NOVEMBER 22, 2017

By Dhananjay Singh, IRS

THE real estate market is significant for the growth of Indian economy. According to India Brand Equity Foundation (IBEF), the real estate sector in India is expected to touch USD 180 billion by 2020. The housing sector alone contributes 5-6% to the country's Gross Domestic Product (GDP). Real estate contribution to India's GDP is estimated to increase to about 13% by 2028.The real estate sector is the second largest direct source of employment, after agriculture, especially for those belonging to the weaker sections of our society. Developing a transparent real estate market by including land & buildings in the GST base will help boost the economy as real estate sector has multiplier effects in over 250 ancillary sectors like steel, cement etc.

Distinction between Real Estate & Real Property: According to the International Association of Assessing Officers (IAAO), land and buildings (sticks and bricks) are real estate, while real property is the bundle of rights flowing from the ownership of real estate. Real Estate is tangible. Reilly & Schweihs, in their book, 'Guide to Intangible Asset Valuation' state that since all legal rights are intangible, real property is intangible.

Analysis of existing levies in Real Estate sector: In the present constitutional scheme, taxes on land & buildings is a state subject. The current regime of transfer, registration & stamp duties is distortionary entailing efficiency costs & their burden increases disproportionately with the increase in the number of times the property is sold. Such duties cause lock-in effects as people will hold on to their property longer than they would have in absence of the duties. Presently, the construction of a building for sale to a buyer is leviable to GST except where the entire consideration has been received after issuance of completion certificate by the competent authority or after its first occupation, whichever is earlier. Post-construction business transactions (including sale of land & building) after issuance of completion certificate is presently outside the ambit of the GST regime.

Guiding principles for treatment of Real estate under GST: The guiding principle should be that the ultimate non-taxable consumer & not the businesses bear the incidence of GST. According to Charles E. McLure, Jr., a Senior Fellow at Stanford University, housing is one of the most difficult items to handle under a value-added tax. When the land or building generates consumption services, then the GST paid at the time of the purchase of the building should be creditable against the GST chargeable on the products made by the factory situated on the property. Developers can recover input tax if the building is sold to a taxable person. If there is no GST on sales, a refund would be due.

According to the noted economist Sijbren Cnossen, we need to view land & buildings as stocks used for consumption or production purposes in order to arrive at the appropriate GST treatment for immovable property. He also advocates that all transactions in property - land & buildings, residential or commercial, privately or publicly owned or leased-should be included in the GST base.

International experience: Modern GST/VAT systems as present in countries like Australia, New Zealand, Canada, & South Africa, treat housing & construction services as any other commodity. In all EU member states (& OECD countries) other than UK, new residential housing is taxed under GST, while rents & rental values are considered outside its scope. In such a case, GST charged on purchase price of new residential construction may be taken to represent the present discounted value of the future services, viz., future rents. Thus, the VAT is indirectly levied on the flow of housing services arising from the new residential construction.

Feasibility & advantages of inclusion of real estate under the Indian GST:

The current regime of transfer, registration & stamp duties, all being transaction-centric taxes, are amenable to inclusion within the GST base as GST is also a transactions tax. Stamp duty is a cascading tax on each conveyance of title to real property whereas GST is a tax on final consumer expenditures which does not stick to commercial property transactions.

Sale of land or granting any rights in land is immovable property which can be part of GST so as to ensure seamless flow of input tax credit (ITC). Becoming a part of GST entails availing of ITC which helps make products & services price competitive in the market. Once immovable property becomes taxable under GST, then the works contract services when supplied for construction of an immovable property (other than plant & machinery) except where it is an input service for further supply of works contract service should no more be a part of blocked credit.

