circular : No. 558, dated 28-3-1990.
Circular no 715 dated 3-8-1995 - The issue of works contract and sale contract was one again a subject of the clarification by the CBDT in it�s Circular no 715 dated 3-8-1995. The circular no 715 clarified various type of contracts as works contract for the applicability of�section 194C. In this circular the contract for Payments to clearing and forwarding agents, Payments to couriers, �Payments to transporters, Supply of printed material � were included under the preview of section 194C.
The above circulars by the CBDT from time to time were either issued following the meaning of the phrase �carrying out of any work� by the judicial pronouncements or were subject to further elaboration of the phrase by the courts subsequent to their issuance. . Thus the work contract and the contract of sale continued to be a pet subject in the court rooms at various level.
The important Court Judgment � Ligation from the past.
The various courts have also interpreted the phrase � Carrying out any work and sale of contract. These case law have been very helpful in establishing the distinction between the contract of sale of works contract and thus helping in application of the provisions of section 194C. Few of such important decision are as following -
State of Punjab (State of Himachal Pradesh) v. Associated Hotels of India Ltd., [(1972) 29 STC 474 (SC)]. In this case the�Hon,ble�Supreme Court of India observed that where the principal objective of work undertaken by the payee of the price is not the transfer of a chattel, qua chattel, the contract is of work and labour. The court further clarified that the where the intention plainly is not to sell the article but to improve the chattel, and the consideration is not for the transfer of the chattel, but for the labour and work done and the materials furnished, the contract will be one of work and labour. This case was also refereed to by CBDT in circular no 86 dated 29.05.1972 while making a distinction between works contract and the contract for sale.
The land mark Judgment dated March 23, 1993, delivered by the Supreme Court of India in Civil Appeal No. 2860(NT) of 1979- The Associated Cement Co. Ltd vs CIT [ 1993 ] 201 ITR 435�provided an insight to the meaning of �work contract�. In this Judgment the Hon�ble Supreme Court has defined the contract for carrying of any work as following�-
"... there is nothing in the sub-section which could make us hold that the contract to carry out a work or the contract to supply labour to carry out a work should be confined to ' works contract '..".
�Any work ' means any work and not a ' work contract ', which has a special connotation in the tax law... ' Work ' envisaged in the sub-section, therefore, has a wide import and covers ' any work ' which one or the other of the organisations specified in the sub-section can get carried out through a contractor under a contract and further it includes obtaining by any of such organisations supply of labour under a contract with a contractor for carrying out its work which would have fallen outside the ' work ' but for its specific inclusion in the sub-section ".
This decision of Supreme Court was on a special leave petition filed by assessee against the judgment in Writ Petition No. 2909 of 1978 of the Patna High Court in the case of Associated Cement Co. Ltd. vs CIT [ Pat ] 120 ITR 444 [ 1979 ]. The Patna High Court had dismissed the writ petition of the Associated Cement company, observed that
" In a very broad sense, a work done by one person is service rendered to another and indeed one of the dictionary meanings of the word ' service ' is work ".
Taking the interpretation from the meaning of work as provided by the Supreme Court and Patna High Court decision, the CBDT was prompted to issue the circular no 681 dated 08.03.1994 �discussed above. This circular was subject to challenge by various assessee / forum of assessee and the was challenged successfully. Few of the cases where the courts have differed from the definition provided by the CBDT in circular no 681 (Supra) are as following �
Chamber of Income tax Consultants Vs CBDT 209 ITR 660 (Bom) nad AP Tax Bar Vs CBDT 2 TCR 888 (AP) � It was held that the circular is invalid and is based upon erroneous interpretation of the Supreme Court judgment.
SRF Finance Limited Vs CBDT 211 ITR 861, Madras Bar Association Vs CBDT 216 ITR 240 (AP) and All Gujarat Tax Consultant federation Vs CBDT 214 ITR 276 (Guj) it was held Doctors, Advocates, lawyers are paid for their service and not for carrying out any work.
The other important decision where the the circular no 681 was rendered invalid to the extant of applicable to the petitioners are Bombay Goods Transport Association & Others Vs CBDT 210 ITR 136 (Bombay), Calcuatta goods Transport Association Vs Union Of India 219 ITR 486, Advertising Agency Association of India Vs CBDT 210 ITR 152 ( Bombay).�A differing view was conferred by the Punjab and Haryana High Court in the case of Dashmesh Transport Compnay Vs CBDT which was finally disapproved the by hon,ble Supreme Court in the case of Birla Cement Works vs CBDT 248 ITR 216.
The Important Decision � Recent One
The following recent case laws have thrown the light on the issue o f works contract and the contract for sale.
