The occasion for writing this article arises from the recently concluded 43rd GST Council meeting and subsequent notifications issued to give effect to the decisions taken at such meetings. Notification No. 2/2021- Central Tax (Rate) and Notification No. 3/2021- Central Tax (Rate) both dated 2nd June 2021 [hereinafter ‘Notifications’] clarifies ITC-related issues and thereby provides marginal relief to the landowners who were grappling with the methodology of availing ITC in case of joint development arrangement. In this article, author has made an attempt to decode the implication of aforesaid notifications in joint development arrangements.
Area sharing arrangement
In cities like Mumbai and some other metro cities, land is the costliest and a scarce resource. To overcome scarcity & sky-touching costs, the real estate industry (hereinafter ‘Industry’) has evolved various joint development models. Broadly, landowners (hereinafter ‘Landowner Promoters’ or ‘LP’) enter into a Development Agreement (hereinafter ‘Joint Development Agreement’ or ‘JDA’) with the Developers (hereinafter ‘Developer Promoters’ or ‘DP’) for joint development of land and sharing of reward earned out of such joint development. LP contributes land whereas construction & finance activities are handled by DP without much intervention and control of LP. Such joint development arrangements are usually entered into either as ‘Area Sharing Model’ or ‘Revenue Sharing Model’.
Modus operandi in area sharing model
To put it briefly, in this type of arrangement DP undertakes to construct free of cost certain specified portion of built-up area for LP(hereinafter ‘landowners flats’). Many a time in addition to such free area an upfront lumpsum consideration is also paid to the LP. In return for such consideration, LP agrees to transfer development rights to DP and sell a specified percentage of undivided interest in the land to the prospective buyers nominated by the DP (hereinafter ‘developers flats’). LP and DP both are free to sell their respective flats to prospective buyers and a mechanism of tri-partite agreement is employed for the transfer of the title to the prospective buyers.
Modus operandi in revenue sharing model
Instead of sharing built-up area, in a revenue-sharing arrangement contracting parties agrees to share the proceeds arising from the joint development of the land. Of late, there is a discernible trend of bias in favour of the revenue-sharing model instead of the time-tested area-sharing model.
Having understood popular models, let us go a step further and look into the taxability arising out of the sale of land and the sale of buildings in the GST regime.
Taxability of sale of land and building in GST
In terms of Sl. No. 5 of Schedule III to the CGST Act, 2017, sale of land and, subject to clause (b) of paragraph 5 of Schedule II, sale of the building is treated as an activity or transaction which is neither a supply of goods nor a supply of services and therefore not subject to the levy of GST. In terms of clause 5(b) of Schedule II, GST is applicable on the sale of an under-construction complex, building, civil structure, or a part thereof. Impliedly, GST is not leviable on ready-to-move-in or completed complex/buildings provided entire consideration has been received after the issuance of the completion certificate, where required, by the competent authority or after its first occupation, whichever is earlier.
Little peep back into the history
In terms of Notification No. 4/2018-Central Tax (Rate) dated 25th January 2018, the registered LP was made liable to pay GST on the transfer of development rights. Further DP was made liable to pay GST on the value of apartments that were transferred to the LP in pursuance of the JDA. W.e.f 1st April 2019 taxability has been re-written and for Residential Real Estate projects (hereinafter ‘RREP’) GST rate has been reduced to 1% (affordable housing) or 5% (non-affordable housing) but the developer’s right to avail ITC has been taken away.
Time of supply of construction of complex services provided by LP to prospective buyers
LP may retain a few flats out of the allotted portion for their own occupation and balance flats may be sold out to prospective buyers either before or after completion of the project. In case flats are sold by LP before the completion of the project, technically LP is also providing construction services to prospective buyers, and therefore LP is required to charge GST from prospective buyers. Further, such service will fall within the purview of a ‘continuous supply of services’1 and therefore, in terms of Section 13 of the CGST Act, time of supply of such service will be the earliest of the milestone mentioned in the agreement or receipt of payment from prospective buyers.
