Challenge Us

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8th Interactive workshop on

SUCCESSFUL EPC CONTRACTING IN INDIA

SIMULATED CASE STUDY

December 2, 2010 | Hotel ITC Grand | Mumbai

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DISCLAIMER
This presentation provides general information existing as at the time of preparation. The presentation is meant for general guidance and no responsibility for loss arising to any person acting or refraining from acting as a result of any material contained in this publication will be accepted by BMR Advisors. It is recommended that professional advice be taken based on the specific facts and circumstances. This presentation does not substitute the need to refer to the original pronouncements

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DIAGRAMMATIC REPRESENTATION
Airport
2km

Road entry
Port Metro station
2km 1km 19km 22km 2km

SEZ
2km

Mumbai city

Navi Mumbai
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Metro & Road Lines Landmass Over Sea Power plant

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TENDER DETAILS/ RELEVANT FACTS

Design, engineering, procurement of equipment and materials, construction, erection, installation and commissioning of road and metro via sea link from Sewri (Mumbai) to Navi Mumbai (Panvel) with triple exits at Navi Mumbai to the Airport, Navi Mumbai SEZ and Nhava Sheva port Bids inviting to executing above on a cash contract (CC) basis The Bidder shall quote a lump-sum, fixed, turnkey price for the EPC Contract, individually a member of the consortium The sum quoted by the Bidder shall be inclusive of all duties, taxes, fees, octroi and other levies, materials, labour etc

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TENDER DETAILS/ RELEVANT FACTS

The Bidder shall take into account all tax, fiscal benefits and other concessions that may be available to it and indicate material assumptions in this regard Stock yard in Mumbai-Sewri and Navi Mumbai- Panvel shall be made available free of cost to the Contractor for stocking and related processing purposes The ownership of the plant and equipment (including spare parts and tools & tackles) procured shall be transferred to the Authority on delivery or post commissioning of the Project for bids, as may be agreed mutually Change in law/ taxes to exclude any change in rate of taxes per se

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GROUP I OF CO
FOREIGN BIDDER

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GROUP I FACTUAL BACKGROUND

OF Co is a foreign contractor and tax resident of Germany

OF Co responsible for supply of signaling and ticketing equipment for the metro project

Importation of goods likely to be from group entities in Germany Scope of work inter-alia involves installation and commissioning of such equipment

As part of the consortium OF Co propose to bid for the project but concerned about PE constitution OF Co is considering setting up a subsidiary in India (OF Co India) for the purpose of executing the onshore work for the Project, thus under consideration

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GROUP I FACTUAL BACKGROUND

The equipment required to execute this Project has to be imported from OF Co or its group companies around the world; you have the option to route such supply of equipment for the Project through OF Co India as well

Software is a crucial component of the installation and commissioning process for the equipment; the customized software is developed by OF Co and can be supplied through variable means (including a direct download). Ownership of the software would vest in MMRDA at inception
The testing, installation and commissioning of the signaling and ticketing equipment would be done by OF Co India; OF Co India could work in the role of the sub-contractor or the main contractor/ consortium partner Payments will be separately made by MMRDA to OF Co/ OF Co India for completion of work as per the specified schedule
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GROUP I - DELIVERABLES
Part 1 What are your income tax implications from a PE perspective, depending on whether the OF Co or OF Co India is the consortium partner How can you minimize the PE exposure, if any What are the indirect tax implications between OF Co/ OF Co India and MMRDA on the above transaction Would OF Co be liable to pay service tax?

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GROUP I - DELIVERABLES
Part 2 Analyze and identify risk factors and suggest amendments on the following aspects of the tender :

Liquidated Damages Transfer of property,

Arbitration,
Assignment, Joint and several liability,

Change in law, including introduction of GST during the project execution

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RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the OF Co or OF Co India is the consortium partner The income on offshore supply shall not be liable to tax in India, subject to the satisfaction of the following two conditions:

If the ownership of the equipments is transferred outside India/ high seas; and The payment is made to OF Co outside India in foreign currency

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This view has been supported by various judicial precedents (IHI ltds case, Hyundai Heavy Industrys case and Roxons case)..

RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the OF Co or OF Co India is the consortium partner Supply of software

The issue relating to characterisation of software income is far from settled. There are various judgements at ITAT level which support the view that the transfer of software is like a transfer of goods, however, in a recent ruling of Delhi tribunal in case of Microsoft Corporation it was held that the use of software shall be classified as royalty Two recent Mumbai Bench of ITAT have rendered favourable rulings on taxability of supply of off-the-shelf software Reliance Comm case; and Tata Communication Ltd
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RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the OF Co or OF Co India is the consortium partner Supply of software (contd)

In the present case, the software is a highly customised software; also, the copyright in the software shall be owned by Project Owner and not the supplier Given the fact pattern, consideration for customised software is likely to be characterised as fee for technical service or royalty

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RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the OF Co or OF Co India is the consortium partner Installation and commissioning services

If carried out by the Indian subsidiary as:

the principle contractor for this scope no income tax implication for German contractor this would require an assignment of the onshore installation part the sub-contractor of principle contractor for this scope need to examine whether time spent by Indian Sub can ne attributed to the German company and hence constitute a PE

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RESPONSES Part 1
How can you minimize the PE exposure, if any In order to minimise any risk of income attribution, separate contracts should be entered for offshore supply of equipments (ie the work to be performed by OF Co) and the onshore installation and commissioning (ie the work to be performed by OF Co India).

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RESPONSES Part 1
What are the indirect tax implications between OF Co/ OF Co India and MMRDA on the above transaction ?

Import and sale of equipment

Importation of equipment liable to customs duty; concessional duty under the Project Import Scheme could be available (ie BCD @ 5%) Valuation from a customs perspective could be a larger concern if OF Co/ OF Co India imports equipment into India; given this, a direct supply of equipment to MMRDA can be considered (which would limit VAT outgo as well), preferably on a DDU (INCOTERMS) basis Sale of equipment by OF Co India liable to applicable VAT/CST unless SICOI benefits are structured Key ingredients of SICOI
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Contract with the Authority should recognize that the equipment shall be imported

If possible, the details of offshore vendor should also be be mentioned in the contract, etc
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RESPONSES Part 1
What are the indirect tax implications between OF Co/ OF Co India and MMRDA on the above transaction ?

Import and supply of software

Electronic import of (operational) software shall not trigger customs duty implications; however, service tax would be payable on development and implementation of the (operational) software; while VAT should not apply as a work for hire Physical import of (operational) software may trigger customs duty implications as it is not a shrink-wrap software meant for re-sale; service tax and VAT implications would be same as above

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RESPONSES Part 1
What are the indirect tax implications between OF Co/ OF Co India and MMRDA on the above transaction? Comment on OF Cos liability to pay service tax Installation and commissioning services

Activity is liable to service tax If OF Co contractually renders these services, its operations should constitute a business establishment from which services are rendered. In such case, OF Co will be liable to pay tax In case OF Co India acts as a sub-contractor to OF Co (non-resident entity), service tax would be payable as OF Co Indias service will not qualify as an export. However, since OF Co will operate in India, credit should be available based on judicial rulings
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RESPONSES Part 2
Suggestions for tax efficiencies Supply of equipment directly from OF Co in Germany Installation and commissioning services should be undertaken by OF Co India; OF Co should (if required) provide support to OF Co India Segregation of scope of work between OF Co and OF Co India should be reviewed

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GROUP II
PP CO
INDIAN BIDDER

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GROUP II - FACTUAL BACKGROUND

PP Co is a domestic contractor to sets up coal based power plants, proposes to bid for setting up a power plant in the designated area in the Nhava Sheva port

It would procure all the equipment from third parties and undertake the civil construction and installation and commissioning of the power project on it own
The minimum capacity of power plant would be 850 MW (with reasonably committed off-take(s) of 150 MW for the Project, 150 MW by the proposed Navi Mumbai international airport and 550 MW by the Navi Mumbai SEZ)
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Coal supply up to 1200 MW is being committed by the State agencies

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GROUP II DELIVERABLES
Part 1 Based on the committed offtake for the bids and the Project bidding process, do you think it you would be more efficient to set up a Mega Power Project (MPP) ie over 1000 MW and what would be the decision making parameters for the same Would this power plant qualify for an MPP status Assuming that the power plant qualifies for an MPP status, what tax benefits would be available Assuming that the power plant does not qualify for an MPP status, what tax benefits would be available
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Does supply of power to the Navi Mumbai SEZ provide any additional benefits

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GROUP II DELIVERABLES
Part 2 Analyze and identify risk factors and suggest amendments on the following aspects of the tender :

Liquidated Damages,
Transfer of property, Arbitration,

Assignment,
Joint and several liability, Change in law, including introduction of GST during the project execution
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GROUP II DELIVERABLES
Part 2 (Cont) Do you forsee any risk of the consortium being taxed as an Association of Persons