Wadilal Dairy International Ltd. v. Assistant Commissioner of Income-tax �81 ITD 238 - In this case the Hon,ble Pune ITAT while deciding on the applicability of provisions of section 194C, dismissed the appeal of the department on the contract of supply of printed packing material. The issue for consideration of the hon,ble ITAT was whether a contract for supply of packing material is contract of sale or a works contract. The Hon,ble court respectfully observed as following �
�The expression 'contractor for carrying out any work' implies that the contractor should have carried out such activities. The term 'carried out' suggests an executory contract rather than a case of a mere supply or sale of goods. �
The ITAT further observed that �in regard to composite contracts. In such cases, the Hon'ble Supreme Court in the State of Himachal Pradesh v. Associated Hotels of India Ltd.  29 STC 474 (SC), says that one has to see the main object. If the main object is to transfer property in or delivery of the possession of, a chattel as a chattel, then it is a contract of sale.�
�Following the principal laid down by in the case of Hindustan Aeronautics Ltd. v. State of Karnataka  55 STC 314(SC) the Pune ITAT laid the following two principal to indentify the fine line of difference between a contract of sale or a contract of carrying out any work
��(i) Where the employer delivers to a workman either all or the principal materials of a chattel on which the workman agrees to do work, there is a bailment by the employer, and a contract for work and labour, or for work, labour and materials (as the case may be), by the workman. Materials added by the workman, on being affixed to or blended with the employer's materials, thereupon vest in the employer by accession, and not under any contract of sale.
(Ii) Where the workman supplies either all or the principal materials, the contract is a contract for sale of the completed chattel, and any materials supplied by the employer when added to the workman's materials vest in the workman by accession."
Following the decision of Pune ITAT, While deciding the matter of applicability of the section 194C on the contract of supply of printed packing material, Hon,ble ITAT�Delhi in the case of Dr. Willmar Schwabe India (P) Ltd. vs Income Tax Officer�70 TTJ 77 observed as following on the issue of contract of sale or works contracts�-�
��It is also observed that even though the said packing material was manufactured by the concerned suppliers as per the specifications given by the .assessee-company and even some printing was also done as per the assessee's requirement, the required raw material for the purpose of manufacturing the said packing material was purchased by the concerned suppliers on their own�� As submitted on behalf of the assessee-company before the authorities below as well as before us, the concerned manufacturers had even paid sales-tax as well as excise duty on the material supplied to the assessee-company, wherever applicable. Thus, the ownership in the said material was entirely with the concerned manufacturers till its supply to the assessee-company, and the contract between the assessee-company and these manufacturers was that for supply of material and not for carrying out any particular work as envisaged in s. 194C�
While deciding the above the Delhi ITAT distinguished the case of CIT Vs Kumundam Publication Pvt. Ltd. 81 ITD 238 where the assessee was supplying the raw material for printing also.
High Court of Delhi CIT vs Reebok India Co. 306 ITR 124�decided that no question of law has arisen where the assessee �purchased goods from certain manufacturer, which were manufactured as per its specifications. The payment made was for purchase of goods and not for any work contract. There was no liability for TDS under s.194C. Further the findng that it was a case of purchase of goods and not a work contract was a finding of fact.
High Court of Delhi in Commissioner of Income Tax vs. Dabur India Ltd 283 ITR 197 held that buying packing material was tantamount to purchasing goods for the purpose of packing and that just because some printing was required to be done by the supplier on such good was of no consequence. While dismissing the appeal filed by the revenue The Hon,ble High Court ruled that the dominant, object underlying the contract in the instant case was the supply of goods in the form of corrugated boxes..
The court distinguished the present case with the case of Anandam Viswanathan the work entrusted to the assessee was printing of question papers for universities. Answering the question in the negative, the Court held that printing of question papers at the behest of a university or educational institution is; a delicate and confidential type of work and the price paid for supplying such printed question papers or printed matter entails primarily the confidence and secondly the skill and to a very small extent the material. Hence, such work undertaken by the concerned agency could not be categorized as entailing sale of goods.�
Circular No 13/2006 dated 13.12.2006 � an attempt to settle the Controversy
After all the above long drawn controversy has finally issued the above mentioned circular to clarify once again the issue of works contact and the contract of sales. The board clarified that the exclusive reliance on Question/Answer No. 15 of Circular No. 715, without taking into account the principles laid down in Circular No. 681 is not justified. Before taking a decision on the applicability of TDS under section 194C on a contract, it would have to be examined whether the contract in question is a �contract for work� or a �contract for sale� and TDS shall be applicable only where it is a �contract for work�.
It is, therefore, clarified that the provisions of section 194C would apply in respect of a contract for supply of any article or thing as per prescribed specifications only if it is a contract for work and not a contract for sale as per the princi�ples in this regard laid down in para 7(vi) of Circular No. 681, dated 8-3-1994.
From the above definition of works contract and contract of sale by various court decision laws and the CBDT circular giving clarification it can be safely interpreted that that where the contract the contract is for transfer of the ownership of the goods, it is a contract of sales and if the contract is for adding some value to the principal item supplied by doing some workmanship or with application of some material the contract is a works contract. The CBDT has also tried to settle this issue by issuance of the circular no 13/2006. The circular admits that the provisions of section 194C should not be applied on the contract of sales and the circular no 681 (Supra) be referred to decide the applicability of the provisions,�however inadvertently this circular has also missed out to exactly define�the works contracts and the contract for sale, thus keeping the definition of the phrase open to interpretation and litigation.