GST and Legacy Taxes in Construction Contracts – Scrutiny, Audits, Risks, Penalties and Remedies

Theme: Business Framework; Module: Contractors Strategy

Author: Dr. Pradeep Reddy Sarvareddy

Published Date: 15 Jan 2026

Today, the Contractors are facing two types of Tax issues.  One is related to GST and the other is related to the older taxes, known as Legacy Taxes (like, VAT, WCT, Service Tax).  GST law is changing every few months, new Judgements are coming out, there appears to be clarity, yet Contractors are penalised.  The Legacy Taxes seem to suddenly wake up one day, the file is reopened, and the Contractor receives notices for Tax Scrutiny or Audits, and may end up paying Interests and Penalties.  Let us explore these two issues in more detail, and what you could do to protect yourself.

GST in Construction

GST in construction industry is complicated.  It is time to involve multiple experts including Financial Experts, Chartered Accountants, Engineers and Advocates.  Courts across the country have clarified how GST applies to works contracts.  The trouble usually starts when a billing practice from site meets a legal interpretation. 

One example is related to mobilisation advance.  Departments frequently insist that GST is payable the day (or more precisely, the immediate next month as per GST Rules) the mobilisation advance is received, even if the money is secured by a bank guarantee and the mobilisation advance will be adjusted in multiple RA Bills.  This view creates immediate cash outflow even before any work has been done.  Several contractors have already challenged this position before High Courts, arguing that certain advances function more like deposits until adjusted in the RA Bills.  These arguments have become common knowledge now because courts have started questioning the nature of the payments and wrong application of GST. 

Another example is related to ITC denial caused by supplier default (i.e., the Vendor of the Contractor).  Contractors regularly pay their vendors, including GST, only to receive notices from the GST department, after several months stating that the Vendor never deposited the GST.  Courts have firmly stated that GST authorities must first take action against the defaulting Vendor rather than demanding the Contractor to not claim ITC, which will result in the Contractor losing the benefit of GST ITC. 

Similarly, several other issues like place of supply for construction‑related services, retention money, date of Measurement Book vs date of receipt of payment, etc., are regular legal battles by Contractors. 

Contractors often ask when an expert should be engaged to avoid these kinds of GST issues.  Understand that whatever you do, some GST issues could still arise until there is more clarity and consistency in the law.  Believe it or not, but GST law is still young (i.e., from July 2017 only).  Usually, only when the law is tested against various Courts judgements including the Supreme Court, the law cannot be considered “well settled”.  This process could take 15 to 20 years.  But the issue with taxation is that the “Rules” keep on changing.  So, I guess Taxation is always “young”.  This could be the reason we cannot keep up with the young and we get tired, but the young keep on going.

Back to the Topic.  The best time to engage a Tax Expert is from the start.  The “Start” is usually the Contract signing date.  Then, continue this process regularly so that you don’t pay penalties for non-compliance. 

Stage 1: At contract signing stage itself so that several aspects are clarified and a clear path is identified for the payment stages of that Contract.

Stage 2: Every few years during long projects to review billing, subcontractor compliances, and new trends in terms of clarifications that were not yet available at the Stage 1.

Stage 3: Immediately upon receipt of any notice because the first reply shapes the entire dispute and courts give weight to early and well prepared clarifications, rather than even well prepared arguments later. 

If you read this article carefully, you will notice that I am not telling you anything with finality.  That is because various Courts have given differing views, which is because of the Contract Terms, facts of the case and the ever-changing GST Rules.

As we say, the early bird wins.

Old Taxes and New Troubles

Many contractors assume that VAT, WCT, Service Tax, CESS, subcontractor‑TDS issues, and MSMED interest disappeared when GST arrived.  In reality, these older taxes continue to affect running projects through audits, recovery notices and deductions from current RA bills.  What makes these old taxes (correctly known as “legacy taxes”) dangerous is not the tax rate, but it is the way these legacy taxes interact with today, i.e., the recent RA bills, notices, etc.

One example is revived VAT or WCT assessments.  Tax Departments reopen old files by identifying mismatches, stating the non‑submission of forms, claiming that the turnover from previous years was supressed, etc.  Courts have repeatedly intervened where Tax Departments reopened old files without considering the law of Limitation or trying to re‑interpret old work without proper evidence, which could be considered harassment of honest taxpayers.  Contractors who probably preserved even partial documentation in this situation have been able to defend these kinds of cases.  So, better to retain Tax documents until you close the project fully and eight years after that.  Some people are now recommending 15 years after the project is fully closed to retain these kinds of documents.  I wonder are we now becoming “storage lockers” for Tax Departments.  What if Tax Department does not have any documents but through a search they identify some documents within your office and then start building a case against you?  This is counter effective to the concept of protecting yourself by maintaining documents.  The aspect that you need to be aware of is that if you followed the law, Tax officials cannot and will not find anything wrong.  But, nonetheless, Tax officials could open cases “assuming” that there was some non-compliance, which Courts strongly condemn.

Another example is related to TDS of subcontractor and duplicated liability.  Contractors often deduct TDS when paying subcontractors.  The government agency deducts TDS against the Contractor on the main contract value.  Courts have examined whether the contract contains a “pass‑through” mechanism, i.e., is there a situation where double TDS is affected.  Courts have directed agencies to credit or reimburse amounts back to the Contractor when the contractor ends up paying twice.  But in the meantime, the Contractor could end up not receiving the full amount and even in case of win, there is a feeling of loss and helplessness.

Several more examples like Cess, MSMED Interest, GST on contracts signed before GST regime, etc., are recurring problems for many Contractors.  So, contractors continuously are engaged in tax disputes with Tax Departments and sometimes with their Project Owner, i.e., the Department that signed the Main Contract.  Courts have repeatedly supported contractors when the dispute is presented clearly with proper evidence and justification, and using that Court Order you can win in the end.  After years of paying interests, going around Chartered Accountants & Tax Experts & Advocates and Courts, along with their Professional Fee and Court Fees, you finally Win.  Really?

In Taxation, no one wins.