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RESPONSES Part 1
Do you think it would be more efficient to set up a MPP ie over 1000 MW and what would be the decision making parameters for the same Setting up of an MPP as compared to setting up on a nonMPP is beneficial as larger tax benefits available in the former case Decision to be impacted by the following considerations

Constraints in obtaining the MPP status per se

Availability of fuel Ability to sell surplus power

Would this power plant qualify for an MPP status

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MPP status may not be a possibile of the capacity of proposed power project is 1000 MW or more

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RESPONSES Part 1
Assuming that the power plant qualifies for an MPP status, what tax benefits would be available
Benefit
Project Import linked customs duty exemption* Excise Duty Exemption Advance Authorization* Deemed Export Drawback Terminal Excise Duty Refund * In-principle availability indicated, may not be available for certain supplies

Availability

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RESPONSES Part 1
Assuming that the power plant does not qualify for an MPP status, what tax benefits would be available
Benefit
Project Import linked customs duty exemption* Excise Duty Exemption Advance Authorization* #

Availability

Deemed Export Drawback #

Terminal Excise Duty Refund #

* In-principle availability indicated, may not be available for certain supplies # ICB pre-condition for advancement of benefit
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RESPONSES Part 1
Income Tax benefits to power producers Under the provisions of the Income tax Act, 1961, an undertaking engaged in the generation of power is eligible for a tax holiday for 10 consecutive years in a block of 15 years beginning from the year in which the business commences operations; however there are certain issues with respect to tax holidays like difficulty to determine the revenue from generation of electricity used for captive consumption.

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RESPONSES Part 1
Does supply of power to the Navi Mumbai SEZ provide any additional benefits Export benefits against supply of power to SEZs (here approx 65% of the committed off-take) could be examined This issue is debatable Likley duty benefits could be

For capex phase under the EPCG scheme

For opex phase for procument of fuel, etc

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RESPONSES Part 1
Suggestions for tax efficiencies Substantial benefits (for non-MPP project) should be examined for supply to SEZ; though in the opex phase

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GROUP III ML CO
INDIAN BIDDER

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GROUP III FACTUAL BACKGROUND

ML Co is an Indian contractor, which will undertake

The supply and laying of the tracks for the metro The supply of the coaches

Procurement/ Sourcing

The metro coaches would be imported The metro tracks would be locally procured from own unit in India; other material would also be locally procured from third parties in India

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GROUP III DELIVERABLES

Part 1 Would ML Co be eligible for any deemed export benefits on manufacture and supply of metro tracks. If so, what are the benefits and how would they be achieved? Would this change if the project was funded by specified multilateral agencies? Would ML Cos domestic supplier be eligible for any deemed export benefits on manufacture and supply of other equipment for laying tracks. If so, what are the benefits and how would they be achieved? Would this change if the project was funded by specified multilateral agencies?
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Can any tax efficiencies be achieved on the import of the metro coaches

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GROUP III DELIVERABLES

Part 1 (Cont) Can metro rails be treated as railways for claiming an exemption from service tax as a works contract Can metro rails be treated as railways for claiming an exemption from octroi under the Railways Act, 1989

Can any benefits be claimed for an intra-SEZ component of the metro. If so, how such benefits can be claimed

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GROUP III DELIVERABLES

Part 2 Analyze and identify risk factors and suggest amendments on the following aspects of the tender :

Liquidated Damages,
Transfer of property, Arbitration,

Assignment,
Joint and several liability, Change in law, including introduction of GST during the project execution
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Do you foresee any risk of the consortium being taxed as an Association of Persons
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RESPONSES Part 1
Would you be eligible for any deemed export benefits on manufacture and supply of metro tracks. If so, what are the benefits and how would they be achieved Deemed export benefits under the Foreign Trade Policy would not automatically be available to a metro project; however, if the project was being funded by specified multilateral agencies, deemed export benefits would flow Would your domestic supplier be eligible for any deemed export benefits on manufacture and supply of other equipment for laying tracks. If so, what are the benefits and how would they be achieved Same as above; further, if the project is eligible, then ML Cos supplier would also be eligible for deemed export benefits provided due certification is issued in their favour
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RESPONSES Part 1
Can any tax efficiencies be achieved on the import of the metro coaches No automatic customs duty exemption could be available (Delhi metro corridor being the only eligible metro project in this regard) Though decisions are available that wagons used for transporting fuel for power plant would not qualify for project import status as well, a distinction between power plant and metro systems could be argued to obtain a project import status
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RESPONSES Part 1
Can metro rails be treated as railways for claiming an exemption from service tax as a works contract

