MARCH 01, 2010

Deeming Construction Service: Caught in tax net

By Pradeep Jain & Siddharth Rutiya, CA

THE Budget 2010 was eagerly awaited by all sections of the society. Never before, any budget had been so awaited by many of the Indian citizens. Finally the Finance Minister Mr. Pranab Mukherjee announced the Budget on 26-02-2010. This budget brought many welcome steps but also some disappointments to various sections and business classes of the society. Increasing worth of Service tax, which clearly depicted by the statistical data that service sector contributes nearly 60% of the GDP, leads to the clear intentions of the Finance Minister to increase the scope of Service Tax. During the budget speech Mr. Mukherjee cleared his intention for widening such scope, wherein he said –

“......I had another option to bring all services under service tax. I am not opting for this either at this stage.....”

Budget 2010 not only widened the scope of Service tax levy by introducing new services but also widened the scope of existing services like Commercial or Industrial Construction Service [Section 65(105)(zzq)], Construction of complex [Section 65(105)(zzzh)], Commercial coaching and Training services etc by bringing amendments in the definition of such services. We in this written articulation are attempting to highlight the impact of changes brought under Commercial or Industrial Construction services [Section 65(105)(zzq)] and Construction of Complex services [Section 65(105)(zzzh)] services.

Finance Minister, in Chapter V of the Finance Bill, 2010 has proposed to insert an Explanation to Section 65(105)(zzq) and Section 65(105)(zzzh) of Finance Act, 1994 which relates to the provision of deemed services.

In Section 65(105)(zzq) which relates to commercial or industrial construction service Government has inserted an explanation which reads as follows –

“Explanation.—For the purposes of this sub-clause, 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 ( 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;”

Similarly in Section 65(105)(zzzh) which relates to Construction of complex service, the Finance Minister has inserted the explanation which reads as follows –

“Explanation.—For the purposes of this sub-clause, 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 a person authorised by the builder before the 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;”

The basic intent for bringing the said explanation was to cover cases where in the provision of said services of construction were so devised in a manner that it out rightly does not fall under the purview of said service. Such cases included –

Cases where in the entire consideration is paid by the prospective buyers/flat owners after the residential complex has been fully developed. Thus, in such situation the parties argue that such transactions are in the nature of outright sale of immovable property and admittedly no service tax shall be chargeable on such transfer; or

Cases wherein the prospective buyer books a flat before its construction commences /completes and pays the consideration in instalments and later he takes possession of the property when the entire consideration is paid and the construction is over.

Cases wherein the initial transaction between the buyer and the builder is done through an ‘Agreement to Sell'. At such stage neither full consideration is paid nor there is any transfer in ownership of the property although an agreement to ultimately sell the property under settled terms is signed i.e. the builder continues to remain the legal owner of the property.

Later at the conclusion of the contract and completion of the payments relating thereto, another instrument called ‘Sale Deed' is executed on payment of appropriate stamp duty. This instrument represents the legal transfer of property from the promoter to the buyer.

Cases wherein at the initial stage, a ‘Sale Of Undivided Portion Of The Land' agreement is created between promoter and all prospective buyers (including person who has provided the vacant land for construction) and the property rights are transferred to the buyers though it does not demarcate a part of land, which can be associated with a particular buyer. As the vacant land has lower value, such a system is adopted to pay lesser stamp duty.

Simultaneously, an instrument called ‘Construction Agreement' is simultaneously executed under which the obligations of the promoter to get property constructed and that of the buyer to pay the required consideration are incorporated.

Such cases led to confusion, disputes and discrimination in terms of service tax payment on bases of different patterns of execution, terms of payment and legal formalities. Thus, to harmonize the levy and to bring parity in tax treatment such an explanation was added. Now by the virtue of the said explanation all activities of construction shall be deemed to be taxable services unless the entire payment for the property is paid by the prospective buyer after completion of construction (including its certification by the local authorities).

But this is not still over. The definition of Commercial or Industrial Construction as well as Construction of complex has been proposed to be changed. But there is no change in the definition of “Works Contract” service. If a builder pays the works contract under sales tax and he enters such contracts then he is not liable to pay the service tax. The litigation will continue. It is rightly said that the litigation and law are twins and will go along.