c h a l l e n g e u s. power projects – uttar pradesh reduction in power generation cost by...

C h a l l e n g e U s

POWER PROJECTS – UTTAR PRADESH

REDUCTION IN POWER GENERATION COST BY CONTRACT STRUCTURING AND TAX OPTIMIZATION

December 23, 2011 | Radisson Hotel | Noida

Abhishek Jain | Director | BMR Advisors

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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

| 3Power Projects – Destination Uttar Pradesh

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Contents

INDIRECT TAX

TYPICAL INDUSTRY ISSUES

TAX OPTIMIZATION

DRAFTING POWER EPC

CONTRACTS – KEY CAUTION

POINTS

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INDIRECT TAX ON POWER PROJECTS

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INDIRECT TAX COST STACK UP FOR ENERGY PROJECTS (A HIGH LEVEL OVERVIEW)

Project Customs Excise VAT /CST /works contract tax

Service tax

Thermal

Nil for Ultra-Mega/Mega

projects

20.94 percent for others (under project

import)

NIL for Ultra-Mega/Mega

projects

10.3 percent for others

VAT - State specific exemptions

CST – 2 percent [C Form]

In-transit mechanism to further optimize taxes

10.3 percent

Wind9.36 percent for

WOEG and parts thereof

NIL 10.3 percent

Solar – PV

Nil for PV modules

9.36 percent for other equipments

NIL 10.3 percent

Solar -Thermal

9.36 percent NIL 10.3 percent

Biomass 9.36 percent NIL 10.3 percent


** Building Cess applicable @ 1 percent – a cess on all building and construction activities including in relation to generation, transmission and distribution of power. Several States levy entry tax as well on entry of goods – specific exemptions in Rajasthan and Bihar for renewable power projects (in general or specific to a type of renewable energy project)

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PROVISIONAL MEGA STATUS CERTIFICATE

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PROVISIONAL MEGA STATUS

Key conditions for provisional mega status:

The CEO of the Project Owner (ie power generation company) is required to furnish fixed deposit receipts (‘FDR’) for an amount equal to customs duty / excise duty saved to the jurisdictional DC / AC;

In case the developer does not produce the final MPP status certificate within a period of 36 months from the date of importation / date of clearance of excisable goods, then the security shall be apportioned towards the customs / excise duty saved

Lack of clarity in terms of many procedural aspects vis a vis provisional mega status


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PROVISIONAL MEGA STATUS (CONT)

Key points which require clarity: FDR – whether upfront on the entire estimated value of duty exemption

claimed or on the basis of actual clearance of goods from time to time?

In case the Project Owner is unable to obtain the final MPP status certificate from the Ministry of Power within 36 months:

• Whether Project Owner would be required to pay interest at 18 percent on the duty saved

Who would be entitled to the interest on the FDR (Government or the Project Owner)

Where the procurements are made by the Project Owner from OEM/s located in India having factories in several locations across the country, where will the Project Owner be required to furnish the FDR?

Excise range of the OEM; or

Excise range of Project Owner


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PROVISIONAL MEGA STATUS (CONT)

If FDR submitted at the Excise Range of Project Owner

What will be the manner in which the control would be ensured by the revenue authorities of OEMs to check that at any given point of time the value of customs / excise duty exemption does not exceed the value of FDR?

Will the period of 36 months be reckoned from the date of importation / clearance of excisable goods for each consignment separately or from the date of first importation / clearance of excisable goods?

Will the customs / excise exemption be restored to the Project Owner in case the MPP status certificate is received by them from the Ministry of Power post 36 months from the date of importation / clearance of excisable goods?


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DUTY BENEFITS FOR GOODS ALREADY RECEIVED PRIOR TO MEGA APPROVAL

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DUTY BENEFITS FOR GOODS RECEIVED PRIOR TO APPROVAL

Whether the Mega Power Project status will be reckoned from the date of in principle / provisional approval granted by Ministry of Power or from the date of filing of the application with the Ministry of Power for grant of Mega status?

Judicial precedents exist which lay down that grant of approvals, licenses, registrations takes effect from the date of application except

where there is a deeming fiction to the contrary in the governing laws/ regulations as may be relevant; or

there is an express stipulation of the date of effect on the approvals, licenses, registrations itself

Worth exploring – on a favorable conclusion duty benefits may be explored even for goods received prior to Mega status approval


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TAX OPTIMIZATION

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STRUCTURING EPC CONTRACTS

More often than not, the scope of work under an EPC contract is divided into separate contracts, with distinct scope of work and related considerations – power project EPCs also follow this tend

Typically an EPC contract is split into the following:

Contract Scope

Off-shore supply Offshore supply of imported equipment and materials for the plant

Off-shore service Offshore services encompasses basic and detailed engineering, project management etc.