Meaning of Railway

Railway is not defined under service tax Railway has been defined under the Railways Act, 1989 in an inclusive manner to mean a railway, or any portion of a railway, for the public carriage of passengers or goods As per Oxford English Dictionary, it means a track or set of tracks made of steel rails along which trains run; such a system worked by a single company

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Thus Metro corridor may qualify as Railways exclusion from levy of service tax under Works Contract Tax category may be available

RESPONSES Part 1
Can metro rails be treated as railways for claiming an exemption from octroi/ cess under the Railways Act, 1989

As seen previously, metro rails could qualify as railways under the Railways Act, 1989 and inter-alia be eligible for exemption from octroi to the extent of project in Mumbai and cess in Navi Mumbai region this issue could however be contested

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RESPONSES Part 1
Can any benefits be claimed for an intra-SEZ component of the metro? If so, how such benefits can be claimed

SEZ specific benefits may be denied for the intra-SEZ section of the metro corridor if the same constitutes a public thoroughfare and is not in connection with the authorized operations
Creation of a metro entry/ exit points could be covered under the authorized operations of the SEZ developer; though substantial documentation challenges are likely to be faced to get exemption on the SEZ based component of the metro
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The above response would change in case the metro corridor does not form a part of authorized operations of the SEZ developer

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RESPONSES Part 1
Suggestions for tax efficiencies Project import based status should be considered Deemed export benefits could be claimed if the bid is funded by multilateral agencies Treatment as railways would save octroi in Mumbai and cess in Navi Mumbai region

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GROUP IV AA CO
FOREIGN BIDDER

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GROUP IV FACTUAL BACKGROUND

AA Co is tax resident in the UK and would supply imported traffic control and tolling equipment for the road component of the project that would be imported from the UK

AA Co would also install and commission such equipment.

AA Co has an existing subsidiary in India (AA Co India), which was set up for the purpose of executing onshore work for other past projects and on account of perceived fiscal efficiencies Constitution of PE in India is primary concern of AA Co The equipment required to execute this Project has to be imported from AA Co or its group companies around the world; you have the option to route such supply of equipment for the Project through AA Co India as well

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GROUP IV FACTUAL BACKGROUND

Software is a crucial component of the installation and commissioning process for the equipment; the customized software is developed by AA Co and can be supplied through variable means (including a direct download). Ownership of the software would vest in MMRDA The testing, installation and commissioning of the traffic control and management, and tolling equipment would be done by AA Co India; AA Co India could work in the role of the subcontractor or the main contractor/ consortium partner AA Co/ AA Co India would not be responsible for setting up the civil works for the toll plazas
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Payments will be separately made by MMRDA to AA Co/ AA Co India for completion of work as per the specified schedule
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GROUP IV - DELIVERABLES
Part 1 What are your income tax implications from a PE perspective, depending on whether the AA Co or AA Co India is the consortium partner How can you minimize the PE exposure, if any What are the indirect tax implications between AA Co/ AA Co India and MMRDA on the above transaction

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GROUP IV - DELIVERABLES
Part 2 Analyze and suggest appropriate deviations in the following clauses:

Liquidated Damages,
Transfer of property, Arbitration,

Assignment,
Joint and several liability, Governing law and choice of forum
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Change in law, including introduction of GST during the project execution

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RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the AA Co or AA Co India is the consortium partner The income on offshore supply shall not be liable to tax in India, subject to the satisfaction of the following two conditions:

If the ownership of the equipments is transferred outside India/ high seas; and The payment is made to AA Co outside India in foreign currency

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This view has been supported by various judicial precedents (IHI ltds case, Hyundai Heavy Industrys case and Roxons case)..

RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the AA Co or AA Co India is the consortium partner Supply of software

The issue relating to characterisation of software income is far from settled. There are various judgements at ITAT level which support the view that the transfer of software is like a transfer of goods, however, in a recent ruling of Delhi tribunal in case of Microsoft Corporation it was held that the use of software shall be classified as royalty Two recent Mumbai Bench of ITAT have rendered favourable rulings on taxability of supply of off-the-shelf software Reliance Comm case; and Tata Communication Ltd
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RESPONSES Part 1
What are your income tax implications from a PE perspective, depending on whether the AA Co or AA Co India is the consortium partner Supply of software (contd)

In the present case, the software is a highly customised software; also, the copyright in the software shall be owned by Project Owner and not the supplier Given the fact pattern, consideration for customised software is likely to be characterised as fee for included service or royalty

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RESPONSES Part 1
How can you minimize the PE exposure, if any In order to minimise any risk of income attribution, separate contracts should be entered for offshore supply of equipments (ie the work to be performed by AA Co) and the onshore installation and commissioning (ie the work to be performed by AA Co India).

