INDIRECT TAX AND REAL ESTATE

2 nd February, 2013 INDIRECT TAX AND REAL ESTATE Real Estate Summit Bombay Chartered Accountants Society and Indian Merchants Chamber By Vikram Nankani 1

AGENDA 1. VAT and Real Estate K. Raheja Development Corporation Vs. State of Karnataka [141STC 298 (SC)], Assotech Realty Pvt. Ltd. vs. State of UP [2007 (7) STR 129 All.] Maharashtra Chamber of Housing Industry and Ors v. State of Maharashtra and Ors [2012- VIL-35-BOM] Valuation of VAT 2. Service Tax and Real Estate Commercial or Industrial Service. Construction of a Complex. Valuation of Service Tax. Works Contract Services. Valuation of tax for Works Contract services. Judicial Decisions. Renting of immovable property. 2

Facts of the case: K. RAHEJA DEVELOPMENT CORPORATION VS. STATE OF KARNATAKA [141STC 298 (SC)] The Appellants carried on business of real estate development and allied contracts, entered into development agreements with owners of the land, and thereafter constructed commercial complexes. In most cases before they construct the residential apartments and/or commercial complexes they enter into Agreements of Sale with intended purchasers. The Agreements would provide that on completion of the construction the residential apartments or the commercial complex would be handed over to the purchasers who would get an undivided interest in the land also. The owners of the land would then transfer the ownership directly to the society which is being formed under the Karnataka Ownership Flats Act, 1974. Held that: the Appellants are undertaking to build as developers for the prospective purchaser on payment of a price. Therefore, it remains works contract as defined under the Act. Also, if the agreement is entered into after the flat or unit is already constructed, then there would be no works contract, but so long as agreement is entered into before the construction is complete, it would be a Works Contract. 3

DEVELOPMENTS Section 2(24) of the Maharashtra Value Added Tax, 2002 ( MVAT ), defines the term sale to mean a sale of goods made within the State for cash or deferred payment or other valuable consideration, but does not include a mortgage, hypothecation, charge or pledge; and the words "sell, "buy" and "purchase", with all their grammatical variations and cognate expressions, shall be construed accordingly. Following the judgment of Supreme Court the definition of sale was amended w.e.f. 20.6.2006: (ii) the transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract including, an agreement for carrying out for cash, deferred payment or other valuable consideration, the building, construction, manufacture, processing, fabrication, erection, installation, fitting out, improvement, modification, repair or commissioning of any movable or immovable property; 4

DEVELOPMENTS Circular No. 12 T of 2007 dated 7.02.2007, a Trade Circular was issued by the Commissioner of Sales Tax to clarify that: Any transfer of property after 20.6.2006, irrespective of whether an agreement was signed prior to that date, would be governed by the amended definition of sale. Tri-partite agreements between land-owners, developers and prospective buyers would be covered by the amended definition of sale. If the agreement is entered into after the flat or unit is already constructed, then there would be no works contract, but so long as an agreement is entered into before the construction is complete, it would constitute a works contract. Notification No. VAT. 1510/CR-65/Taxation - 1, dated 9 July, 2010 The Government of Maharashtra provided for a composition scheme, applicable to registered dealers who undertake construction of flats, dwellings, buildings or premises and transfer them in pursuance of an agreement along with land or interest underlying the land.vat was required to be paid at 1 percent of the agreement value for all agreements after 1 st April, 2010.. 5

MAHARASHTRA CHAMBER OF HOUSING INDUSTRY AND ORS V. STATE OF MAHARASHTRA AND ORS [2012-VIL-35-BOM] The constitutional validity of the amended definition of sale, the Trade Circular dated 7.02.2007 and the 1% Composition Scheme introduced w.e.f. 9.07.2010, was challenged in a spate of writ petitions. On behalf of the petitioners, it was contended as under: The amendment was beyond the scope of the States power to tax under Sl. No. 54 of List II of the Seventh Schedule to the Constitution. In order to attract the application of Article 366(29A)(b), a contract would have to inter alia involve a transfer of property in goods and immovable property does not constitute goods. Consequent to the 46th Amendment to the Constitution, only a transfer of property in goods involved in the execution of a works contract is taxable and a contract for the sale of immovable property is not a works contract. A works contract involves only two elements viz. (i) the transfer of property in goods; and (ii) supply of labour and services. If a third element, the sale of immovable property, is involved in the contract it does not constitute a works contract and hence to such a contract, the legal fiction which is created by Article 366(29A) would not apply. 6

