Computation of income from construction and service contracts

Introduction

The profits and gains arising from a construction contract or a service contract shall be determined on the basis of percentage of completion method.

1. Method of computation

This provision provides the mechanism for computation of income from the following contracts:

(a) Construction Contract; and

(b) Contract for providing services.

1.1. Income from Construction Contract

‘Construction Contract’ is a contract specifically negotiated for construction of an asset or a combination of assets that are closely interrelated or interdependent in terms of their design, technology and function or their ultimate purpose or use and it includes:

(a) Contract for rendering of services which are directly related to the construction of asset, i.e., services of project managers, architects, etc.

(b) Contract for destruction or restoration of assets, and the restoration of the environment after demolition of asset.

Income from a construction contract shall be computed as per Percentage of Completion Method (POCM) in accordance with ICDS-III (Construction Contracts). Under this method, contract revenue is matched with the contract costs incurred in reaching the stage of completion, resulting in reporting of revenue, expenses and profit which can be attributed to the proportion of work completed.

Revenue from these contracts shall include retention money also. Further, Incidental income such as Interest, dividend or capital gains, if any, shall not be reduced from cost of the contract.

1.2. Income from Service Contract

1.2-1. As per Percentage of Completion Method

Income from a contract for service shall be computed using Percentage of Completion Method (POCM) in accordance with ICDS-IV (Revenue Recognition). As ICDS-III (Construction Contracts) also requires the recognition of revenue on this basis. The requirements of that Standard shall apply mutatis mutandis to the recognition of revenue and the associated expenses for a service transaction.

Revenue from these contracts shall include retention money also. Further, Incidental income such as Interest, dividend or capital gains, if any, shall not be reduced from cost of the contract.

1.2-2. As per Project Completion Method

Under Project Completion Method, revenue is recognised at the completion or substantial completion of the contract. This method can be used only in respect of the service contracts having duration not more than 90 days. However, this method is to be exercised at the option of the assessee.

1.2-3. As per Straight Line Method

Under straight line method, revenue is recognised over the specified period in a constant proportion. This method can be used only when services are provided by an indeterminate number of acts over a specific period of time. However, this method is to be exercised at the option of the assessee.

This article is general information and not tax advice. Provisions change. Confirm your position with a qualified professional before acting.