Time of supply of construction of complex services provided by DP to LP
Construction of complex services rendered by DP to LP will also fall within the purview of a ‘continuous supply of services’. However, in terms of Notification No. 6/2019-Central Tax (Rate) dated 29th March 2019 (hereinafter ‘Notification No. 6’), the liability to pay tax on such construction service has been postponed to the date of issuance of the completion certificate for the project, where required, by the competent authority or on its first occupation, whichever is earlier.
Issue that was puzzling industry
Notification No. 6 has created one unique puzzle for the industry. From a well-intended thought to ensure that LP and DP are not burdened with GST liability at the commencement of the project, drafting lacuna has made this postponement a nightmare for LP. To understand this nightmare, let us consider one hypothetical example. Let us presume 100 flats of equal size were constructed under JDA and LP was entitled to say 40 flats. Before OC, LP has sold 25 flats from its portion to prospective buyers and charged applicable GST. However, qua such 25 flats, DP will raise an invoice and charge GST for construction of complex services only on the completion of the project. To add more confusion, Notification No. 3/2019-Central Tax (Rate) dated 29th March 2019 (hereinafter ‘Notification No. 3’) specifically permits availment of ITC to LP in respect of Input tax paid by him to DP towards the input supply of construction of complex services
Following moot questions were looming large and creating headache for LP:
- How and when LP can avail ITC qua such 25 Flats?
- Since time of supply has already been triggered in the case of such 25 sold-out flats whether LP is compulsorily required to pay his liability only in cash?
- Whether LP can avail ITC in advance even though DP has not discharged his corresponding output tax liability?
- Whether conditions of Section 16(2) of the CGST Act can be ignored and ITC be availed by LP merely on the basis of Notification No. 3?
- Whether input tax paid by LP is a dead loss? This question assumes significance as ITC eligibility on completion of the project is a dead asset. On the completion of the project, unsold flats would anyway go out of the purview of GST and therefore, LP will not be in a position to utilised such ITC. Further Section 54 of the CGST Act prohibits refund of such input tax to DP.
Practice hitherto followed in the industry
Considering the intent of Notification No. 3 and applying purposive interpretation, industry has taken a practical view on this matter. DP was preponing their tax liability and syncing it with the tax liability of LP. Accordingly in the above example as and when landowners’ flats were sold, DP was also raising an invoice for construction of complex service on LP. Due to such preponement LP were in a position to avail and utilise ITC of input tax paid to DP on the construction of complex services. However, many players in the industry were fearing allegation of a colourable device for such preponement of liability. Some cautious industry players were also informing jurisdictional officer about such preponement by way of written communication.
Changes introduced by way of aforesaid notifications
It would perhaps make sense to compare the relevant statutory provisions that existed pre and post amendment:
|When Liability to pay GST on construction of complex service shall arise in the hands of DP?||On the date of issuance of completion certificate for the project, or on its first occupation, whichever is earlier||In a tax period not later than the tax period in which the date of issuance of the completion certificate for the project, where required, by the competent authority, or the date of its first occupation, whichever is earlier|
Further to clarify doubts, vide Notification No. 02/2021- Central Tax (Rate) dated 2nd June 2021, it has been provided that LP shall also be able to utilise Input tax charged by DP.
Positive impact of this amendment
Earlier liability to pay tax on construction of complex services was fastened to the date of completion of the project. With this amendment, DP is now specifically permitted to choose the date of tax liability any time up to date of issuance of the completion certificate for the project or the date of its first occupation, whichever is earlier. Consequently, DP is now legally permitted to time his liability to match with the liability of LP. LP therefore can avail and utilise such ITC against output tax liability arising on sale of flats to prospective buyers. This amendment validates practice widely followed in the Industry.
Precaution to be taken by LP while availing ITC
It is interesting to note that though Notification No. 3 permit availment of ITC to LP there is a string attached to this availment. ITC is available only to the extent of GST charged from prospective buyer qua such flats and in case of a shortfall, balance ITC shall lapse.
Impact of Recent Changes
It has been observed that many LP were not interested in ITC headache and ultimately DP were paying GST on construction of complex services from their own pockets. Needless to say, while negotiating JDA deal, DPs must have factored such GST loss. Now with the availability of credit, overall transaction cost shall be reduced for DP and the hanging sword of an allegation of colourable device also disappeared.