CONTD Agreements contemplated to be brought within the purview of the amended definition of sale, per the Circular dated 07.02.2007, are simplicitor agreements for the sale of immovable property. Contracts governed by the Maharashtra Ownership Flats (Regulations of the Promotion of Construction, Sale, Management and Transfer) Act, 1963 ( MOFA ) cannot be regarded as a works contract, being agreements for the purchase of immovable property. The MVAT ignores the concept of plurality of deemed sales. Where the developer is the owner of the land, the promoter is both the owner and developer. Alternately, a developer may enter into a development agreement with the owner of the land. When a promoter appoints a sub contractor and gets a building constructed, that contract is a works contract under Article 366(29A) and a transfer of the property in the goods involved in the execution of the works contract takes place to the developer. That would be the first deemed sale. When the developer enters into an agreement with a purchaser under the MOFA, a sale of goods is not involved since that would amount to a second deemed sale of the same goods which cannot be brought to tax. Once a promoter has appointed a sub contractor the property passes to him as a promoter owner or to the owner, as the case may be, where there is only a developer. Property has already passed on accretion and the same transaction of deemed sale cannot be taxed twice. An executory contract does not fit into the conception of a sale of goods within the meaning of Entry 54 of the State List to the Seventh Schedule. The amended definition of sale was beyond the scope of the States power to tax under Sl. No. 54 of List II of the Seventh Schedule to the Constitution. 7

CONTD. On behalf of the Revenue, it was contended as under: An unduly restrictive or contrived meaning should not be given to the provisions of Article 366(29A) otherwise the object underlying the Constitutional amendment would be defeated. The purpose underlying the enactment of the deeming fiction in Article 366(29A) was to override the limited definition of the expression sale in the Sale of Goods Act, 1930 and to isolate the sale of goods element involved, inter alia, in a contract which is a works contract. The amended definition of sale falls within the compass of Article 366(29A). A works contract is a contract to execute works and encompasses a wide range of contracts; it is not restricted to building contracts having only two elements viz. the sale of material and goods and the supply of labour and services. The well settled connotation of the expression works contract is that a building contract may also involve in certain situations a sale of land. A works contract does not cease to be such merely because any other obligation exists. In an agreement which is governed by the MOFA, a conveyance of the interest in the flat or at any rate an interest therein is created at the stage of the execution of an agreement. The doctrine of accretion is always subject to a contract to the contrary. The provisions of the MOFA contain a statutory stipulation to the contrary where the accretion to the property enures to the benefit of the flat purchaser; and The Trade Circular and the deduction schemes are only clarificatory in nature. 8

Held: CONTD Works contracts have numerous variations and it is not possible to accept the contention either as a matter of first principle or as a matter of interpretation that a contract for work in the course of which title is transferred to the flat purchaser would cease to be a works contract. The effect of the amendment to Section 2(24) is to clarify the legislative intent that a transfer of property in goods involved in the execution of works contract including an agreement for building and construction of immovable property would fall within the description of a sale of goods within the meaning of the provision. The constitutional validity of the provisions of the MVAT Act, 2002, as amended, is not contingent upon any other statutory regulation of apartments under cognate legislation in the State of Maharashtra. Having regard to this statutory scheme, it is not possible to accept the submission that a contract involving an agreement to sell a flat within the purview of the MOFA is an agreement for sale of immovable property simplicitor. The Constitutional validity of the amended definition of sale, the Trade Circular dated 7.02.2007 etc. upheld. 9

DEVELOPMENTS: Trade circular No. 14T of 2012 dated 06.08.2012, issued by the Commissioner of Sales Tax, Maharashtra States that developers are liable to pay tax under the MVAT Act, w.e.f. 20.06. 2006 Provides for certain facilitation for obtaining registration, grant administrative relief for unregistered period, and filing of returns for the period from 20.06.2006. A Special Leave petition was filed by developer s representative organization MCHI- CREDAI challenging the Order of the Bombay High Court. The Supreme Court on August 28, 2012 passed an interim Order, and extending the deadline for paying VAT by two months for dealers in Maharashtra. The developers were allowed to pay VAT by October 31 st and register themselves by October 15, 2012. It also directed that, if tax is paid no penalty and interest will be imposed on assesses who have paid the tax by 31 st October, 2012.The Taxes so collected by the Sales Tax Development will be parked in a separate account and will be refunded to developers in the event the SLP succeeds. 10