Onshore supply Onshore supply of equipment and materials


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STRUCTURING EPC CONTRACTS

Contract Scope

Onshore service Local engineering, erection & commissioning, site supervision, customs clearance, inland transportation including loading/ unloading and transport from port to site

Onshore construction/civil works Site construction work and related activities

The above 5 packages together represent the consolidated work schedule under an EPC contract


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SPLITTING OF CONTRACTS – TYPICAL EFFICIENCIES

Splitting of contracts evolved to build the following efficiencies:

To eliminate the exposure of sale of plant and equipment (supplied from offshore) being subject to income tax in India

To restrict the impact of customs duty only to value of equipment and designs imported

To mitigate the contractors’ liability to VAT/WCT by segregating the onshore scope of work into various components

– Ensure that there is no exposure vis a vis benefit of ‘in-transit’ sale

To mitigate liability under service tax composition scheme

To mitigate liability of addition of the entire supply portion for the purposes of calculation of Building Cess


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SPLITTING – OWNER’S PERSPECTIVE

How to preserve the turnkey nature of the entire contract

Umbrella co-ordination agreement* or cross-default clauses?

SPLITTING OF CONTRACTS IS NOT A MUST……

Project owner ought to carry out detailed comparative analysis of the tax costs to decide between split contracts versus a single contract

In a purely domestic procurement scenario, a single lumpsum contract may occasionally be more tax efficient

* Please note that this co-ordination agreement is in addition to the operating contract documents


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STRUCTURING O&M CONTRACTS

Structuring Operations and Maintenance Contract

Composite O&M contract (for both goods and services) would qualify as a ‘works contract’ under VAT laws but not as a ‘works contract service’ under service tax laws thereby attracting a higher rate of 10.3% on the entire O&M value

If tax planning flexibility exists (like in a scenario where Project Owner and O & M Co. are group companies), separate contracts to be entered between Project Owner and O & M Co. for:

– Supply of goods

– Supply of services


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TRADING MODEL

The option of trading model may be explored by EPC Contractors wherein EPC Contractor will make inter-State sales to the Project Owner against Form C.

The inter-State sales effected by EPC Contractor would attract CST at concessional rate of 2 percent.

However, this would enable EPC Contractor to claim refund of ACD paid on imports under section 3 (5) of the Customs Tariff Act in terms of Notification No. 102/ 2007 - Cus, which in turn would help in reducing the overall cost of imported procurements by approximately 2.3% (ie, ACD - CST).

Effective only where imported goods are subject to levy of ACD


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OTHERS

Elimination of excess cost on account of CST by following ‘In-transit sales’

Use of ‘High Sea Sales Model’ where customs duty on import of goods is Nil

Where the charging section for levy of entry tax legislation uses the phrase "in the course of business" for levy of entry tax (for eg, entry tax legislations in the States of Madhya Pradesh and Chhatisgarh)

Basis the judgments in case of Maihar Cement v Asst Commissioner of Sales Tax [(1985) 60 STC 210 (MP)], etc an option of non-levy of entry tax may be explored by the Project Owner and EPC Co,

A position may be explored that where the goods are imported at the stage of construction, it cannot be said that the entry of the goods has been made 'in the course of business' and therefore entry tax cannot be imposed on such entry of goods.


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DRAFTING POWER EPC CONTRACTS – KEY CAUTION POINTS

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DRAFTING EPC CONTRACTS – KEY CAUTION POINTS

Transfer of title clause for ‘In-transit Sales’

Judgment of A & G Projects & Technologies Ltd v State of Karnataka [2008 VIL 40 SC]

Contract / Agreement for onshore supply should clearly provide that the title transfer is only when documents of title are endorsed during transit of goods

Clause specifying mechanism for import sales – whether ‘High Sea Sales’ or ACD refund mechanism?

The contract of sale entered into between Owner and EPC Contractor should clearly specify the intent to enter into a ‘High Sea Sale’ arrangement (and preferably agree on the format of the high-sea sale agreement to avoid future dispute)

Impact of ‘change in taxes’ – a common area of dispute Should it include sub-contractor level taxes as well?

Price schedule to specify quantum and rate of taxes factored for ease of calculation


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DRAFTING EPC CONTRACTS – KEY CAUTION POINTS (CONT)

GST

Definition of ‘tax laws’

Clauses consequent to Point of Taxation Rules, 2011 (“POTR”)

POTR mandatory wef July 1, 2011

To be ensured that contract / agreement falls under ‘Continuous Supply of Services’

To ensure that points of completion of services / milestone payments are clearly determined by the contract document

Obligation to cooperate vis a vis documentation requirements for customs/excise exemptions

Clear provisions for withholding taxes under works contracts/Income tax

Grossing-up provisions for Income Tax withholding?


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CONTACT US

Abhishek JainDirectorSpecialist – Indirect Tax Advisory, Litigation and ComplianceDID: +91 124 339 5082Cell: +91 98101 [email protected]

Director with BMR Advisors and based in New Delhi, India

Specialist in Customs, VAT and Service Tax and expert in

Infrastructure Industry ( Infrastructure, Financial Services, IT

Sector, etc)

Abhishek has a varied experience ranging from infrastructure

projects, financial services, IT giants, etc. He has been involved

in indirect tax advisory, structuring, litigation, compliance, etc

He is a assistant lead advisor to IDFC, GSPL and Sabarmati Gas

He is a regular speaker at various industry forums including the Power Associations and has published many articles to his credit

In the realm of EPC contracts, he has been the one of the key speaker for the Seminar organized by Infraline for the years 2006, 2007, 2008 , 2009, 2010 and 2011

A Lawyer by qualification


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