In A.R. Com/06/2023 -AAR- Compensation for delay in completing the contract without supply not taxable under GST, rules AAR (Telangana)
Members S.V. Kasi Visweswara Rao & Sahil Inamdar [17-04-2023]

Read Order: In Re: M/s. TPSC (India) Private Limited

Chahat Varma

New Delhi, July 6, 2023: The Telangana Authority for Advance Rulings has ruled that the mutually agreed and settled amount, based on an arbitral award, which was in the nature of compensation for the delay in completing the contract and payable by M/s. TPSC (India) Private Limited (applicant) to M/s. Delta Global Allied Limited (DGAL), without involving any supply of goods or services, was not liable to be taxed under GST.

Briefly stated, the applicant, involved in thermal projects, received a contract for erection and pre-commissioning works from NTPC. A portion of the work was subcontracted to M/s. Delta Global Allied Limited (DGAL). Disputes arose, leading to arbitration and a compensation award of Rs. 42.45 Cr. However, an out-of-court settlement was reached during the appeal process, amounting to Rs. 38.56 Cr. The key question was whether this settlement amount should be considered a taxable supply under Entry 5(e) of Schedule-II to the Central Goods and Services Tax Act (CGST Act).

The bench of S.V. Kasi Visweswara Rao and Sahil Inamdar referred to the Circular No.178/10/2022-GST, dated 03.08.2022 and observed that a consideration by way of compensation for breach of contract was not an independent activity and it was just an event in the course of performance of the contract. It was further observed that liquidated damages cannot be said to be consideration received for tolerating the breach or non-performance of contract.

The bench observed that in the present case, the applicant failed to fulfill their promise of awarding the total work to the subcontractor as stipulated in the work order. This constituted a breach of contract by the applicant, and as a result, they paid liquidated damages through an out-of-court settlement. The bench highlighted that accepting the liquidated damages does not imply that the subcontractor permitted or tolerated the deviation or non-fulfillment of the promise made by the applicant. If the liquidated damages were solely intended to compensate for the injury or loss suffered by the aggrieved party due to the breach of contract, they are not taxable under GST.

The bench concluded that in the present scenario, since no supply of goods or services occurred during the GST regime, as stated in Section 142(10) of the Act, no GST shall be payable. Furthermore, the additional payment received as compensation through the arbitration award did not fall under the purview of Section 142(2)(a) and was therefore not subject to GST.