Composition Scheme VALUATION UNDER VAT 1. Section 42(3) of the MVAT Act provides for a composition scheme. VAT is payable @ 5% tax on the agreement value. Land deduction is not available. input tax credit is available subject to the reduction of 4 per cent. 2. Section 42 (3A) of MVAT Act: (For agreements post 1 st Apil, 2010) Vat 1 % on agreement value or stamp duty value whichever is higher. No deduction of land. No Input tax Credit available. Actual Deduction Method: Rule 58 of the MVAT Rules, provide for Determination of sale price and of purchase price in respect of sale by transfer of property in goods involved in the execution of works contract. The rule provides for deduction of various charges such as labour charges, service charges, planning chrages etc.. from the value of the contract. Standard Deduction Method: However in cases where no accounts have been maintained, the commisisoner can offer standrad deductions to determine the sale price of the property. The deductions are provided in a table for different kinds of Works Contract. 11

SERVICE TAX AND REAL ESTATE 12

COMMERCIAL OR INDUSTRIAL CONSTRUCTION Commercial or Industrial Construction Services introduced w.e.f. 10.09.2004 means any service provided or to be provided to any person by any person in relation to commercial or industrial construction. Section 65(105)(zzq). Explanation Inserted w.e.f. 01.07.2010 sale of premise by a builder to buyer during construction was made a taxable service. The construction of a new building which is intended for sale, wholly or partly, by a builder or any person authorised by the builder before, during or after construction shall be deemed to be service provided by the builder to the buyer. Commercial or industrial construction - defined under Section 65(25b) means Construction of a new building or a civil structure or a part; or Construction of pipeline or conduit; or Completion and finishing services such as glazing, plastering, painting, floor and wall tiling., construction of swimming pools, acoustic applications or fittings and other similar services, in relation to building or civil structure; or Repair, alteration, renovation or restoration of, in relation to, building or civil structure, pipeline or conduit, which is- Used / occupied / engaged, primarily in; Commerce or industry, or work intended for commerce or industry But does not include such services provided in respect of roads, airports, railways, transport terminals, bridges, tunnels and dams 13

CONSTRUCTION OF COMPLEX SERVICE Construction of Complex Service introduced w.e.f.16.05.2005 Taxable Service defined under Section 65(105)(zzzh) Means any service provided or to be provided to any person, by any other person, in relation to construction of complex Explanation inserted w.e.f. 01.07.2010 The construction of a complex which is intended for sale, wholly or partly, by a builder or any person authorised by the builder before, during or after construction (except in cases for which no sum is received from or on behalf of the prospective buyer by the builder or the person authorised by the builder before grant of completion certificate by the authority competent to issue such certificate under any law for the time being in force) shall be deemed to be service provided by the builder to the buyer 14

MAGUS CONSTRUCTION PVT. LTD. VS. UNION OF INDIA [2008 (11) S.T.R. 225 (GAU.)] when a builder, promoter or developer undertakes construction for its own self, in such cases, there would not be a question of providing taxable service by one person to another. The only transaction between the petitioner and the prospective buyer is that on sale and purchase of flat. Any advance paid by the prospective buyer represents consideration received towards sale of flat to such prospective buyer and is not for obtaining service from the petitioner. Held Not liable to Service tax 16

VALUATION- PRE 2012 Particulars Option 1 COMPOSITION SCHEME Option 2 Rate of tax 4.12% of (Gross Amount charged Less VAT/Sales tax) 10.3% of [(Gross amount Less VAT / Sales tax) Less value of goods] Availability of Credit to Service provider Available for Capital Goods & Input Services Available for Capital Goods & Input services 17

The definition of works contract has been amended to inlcude movable property as well. works contract means a contract wherein transfer of property in goods involved in the execution of such contract is leviable to tax as sale of goods and such contract is for the purpose of carrying out construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, alteration of any movable or immovable property or for carrying out any other similar activity or a part thereof in relation to such property; Vide Notification 30/2012-S.T. dated 20.06.2012 (applicable w.e.f. 01.07.2012), in respect of Works Contract service: Both the service provider and service recipient are required to discharge 50% of the Service tax liability. Applicable only where the service provider is individual or HUF or partnership firm or LLP or AOP and the service recipient is a body corporate. In other cases, service provider is required to apply and recover tax 18

