ISHIKAWAJMA-HARIMA HEAVY INDUSTRIES LTD V. DIRECTOR OF INCOME TAX, MUMBAI  RD-SC 8 (4 January 2007) \n
Lump Sum Turn Key Contracts and Tax Considerations
LUMP SUM TURN KEY Tax considerations to reduce the local taxes by a split of the contracts.Lump Sum Turn Key Agreement Building Delivery of Engineering construction components Erection and Erection control / Start-up / initial assembling site supervision operation• Turn key vs. component agreement ✓Test runs successfully completed ✓Interface and timing risks ✓Fit for purpose• FIDIC book master agreements ✓One combined package of contracts ✓Consistent and integrated provisions
Legal Structure Offshore Sub Local Sub Chinese Sub Contractor Contractor Contractor Offshore Prime• Lump Sum Turn Key Contractor ✓Engineering ✓Building construction ✓Delivery of components • Exposes entire contract revenue to ✓Erection & assembling tax ✓Site supervision ✓Start-up & initial op Local Principal Tax Implications of the Agreement • Tax inefficiencies arising from a single consolidated contract for the entire work and lump sum price ✓Under Local/German DTT sale of goods does not constitute a PE, but in case of combined LSTK service part of the agreement constitutes a PE for the whole scope of deliveries and services. ✓Under Local tax laws no withholding tax on sale, but in case of combined LSTK withholding tax on the full remuneration amount. ✓Withholding tax can be credited against corporation income tax obligations, if any. ✓Tax cash refund in general possible, but request usually causes in aggressive tax audit. • Risk of adjustment, because less comparable data for mixed agreements. • Importance of duration of construction work? 6 months? 12 months?
Split of the LSTK agreement Local Sub German Sub Chinese Sub Contractor Contractor Contractor PE of offshore contractor? Local German Onshore - Split of the contract Oﬀshore Contractor - Split of the contractors Contractor - Syndicated offer Onshore contract - Local engineering Oﬀshore contract - Local components - Offshore design and - Erection / assembling engineering - Building construction - German - Site supervision components - Start up & initial op - Chinese - Onshore spare-parts components Local Principal - Ownership trans- - Onshore training ferred outside of Onshore - Offshore spare partsUmbrella Agreement• Comfort letter of the offshore company to the buyer/employer• Three main functions: ✓to assure that the service provider is financial capable to fulfill its obligations, including penalties and damages claims. ✓to assure that buyer/employer has no problem to address the correct contractual partner for claims and information ✓„horizontal defense“, prevent the contractors from relying on the defaults of the other parties to avoid performing their contractual obligations.• No overruling and modification of service contract by cross-default clause or taking over of service responsibility by seller• Umbrella Agreement should qualify as agreement not to be necessarily disclosed to the tax authorities, because it is irrelevant tax-wise
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