Works contract valuation: VAT-paid goods portion excluded from service tax, leaving only the service element taxable.

In a works contract where the assessee bifurcated the transaction under the Karnataka VAT regime and paid VAT on the goods portion, only the service component was liable to service tax. The Tribunal applied the valuation formula under Rule 3(2)(m) of the Karnataka Value Added Tax Rules, 2005 and relied on the principle that VAT payment on transfer of property in goods treats that part as a sale, with Board clarification supporting exclusion of the goods portion from service tax. On that basis, the service tax demand and consequential penalty were held unsustainable and were set aside.

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Issues: Whether the demand of service tax and penalty on the works contract executed by the assessee for the relevant period was sustainable where VAT had been paid on the goods portion under the Karnataka VAT law and the service element had been computed separately.

Analysis: The dispute turned on valuation of the service portion in a works contract. The assessee had adopted the VAT law formula under Rule 3(2)(m) of the Karnataka Value Added Tax Rules, 2005 and had paid service tax only on the service component. The Tribunal noted that the issue was no longer res integra in the light of the principle that VAT paid on the transfer of property in goods indicates treatment of that part of the transaction as sale of goods, and that the Board's clarification also supported exclusion of the goods portion from service tax. On that basis, the Tribunal held that the demand could not be sustained.

Conclusion: The demand of service tax and the consequential penalty were held unsustainable and the appeal was allowed with consequential relief.

Final Conclusion: The assessee succeeded on the valuation dispute in respect of the works contract service and the impugned demand and penalties were set aside.

Ratio Decidendi: Where a works contract is bifurcated in accordance with the VAT regime and tax is paid on the goods portion as sale, service tax cannot be demanded on that portion, and the service element alone is liable to be taxed.

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