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RESPONSES Part 1
What are the indirect tax implications between AA Co/ AA Co India and MMRDA on the above transaction ?

Import and sale of equipment

Importation of equipment liable to customs duty; concessional duty under the Project Import Scheme could be available Valuation from a customs perspective could be a larger concern if AA Co/ AA Co India imports equipment into India; given this, a direct supply of equipment to MMRDA can be considered (which would limit VAT outgo as well), preferably on a DDU (INCOTERMS) basis Sale liable to applicable VAT/CST unless SICOI benefits are structured Key ingredients of SICOI seen earlier
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RESPONSES Part 1
What are the indirect tax implications between AA Co/ AA Co India and MMRDA on the above transaction ?

Import and supply of software

Electronic import of (operational) software shall not trigger customs duty implications; however, service tax would be payable on development and implementation of (operational) software; though VAT should not apply since a work for hire Physical import of (operational) software may trigger customs duty implications as it is not a shrink-wrap software meant for re-sale; service tax and VAT implications would also be same as above

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RESPONSES Part 1
What are the indirect tax implications between AA Co/ AA Co India and MMRDA on the above transaction ?

Installation and commissioning services

Activity is liable to service tax If AA Co contractually renders these services, its operations should constitute a business establishment from which services are rendered . In such case, AA Co will be liable to pay tax In case AA Co India acts as a sub-contractor to AA Co (non-resident entity), service tax would be payable as AA Co Indias service will not qualify as an export. However, since AA Co will operate in India, credit should be available based on judicial rulings
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RESPONSES Part 2
Suggestions for tax efficiencies Supply of equipment directly from AA Co in UK Installation and commissioning services should be undertaken by AA Co India; AA Co should (if required) provide support to AA Co India Segregation of scope of work between AA Co and AA Co India should be reviewed

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GROUP V TT CO
INDIAN BIDDER

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GROUP V FACTUAL BACKGROUND

TT Co is the domestic contractor engaged in construction activities TT Co is interested in constructing the main bridge and road, metro station and malls thereupon (but excluding laying of the metro lines) with technical support, prior experience and expertise on sea bed constructions from CC Co Steel and cement for the construction of the Project would be sourced from TT Cos own manufacturing units within and outside Maharashtra. In case of shortages, it would procure steel and cement from third parties within and outside Maharashtra, All other materials would be procured from third parties
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GROUP V FACTUAL BACKGROUND

TT Co would also undertake the civil works for the metro stations and commercially exploitable areas of such shopping centers as a part of its obligations

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GROUP V - DELIVERABLES
Part 1 What would be the applicability of VAT on the construction project. Which scheme for paying works contracts would be most streamlined, depending on the assumptions that materials (cement & steel & other materials) would be 60% of the TT Cos project costs Based on the above assumption, is it optimal to procure the steel and cement from within or outside Maharashtra (whether manufactured by TT Co or third party) What other indirect tax related benefits can be claimed on the supply of steel and cement
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GROUP V - DELIVERABLES
Part 1 (Contd) Would your conclusion change (on the assumption that you can obtain a pre-fabrication technology and the steel and cement are being imported? Would the component of metro station exploited commercially (shopping centre etc) be entitled for service tax exemption?

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GROUP V - DELIVERABLES
Part 2 Analyze and identify risk factors and suggest amendments on the following aspects of the tender :

Liquidated Damages,
Transfer of property, Arbitration,

Assignment,
Joint and several liability, Governing law and choice of forum
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Change in law, including introduction of GST during the project execution

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RESPONSES Part 1
What would the applicability of VAT on the construction project? The construction project would be liable to VAT as a works contract Following option of discharging VAT liability may be available to TT Co

Payment of tax at merits rates on value of supplies

Composition of taxes at 5% of the contract value Payment of tax at merit rates on supplies portion arrived at by applying an ad-hoc deduction of 30 percent
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RESPONSES Part 1
Alternative schemes for VAT payment streamlined option?
Financial assumptions

