[Opinion] Striking Down of Circular on Taxability of Annuities – HAM Projects

CA Sri Harsha [2022] 140 taxmann.com 590 (Article)

In our earlier article, we have discussed the issue on taxability of annuities received in a Hybrid Annuity Model. This is the update to the earlier article after the recent judgment of Honourable Karnataka High Court in the matter of DPJ Bidar – Chincholi (Annuity) Road Project Private Limited has quashed the impugned circular which tried to levy the tax on annuity payments. In this article, we deal with the issue involved and the analyse the judgment of High Court.

Introduction:

The construction of road is quintessentially a primary infrastructure and boost to the national infrastructure. The construction of road and maintenance thereof, is one of the important factors to boost the national income and economic productivity. The taxation of construction of road under the service tax regime was completely exempted from tax. Though, there was a lot of confusion on the taxation of maintenance of roads under the service tax regime, the ambiguity was put into rest by creating a specific entry for exemption. This was a huge relief to the sector and the service providers, considering the huge stakes of demands.

After the introduction of goods and service tax (for brevity ‘GST’) in India, the construction of roads was brought under tax net attracting rate of tax of 12% with the benefit of input tax credit. The tax on construction of roads under GST regime is to essentially with a view to minimise the number of exemptions to the extent possible, thereby reducing the probability of purchases without taxes in the grey market. Further, the taxation of amounts collected from consumers for accessing the road, which is colloquially referred as toll, is exempted in the service tax and GST regime. Hence, in a normal scenario, where the contract for road is given to service provider with a right to collect toll and there are no other payments from the service receiver except in the form of toll to be paid by the consumers, the services provided by allowing the access to road by paying toll is exempted under the GST regime.

However, with the change in time, the nature of contracts change and as an obvious reason, the taxation would also undergo change. National Highway Authority of India (for brevity ‘NHAI’) is the nodal agency for overseeing the construction of highway roads and incidental activities thereof. One of the models in which the construction of highways/roads is called for tenders is Hybrid Annuity Model, colloquially known as ‘HAM Project’. Under HAM, the construction shall be partly financed by Concessionaire (service provider), who shall recover its investment and costs through payments to be made by NHAI, in accordance with the terms and conditions mentioned in the contract.

The standard contract contains numerous clauses. The ones which are important for the current article are discussed. The scope of the project is normally laid, wherein the Concessionaire is obliged for construction of project as specified in terms of the contract under respective schedules. The Concessionaire is also responsible for operation and maintenance of the project and required to perform and fulfil all other obligations in accordance with the contract.

A concession in form of an exclusive right, license and authority to construct, operate and maintain the project during the construction period of 730 days and operation period of 15 years commencing from commercial operation day is being granted to Concessionaire. A concession granted shall oblige or entitle the Concessionaire to, right of Way, access and license to the site for purposes of and to the extent conferred by provisions of the agreement, finance and construct the project, manage, operate and maintain the project, perform and fulfil all of the Concessionaire’s obligations.

NHAI grants the Concessionaire, commencing from the appointed date, leave and license rights in respect of all land comprising the site which is described, delineated and shown in the respective schedule to the agreement, on an ‘as is where is’ basis, free of any encumbrances, to develop, operate and maintain together with all and singular rights, liberties, privileges, easements and appurtenances whatsoever, for duration of concession period and, for the purposes permitted under the agreement, and for no other purpose whatsoever.

The project shall be deemed to be complete when the completion certificate or the provisional certificate, as the case may be, is issued under the provisions of agreement, and accordingly the commercial operation date (for brevity ‘COD’) of the Project shall be the date on which such completion certificate or provisional certificate is issued. The project shall enter into commercial service on completion date whereupon the Concessionaire shall be entitled to demand and collect Annuity Payments in accordance with provisions of agreement.

The project bid cost is agreed at a price selected in tender and it is agreed that the Bid Project Cost specified is for the payment to the Concessionaire shall be inclusive of cost of construction, interest during construction, working capital, physical contingencies and all other costs, expenses and charges for and in respect of construction of project, save and expect as otherwise provided in the agreement.

The agreement also states that 40% of Bid Project Cost, adjusted for Price Index Multiple, shall be due and payable to Concessionaire in 10 equal instalments of 4% each during construction period. The remaining Bid Project Cost, adjusted for Price Index Multiple, shall be due and payable in 30 bi-annual instalments commencing from 180th day of completion day in accordance with the provisions of the agreement. The Completion cost remaining to be paid, shall be due and payable in bi-annual instalments over a period of 15 years commencing from completion date referred as to ‘Annuity Payments’. The first instalment of Annuity Payments shall be due and payable within 15 days of 180th day of completion date and remaining instalments shall be due and payable within 15 days of completion of each of successive six months referred as ‘Annuity Payment Date’.

Each of the annuity payments due and payable during the years following the COD will be specified. The annuities are split into 30, as stated earlier and a percentage of balance cost is specified against each such annuity. The Concessionaire and NHAI agrees that all operation and maintenance expenses shall be borne by Concessionaire and in lieu thereof, a lump sum financial support in form of bi-annual payments shall be due and payable by NHAI.

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