Tax evasion is pervasive in the real estate sector. Inclusion of real estate within the GST fold will help in minimizing aggregate tax burden in absolute Rupee terms. This will in turn enhance the elasticity & buoyancy of India's indirect tax system because audit trail in GST will bring a greater proportion of real estate transactions into the tax net augmenting the revenue collection. GST leaves a digital trail for transactions which becomes a disincentive & deterrent for non-reporting or under-reporting of the sale value of the land or building thereby reducing the shadow economy. The property tax constituting a significant component of revenues accruing to the local governments would also increase on account of the overall increase in tax compliance. This would in turn give a boost to the 'Smart City' projects being implemented by the local governments in India.

GST because of its concurrent taxing jurisdiction of centre & states over a common base & the seamless transfer of ITC facility, which was hitherto blocked due to separate taxing jurisdiction of centre & states, provides the right incentive for key supply-side stakeholders such as real estate developers & brokers to bring their transactions into the formal tax net. This is expected to considerably reduce the speculative activity in the real estate sector due to pumping of illegally gotten wealth, which had spiralled up the prices in detriment to the interest of end buyers.

To claim ITC, each member of the real estate supply chain has an incentive to seek documentation from the member behind him in the value-added tax chain. Because of the paper trail left by GST, tax evasion is likely to be detected even if one of the parties in the tax chain is audited by the tax department.

The Way Forward:

In a step forward, the GST Council is expected to discuss about the inclusion of real estate within the ambit of GST in its forthcoming meetings. The spirit of co-operative federalism needs to be leveraged to convince the reluctant States about the various long-term benefits of including real estate in GST base. In order to reassure the states of the continued access to their earlier kitty of revenue accruing from registration or stamp duties, the 12% GST (including land portion) levied on construction of a complex, building, civil structure intended for sale to a buyer, partly or wholly can be increased proportionately while scrapping stamp duty provisions & subsuming it into the GST. This is expected to increase the velocity of real estate transactions unlike under stamp duty regime, where stamp duty becomes payable every time a document or a deed is required to be executed. Relevant amendments need to be done in the Seventh Schedule of the Constitution. We need to amend the definition of goods in the Sale of Goods Act & in the CGST Act & the various SGST/UTGST statutes by including land & real estate in the definition of goods like what some countries like Malaysia have done.

The government has already announced its intention of rationalising the GST rates & reduce the number of commodities leviable to the highest GST rate of 28%. Exemptions are antithetical to the notion of GST as a broad-based tax. In order to achieve Broad Base Low Rate GST (BBLR approach to tax reform), bringing real estate into the fold of GST becomes inevitable.

The Real Estate (Regulation & Development) Act, 2016 (RERA) brings in transparency, greater competition amongst various participants in the real estate market. Housing sector uses numerous inputs & eliminating the sticking of taxes on the intermediate products & business transactions through seamless flow of input tax credit will boost the efficiency & productivity of the housing industry. Presently, there are numerous taxes on affordable housing. Rationalising the tax incidence by bringing the entire value chain in real estate sector under GST net will also help achieve the government's mission of 'Housing for all by 2022'.

Factor-market reform in the form of making available a plot of land for starting an industry is a sine qua non for boosting 'Make in India'. The liberal land leasing policy advice of NITI Aayog while simultaneously liberalizing the use of agricultural land for non-agricultural purposes for facilitating industrialisation will get a shot in the arm as any lease to occupy land is classified as a supply of service under the present GST regime.

The much needed reforms in real estate sector will also have a salutary impact on political economy of election funding in India as it will become increasingly more difficult for the real estate sector to be a conduit for infusion of black money into elections. RERA alongwith GST can help in the consolidation of the real estate sector leading to the robust & sustainable growth of the sector. The resulting increase in transparency is expected to boost the trust levels, especially of the retail-level end-user buyer who perceives herself to have been short-changed by the developers of under-construction residential projects (with milestone-based payment) because of inordinate delays in offering possession.

In sum, it can be safely concluded that by bringing real estate under GST, the economic fundamentals of India's economy would be further strengthened as the real sector comprising consumption & production will get a leg up due to enhanced productivity, transparency, & competition post comprehensive application of GST in the real estate sector.