Total contract price INR 100 mn (with 10% on revenue as profit margin)

Cost of purchase of cement (taxable @ 5%) INR 18 mn

Cost of purchase of steel (taxable @ 4%) INR 18 mn Cost of other purchases (taxable @ 12.5%) INR 18 mn
VAT under composition scheme will be INR 5 mn (100 X 5%) VAT under ad-hoc deduction scheme will be INR 4.73 mn (20 X 5% + 20 X 4% + 20 X 12.5%) All VAT purchases shall be creditable All (2%) CST purchases
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VAT @ merits rates will be INR 4.3 mn (20 X 5% + 20 X 4% + 20 X 12.5%) All VAT purchases shall be Creditable All (2%) CST purchases

All VAT purchases shall be creditable

for tax paid in excess of 4% All (2%) CST purchases shall be non creditable

shall be non creditable

shall be non creditable

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RESPONSES Part 1
Based on the above assumption, is it optimal to procure the steel and cement from within or outside Maharashtra (whether manufactured by TT Co or third party)

Ideal sourcing pattern has been indicated below

Scheme for payment of output VAT Merit Rates Composition Ad-hoc deduction Preferable sourcing pattern for materials Intra-state Inter-state Intra-state
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RESPONSES Part 1
What indirect tax related benefits can be claimed on the supply of steel and cement (manufactured by TT Co or sourced from third parties) Our analysis indicated that steel and cement for infrastructure project (such as bridges, railways, etc) should not be entitled to any additional benefit such as deemed export as the supplies would not constitute use in manufacture The above should not alter irrespective whether the materials are supplied by TT Co upon manufacture or sourced from third parties

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However, for pre-fabricated project structures (for bridges, etc) there is a possibility the eligibility for deemed export benefits could be examined if substantial part of steel and cement is being imported to create pre-fabricated structures to economize on customs duties

RESPONSES Part 1
Would the component of metro station exploited commercially (shopping centre etc) be entitled for service tax exemption? Qualification of such scope of work for exclusion from applicability of service tax could be argued dependent upon project specification and underlying documentation

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RESPONSES Part 2
Suggestions for tax efficiencies Sourcing pattern to be reviewed to determine the most efficient option of paying VAT on works contract

If imported materials are being used for creating prefabricated structures, obtaining deemed export benefits to limit basic customs duty costs is a possibility

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GROUP VI CC CO
FOREIGN BIDDER

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GROUP VI FACTUAL BACKGROUND

CC Co is a foreign contractor and Korean tax resident CC Co will be responsible for undertaking the pre-construction studies

CC Co is also responsible for providing the technical support to TT Co for construction of the main bridge and the road thereon

For this purpose CC Co shall leverage upon its expertise and prior experience in similar projects

It will also import and operate the required specialist equipment for the project (for use in construction process) CC Co would not undertake to supply any materials to project
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GROUP VI FACTUAL BACKGROUND

CC Co would be supervising the initial location analysis for the Project as well as supervise, monitor and support the construction process throughout the execution of the Project through its own employees CC Co would operate its office premises in India made available by MMRDA to manage all services being rendered

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GROUP VI - DELIVERABLES
Part 1 What are the Permanent Establishment related risks arising from CC Cos operations? Can such risks be mitigated?

If the Permanent Establishment risk is imminent, what planning, implementation and compliance shall be required to optimise tax outcomes for the PE? What indirect taxes would apply to fees earned by CC Co What indirect taxes would apply to fees earned by CC Co?
Will CC Co be liable to pay service tax for its activities in India, or would the reverse charge mechanism apply?

Would specific payments made by MMRDA (as per agreed schedule) on specialist equipment hired by CC Co result in any VAT exposures as a lease (when CC Co is the lessor)? If so, how can such exposures be limited?
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GROUP VI - DELIVERABLES
Part 1 (Contd) Would customs duty apply to specialist equipment hired by CC Co. Are there any options to limit the customs duty impact

Part 2
Analyze and identify risk factors and suggest amendments on the following aspects of the tender :

Liquidated Damages,
Transfer of property, Arbitration, Assignment, Change in law, including introduction of GST during the project execution
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Joint and several liability,

GROUP VI - DELIVERABLES
Part 2 (Cont) Does there exist any risk/ exposure of the consortium being taxed as an Association of Persons

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RESPONSES Part 1
What are the Permanent Establishment related risks that you foresee from your operations. Can such risks be mitigated CC Co would be supervising, monitoring and supporting the construction process throughout the execution of the Project (ie through entire period of 48 months) The presence of CC Co employees in India to undertake the aforestated scope of work is likely to create a Supervisory PE for CC Co in India.