Future course of action
LP intending to sell a portion of landowner’s flats should register for GST as early as possible and ensure necessary compliances. As and when they are about to enter any deal with prospective buyers, DP can be requested to raise an invoice for construction of complex services. Input tax paid to DP subject to conditions mentioned above can be utilised for payment of outward tax liability.
Amendment whether prospective or retrospective?
Moving to the prime question of whether this amendment is prospective from 2nd June 2021 or retrospective?. As per the thumb rule, unless notification says otherwise the notification would come into effect from the date and time when it was printed in the gazette. Since aforesaid notifications are silent some experts are of the view that notification shall take effect prospectively from 2nd June 2021. On the other hand, there is another school of thoughts that is of view that instead of literal interpretation instant case is the best fit for purposive and functional interpretation. It is argued that these amendments are brought in to remove drafting lacuna and absurdity in notification and therefore should take retrospective effect. Author believes the second view is more appropriate in the instant case.
In midst of all this hustle and bustle, the issues which gained traction many a time and still left unanswered are:
- Whether development rights can be subjected to the levy of GST at all, in terms of the Notifications and Rules, which forms part of the delegated legislation?
- Whether the grant of development right and subsequent transfer of interest in land by LP is not akin to sale of land?
- If GST cannot be levied on the LP for transfer of Development Rights under the forward charge mechanism, can DP be made liable to pay GST, under Reverse Charge Mechanism?
- Whether transfer of development rights by LP to DP and construction of complex services provided by DP to LP in return are 2(two) separate supplies? Is there any absurdity in holding a view that GST levy does not arise on the transfer of development rights inasmuch as such construction cost/land cost was already included in the value of flats sold by the DP2
- Whether it is legally tenable to collect GST from DP on the full value of flats that were transferred to the LP, in pursuance of the joint development agreement? Whether by any stretch of the imagination flats given to LP can be equated with flats given to prospective buyers?
- Whether the service rendered by DP to LP is a works contract service or construction of complex services? 3
- Whether 1/3rd deemed deduction on account of the value of land is compulsory even when the land cost can be separately ascertained?
- Is it compulsory for all RREP projects commencing on or after 1st April 2019 to follow the new taxing structure i.e. concessional rate of 1 or 5% GST without claiming ITC?
- Whether development & sale of plotted land is taxable under GST? Whether mere development of land into a plot will change the character of the land and therefore shall go out of exceptions granted under Sl. No. 5 of Schedule III of the CGST Act, 2017?
At first blush, it appears that the aforesaid notifications have set certain things right. However, a more granular analysis indicates that much is left to be desired and more benefits could have been given to the brutally thrashed industry. As of now all the above questions are highly debatable and would have to be settled only before higher forums after protracted litigation.
Certainly Industry is in a mood to sing a song too little, too late. 4
The views expressed herein are strictly personal to the authors and should not be construed as advice/ legal opinion. The contents of this article are based on the interpretation of the facts, relevant legislation, rules, notifications, circulars, judgments/rulings, etc. on the date of publishing of this article. One should not act upon the information in this article without obtaining specific professional advice. The authors are not responsible or liable for any loss or damage caused to anyone due to any interpretation, error, omission pertaining to this article. Further, the said article is only for information and guidance purposes and should not be construed as any kind of advertisement or solicitation of work.
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- As defined in Section 2(33) of the CGST Act.
- This matter is pending before Hon’ble Supreme Court in the matter of Vasantha Green Projects.
- Notification No. 3/2021- Central Tax (Rate) dated 2nd June 2021 treat such service as construction of complex services, however in the opinion of the author, since there is no transfer of land qua services rendered to LP, such services can be aptly classified as works contract services. In the opinion of author there is a strong force in the argument that such services should be valued at cost+ 10%.
- Many might be knowing, too little too late” is the lead single from JoJo’s sophomore album “The High Road”. The single reached the top 5 in the United States, in the UK and in Ireland.