MARCH 8, 2010

ST on Construction of Complex services becomes more 'complex' after Budget

By S Sivakumar, CA

THE Realty Sector would seem to have been singled out for some harsh treatment, in this Budget, at least in so far as the service tax proposals are concerned.

As we know, thro' the insertion of the following explanation in Sub Clauses (zzq) and (zzzh) of Section 65(105) of the Finance Act, 1994, service tax is proposed to be levied on all contracts entered into between the Developer/Builder and the prospective buyer of the flat, unless the entire payment for the property is received post the completion of the construction of the property.

“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;”

The relevant extracts from the Board Circular No. D.O.F. No. 334/1/2010-Board dated 26-2-2010 are reproduced below:

8.5 These different patterns of execution, terms of payment and legal formalities have given rise to confusion, disputes and discrimination in terms of service tax payment.

8.6 In order to achieve the legislative intent and bring in parity in tax treatment, an Explanation is being inserted to provide that unless the entire payment for the property is paid by the prospective buyer or on his behalf after the completion of construction (including its certification by the local authorities), the activity of construction would be deemed to be a taxable service provided by the builder/promoter/developer to the prospective buyer and the service tax would be charged accordingly. This would only expand the scope of the existing service, which otherwise remain unchanged . (emphasis supplied by me).

Though the Board Circular talks of brining in parity in tax treatment, it is clear that a lot of new disputes would arise from this amendment seeking to levy service tax based on the date of the Completion Certificate issued by the Local Authorities, for sure. I am not able to understand as to how, this amendment could be termed as an ‘expansion' of the scope of the existing service, as the concept of the levy of service tax being linked with the date of the Completion Certificate is being introduced for the first time, completely unsettling the currently applicable scheme of things dealing with the levy of service tax on construction services.

The last sentence in the relevant paragraph of the Circular, which has been highlighted above states that, but for this amendment resulting in the expansion of the scope of the service, the existing service would remain unchanged. This clearly conveys, in my view, the stand of the Government that the levy of service tax on construction services stand legitimized right from June 16, 2005. I don't know the fate of Circular No. 108/02/2009-ST dated January 29, 2009, which had sought to take, almost, the whole of the residential realty sector out of the service tax net. The explanation proposed to be added would seem to contradict the provisions contained in the said Circular. A lot of litigation could arise here, as the Government does not seem to have officially withdrawn Circular No. 108/02/2009, notwithstanding the fact that the Department has never actually implemented this Circular.

Moreover, the concept of linking the Completion /Occupancy Certificate, which is issued for the whole project or for the buildings comprising the project with the completion of the individual flat/residential unit for levy of service tax is bound to create a lot of fresh litigation. As is well known, the art of getting the OC is a project by itself for most Developers/Builders and the fact that, in most cases, the OC is obtained after a long time after the completion of the flats, is no great secret. Therefore, in a practical situation, many flats could have got completed much before the date of the OC. Can the legal fact that a flat, which, let's say, is located on the ground floor of the flat has been physically completed and has consequently attained the status of an immovable property, under the Transfer of Property Act and other laws, be challenged on the basis of the fact that the OC for the project as a whole is subsequently dated and the consequent levy of service tax on this flat be justified? I

Would this approach to tax construction services not lead to the same value of the transaction being taxed both under service tax and for stamp duty purposes, in respect of readymade flats, under the proposed dispensation?

What would happen to cases, where a small token amount is collected by the Developer/Builder at the time of the booking, with a significant portion of the amount being collected after the completion of the flat, a practice widely followed in the industry? Can the token, which is often referred to as a ‘deposit' be treated as not having been received towards the construction of the flat and consequently render the Explanation ineffective, in these cases?

Can an explanation significantly increase the scope of the taxable service, by bringing in, a hitherto unheard concept of a ‘deemed construction service'? Would the Government's strategy of bringing about a substantial expansion of an existing taxable service thro' an explanation and without amendment of the taxing provision, would stand the judicial scrutiny?

Further, the question that arises here is, whether this ‘expansion' is prospective or retrospective? However much would I want this to be prospective, the wordings used in the Board Circular would give a lot of scope to the Department to argue that this expansion is retrospective, stand which could play havoc with the Industry.

The explanation has not been added to the ‘Works Contract Services', for reasons best known to the Government. I don't know, if this is an intended or an unintended miss. As we know, the definition of a works contract under the service tax law largely follows that under the VAT laws of the States. The pith here, however, is that, the levy of VAT on civil works contracts is not uniform across the States. In a state like Kerala, as I understand, there is no need to pay VAT to the extent of the amount on which stamp duty has been paid. In a state like Karnataka, unlike most other States, a joint development contract between the land owner and the Builder is also subjected to the levy of VAT. Given these, I wonder as to how the legislative intent and bringing in parity in tax treatment as mentioned in Para 8.6 of the Board Circular, could be achieved, in respect of levy of service tax on construction services, as there is no unanimity in the levy of VAT on works contracts, by the States.

Be that as it may.... most Developers and Builders have switched over to the Composition Scheme with effect from 1-6-2007, when service tax was first levied on Works Contract services. The Department has already issued circulars to the Developers and Builders that the benefit of Circular No. 108/02/2009-ST dated January 29, 2009 (this so called ‘benefit' is now gone up in the air with the proposed insertion of the explanation) is not available to works contract services. Most Developers and Builders have opted for the works contract services, as we know. What would happen to a housing project, in which, some flats are falling under the ‘Construction of Complex' services and some others are falling under ‘Works Contract' services? How would the OC concept be interpreted in respect two adjacent flats, one of which will now covered by the Explanation, while the other, having been classified under ‘Works Contract' services, would still be outside the so called ‘deemed construction services'?

Before parting....

One must emphasise with the Realty Developers and Builders who have been suffering over the last four years or so, due to an absolute lack of clarity on the levy of service tax. These Budget proposals have only added to the utter confusion that prevails and would significantly contribute to new litigation. This way, the expansion of the scope of the existing services would lead to an expansion in the litigation, as well.

If the Government's view has been that, service tax was leviable on the construction of residential complexes right from June 16, 2005, where was the need to bring in ‘Works Contract' services as a new taxable service from June 1, 2007 and further complicate issues by issuing Circular No. 108/02/2009-ST dated January 29, 2009 and how is it now justified in not officially withdrawing the said Circular, which runs contrary to the statutory provisions proposed in the Budget. As I have repeatedly written in the national tax press, this Circular has played havoc with the Developers and Builders, who have been caught between the Department on the one side which had never accepted the contents of this Circular and the customers on the other side, who have been believing, of course, incorrectly, that the service tax on sale of flats was abolished. Now, we are back to Square One with more issues, thanks to the Budget.

With the implementation of the GST scheduled for April 1, 2011, where was the tearing need for the Government to go in for massive changes in this Budget, in respect of the levy of service tax on the Realty Sector? Could the Government not have waited for one more year and brought about these changes significantly affecting the Realty Sector under the GST?

The Government has been kind enough to provide enormous professional opportunities to Advocates and Chartered Accountants specializing in the Realty Sector by continuing to have completely unclear provisions over the last four and half years. Many these professionals have been very busy over the last few months, filing refund claims with the Department on behalf of the flat buyers and pursuing refunds on the basis of Circular No. 108/02/2009, which, of course, has remained a mirage. The Budget would seem to have significantly increased these opportunities, as litigation pertaining to this Sector, is bound to grow if the Budget proposals are implemented in their current form.