Therefore, in the instant case the income of CC Co shall be taxable in India on a net basis at 42.23 percent.
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According to Article 5 of the India-Korea Double taxation Avoidance Agreement, the term PE encompasses within its ambit a building site, a construction, assembly or installation project or supervisory activities where such site, project or activities continue for a period of more than nine months.

RESPONSES Part 1
If the Permanent Establishment risk is imminent, how can such risks be ring fenced CC Co should set up a local presence in India to optimise the PE tax implications. CC Co shall have the following macro-level options

Setting up a project office

Floating a wholly owned subsidiary for executing the local scope

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RESPONSES Part 1
What indirect taxes would apply to fees earned by CC Co The fee earned by CC Co for pre-construction studies as well as supervision service component shall be liable to service tax; however, for aiding the construction process through operation of specialized equipment, there is an argument that the same could qualify as commercial construction service (ie as a pure service) and therefore, eligible for exclusion from the service tax purview Import of specialist equipment would be exempt from customs duty (for equipment covered by serial # 230 read with list 18 of the Notification 21/2002); other equipment would attract duties
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Will CC Co be liable to pay service tax for its activities in India, or would the reverse charge mechanism apply

As indicated, MMRDA would provide CC Co office space at the project site from where CC Co would undertake its activities in India/ execute the scope of work in relation to the project

In attendant facts, CC Co shall establish its business in India and will also have a place of business (though not permanent); therefore, such arrangement should not fall within the scope of provisions contained at Section 66A of the Finance Act, 1994 read with relevant rules in this regard
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Applicable service tax on fee earned by CC Co shall therefore be payable by CC Co and the reverse charge mechanism would not apply
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Would specific payments made by MMRDA (as per schedule) on specialist equipment hired result in any VAT exposures as a lease. If so, how can such exposures be limited VAT implications should not be triggered on hire charges collected by CC Co since in attendant facts of the case CC Co retains the control and possession over the specialist equipment in favour of any other person/ party However, relevant contractual terms in this regard should be phrased carefully to clearly reflect that the intention of parties is not to transfer the right to use goods as has been interpreted by courts on several occassions

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RESPONSES Part 1
Would customs duty apply to specialist equipment hired by CC Co? Are there any options to limit the customs duty impact As discussed earlier, the specialist equipment would be subjected to customs duty upon importation in India unless covered by the exemption notification Following schemes could also be explored to limit the duty impact

Project Import scheme

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Duty Drawback scheme (assuming the specialist equipment would be re-exported, after use in India, within 18 months of importation thereof)

RESPONSES Part 1
Suggestions for tax efficiencies Contractual structuring to treat activity as construction services can be considered for service tax exemption

Delivery schedules of equipment should be monitored to appropriately avail drawback

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ANNEXURE RESPONSES TO PART 2

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RESPONSES Part 2
Contractual deviations Liquidated damages (Indian Member/Foreign Member)

Rs. 10,000,000,000 per day of delay unreasonable and not genuine preestimate of loss. Suggest reducing to 0.5% or 1.0% of Contract Price Performance liquidated damages not clear and unambiguous. Suggest that specific rates for performance liquidated damages should be included.

No cap on liquidated damages and this would amount to a penalty. Suggest cap on delay liquidated damages, cap on performance liquidated damages and overall cap on liquidated damages. Only when these caps are exhausted and not before, Owner may have a right to terminate Contract.
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Contractual deviations Transfer of Property: Indian Member

Suggest transfer of title and ownership to plant and equipment on later of: (i) delivery; and (ii) receipt of relevant milestone payment. Tender terms silent on relationship between: substantial completion; taking over; defects liability period and issuance of final completion certificate. Suggest transfer of risk of loss to Authority on earlier of: (i) actual taking over of plant and equipment; and (ii) issuance of taking over certificate.

Transfer of Property: Foreign Member

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Subject to tax considerations, suggest transfer of title and ownership to plant and equipment on later of: (i) delivery; and (ii) receipt of relevant milestone payment. Re risk transfer: same suggestion as above.