VALUATION OF SERVICE TAX UNDER WORKS CONTRACT Value of service portion in works contracts will be determined in terms of the 2A of the Service Tax (Determination of Value) Rules, 2006 ( Valuation Rules ). As per Rule 2A (i) of the Valuation rules, the value of service portion in the contract shall be equivalent to the gross amount charged for works contract less the value of the property in the goods transferred. 19

VALUATION CONTD... Gross amount includes Labour charges for execution of the works Amount paid to a sub-contractor for labour and services Charges for planning, designing and architect s fees Charges for obtaining on hire or otherwise, machinery and tools used for the execution of the works contract Cost of consumables such as water, electricity, fuel, used in the execution of the works contract Gross amount does not include Value of transfer of property in goods involved in the execution of the said works contract. Note: Where Value Added Tax has been paid on the actual value of transfer of property in goods involved in the execution of the works contract, then such value adopted for the purposes of payment of Value Added Tax, shall be taken as the value of transfer of property in goods involved in the execution of the said works contract. Cost of establishment of the contractor relatable to supply of labour and services and other similar expenses relatable to supply of labour and services Profit earned by the service provider relatable to supply of labour and services Value Added Tax (VAT) or sales tax, as the case may be, paid, if any, on transfer of property in goods involved in the execution of the said works contract 20

Works Contract Rule 2A(ii)- Where the value of the service portion cannot be determined as per Rule 2A(i), tax on the service portion involved in the execution of works contract shall determine the service tax payable in the following manner: Where works contract is for (i) execution of original works (iii) works contracts, other than contracts for execution of original works, including contracts for completion and finishing services such as glazing, plastering, floor and wall tiling, installation of electrical fittings (iii) Works contract for maintenance or repair or reconditioning or restoration or servicing of any goods Value of the service portion shall be forty percent of the total amount charged for the works contract sixty percent of the total amount charged for the works contract seventy percent of the total amount charged for the works contract 21

RENTING OF IMMOVABLE PROPERTY Renting of Immovable Property introduced w.e.f.16.05.2005. Means any service provided or to be provided to any person, by any other person, by renting of immovable property or any other service in relation to such renting, for use in the course of or, for furtherance of, business or commerce. 65(105)(zzzz) Explanation 1 Immovable Property includes Building and a part of a building, and the land appurtenant thereto; Land incidental to the use of such building or part of a building; The common or shared areas and facilities relating thereto; In case of a building located in a complex or an industrial estate, all common areas and facilities relating thereto, within such complex or estate, and Vacant land, given on lease or license for construction of building or temporary structure at a later stage to be used for furtherance of business or commerce. But does not include Vacant land solely used for agriculture,.; Vacant land, whether or not having facilities clearly incidental to the use of such vacant land; Land used for educational, sports parking purposes; and 22

RENTING OF IMMOVABLE PROPERTY Building used solely for residential purposes and buildings used for the purposes of accommodation, including hotels. Explanation 2 Immovable property partly for use in the course or furtherance of business or commerce and partly for residential or any other purposes shall be deemed to be immovable property for use in the course or furtherance of business or commerce. Renting of immovable property is defined under Section 65(90a) Includes renting, letting, leasing, licensing or other similar arrangements of immovable property for use in the course or furtherance of business or commerce Does not include Renting of immovable property by a religious body; or Renting of immovable property to an educational body ; Explanation 1 for use in the course or furtherance of business or commerce includes use of immovable property as factories, office buildings, warehouses, theatres, exhibition halls and multiple-use buildings Explanation 2 renting of immovable property includes allowing or permitting the use of space in an immovable property, irrespective of the transfer of possession or control of the said immovable property 23

RENTING OF IMMOVABLE PROPERTY Renting of certain kinds of property not liable to Service tax Covered under the negative list renting of vacant land, with or without a structure incidental to its use, relating to agriculture renting of residential dwelling for use as residence renting out of any property by Reserve Bank of India renting out of any property by a Government or a local authority to all non-business entity. Exemptions in respect of renting of immovable property Threshold level exemption up to Rs. 10 lakh. Renting of precincts of a religious place meant for general public Renting of a hotel, inn, guest house, club, campsite or other commercial places meant for residential or lodging purposes, having declared tariff of a room below rupees one thousand per day or equivalent is exempt 24

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