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Contractual deviations (Cont) Arbitration: Indian Member

Suggest institutional arbitration (LCIA/ICDR Rules)

Arbitration: Foreign Member

Suggest institutional arbitration (SIAC/HIAC Rules) Suggest seat of arbitration: Singapore/Hong Kong

Suggest law governing arbitration agreement: Singapore/Hong Kong law

Suggest exclusion of applicability of Part I of the Indian Arbitration & Conciliation Act, 1996. Only Section 9 (interim relief by Indian courts) should continue to apply
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Contractual deviations (Cont) Assignment (Indian Member/Foreign Member)

Suggest that assignment by Authority should be subject to prior written consent of Contractor. Contractor should be satisfied that Assignee has ability to meet payment obligations and meet Authoritys obligations under Contract, before grant of consent. Sole exception: assignment of Contract in favour of Authoritys lenders. Suggest that Contractor should be entitled to assign benefits of Contract to any third party, including its lenders. Suggest that Contractor should have the freedom to sub-contract its obligations under Contract to third parties, without consent of Authority. Exception may be made in relation to material sub-contracts having a value above a specified threshold, in relation to which Authority approval may be required.

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RESPONSES Part 2
Contractual deviations (Cont) Joint and Several Liability (Indian Member/Foreign Member)

Joint and several liability could result in each Members liability under the Contract exceeding its portion of the Contract Price. Further, joint and several liability could contribute to the constitution of an AOP. The first strategy could be to negotiate with the Authority to: (i) clearly define each Members scope of work; (ii) appoint Lead Member as project manager; (iii) undertake to cooperate and coordinate execution of works, without taking liability for any other Members scope of work; and (iv) limit each Members liability to its portion of Contract price. If Authority does not agree to suggestions above, all Members should enter into an inter se consortium agreement: (i) allocating responsibilities and liabilities incurred pursuant to the Contract; (ii) agreeing to a payment mechanism to ensure timely payments; and (iii) stipulating inter-se indemnities to cover risk of joint and several liability.

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RESPONSES Part 2
Contractual deviations (Cont) Governing Law and Choice of Forum: Indian Member

Indian law should be acceptable. Suggest that courts of Mumbai will have exclusive jurisdiction, as assets of Authority are in Bombay.

Governing Law and Choice of Forum: Foreign Member

Suggest changing governing law to law of neutral jurisdiction that provides certainty to interpretation of contracts, e.g., English law.
Suggest excluding the conflict of law rules, if English law is chosen. Suggest that courts of Mumbai will have exclusive jurisdiction, as assets of Authority are in Bombay.
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Suggest including clause to effect that principle of forum non conveniens will have no application to disputes arising under Contract.

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RESPONSES Part 2
Change in Law Risk factors/ Inherent complications

Change in taxes limited to introduction of new or deletion of existing taxes; impact of change in rates has been specifically excluded No obligation has been cast on the contractor to opt for tax saving or economizing opportunity resulting due to change in taxes (though relevant from MMRDAs perspective)

Focus on output taxes rather than the net transaction cost; reimbursement of outgo towards incremental taxes could be lowered due to input tax credits, which has not considered
No threshold prescribed No prescription on alternate dispute resolution mechanism No discussion on manner of settlement of impact of change in taxes, whether lump sum or otherwise
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RESPONSES Part 2
Change in Law
Suggested changes

Extending the scope of the clause on change in law to change in tax rates also No obligation has been cast on the contractor to opt for tax saving or economizing opportunity resulting due to change in taxes Prescribing methodology to compute financial impact of change in taxes and duties such that effective change in tax cost to be borne by the contractor could be arrived at Setting a mutually agreed threshold can offer a savings of time and effort by imputing the need to undertake financial analysis in case of minor changes in law A dispute resolution mechanism should be prescribed (through a forum of subject matter experts)
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RESPONSES Part 2
Change in Law
Suggested changes

The methodology for adjustment of financial impact should be prescribed; preferred manner could be

One time lump sum adjustment linked with the stage of project completion Adjustment to contract price for balance period as per project completion/ payment schedule

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RESPONSES Part 2
Risk of consortium being taxed as an AOP Yes, there is an exposure of the consortium being classified as AOP. There are certain clauses in the bid document which give rise to this risk:

Like joint and several responsibility for completion of the project; Common flow of revenue; Bidder shall indemnify the project owner for any losses, ie the bidder would have to indemnify the project owner even in case of any default from any of the consortium members

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In case, the consortium is taxed like an AOP; then the same shall be taxed like a separate legal entity. The AOP would be taxed at the maximum marginal rate (42.23 percent) on a net basis, due to presence of a foreign service provider. Further, it shall lead to the taxation of offshore supplies as well

Challenge Us

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