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Vat & Service Tax

NRI Buyer's Guide
Mr. Shah had dreamt of purchasing a home someday. He shortlisted construction projects that fell within his budget of Rs.1 crore. However, as he readied to pay, he wondered about the actual cost of the flat. Mr. Shah had to pay service tax and value-added tax (VAT) in addition to the value of the flat to be constructed. These taxes and charges apply to everyone who is buying a flat. So, let’s try and understand the taxes that can apply on purchase of an under-construction flat and also a ready-to-move-in apartment, as the implications vary on the status of completion.

Under-construction flat

Service tax: The levy of service tax on under-construction properties came into effect from 1 July 2010. The developer of an under-construction property is deemed to be the provider of construction services and is required to deposit service tax, which is applicable at 25% of the gross value of an under-construction unit. This abated value represents the service component in the case of construction activity. The effective rate of service tax due to the abatement is 3.09% of the value of the property. However, with effect from 1 March 2013, for flats above 2,000 sq. ft or that cost Rs.1 crore and more, service tax is applicable at 30% of the gross value resulting in an effective service tax rate of 3.71%. The above abatements are subject to the condition that gross value charged from the buyer includes the value of land. Buyers are also charged additional amounts towards provision of certain facilities such as preferential location, car parking, club membership, electrical installation, fire-fighting equipment installation and others. All such charges would generally be subject to service tax. However, no abatement would be available on it and service tax will be applicable on the total value charged at 12.36%. Exemption of service tax is provided with respect to construction of a single residential units or construction of low-cost housing up to carpet area of 60 sq. mt. per house in housing projects that are approved by a competent authority.

VAT: This is levied on sale of goods for a consideration. It is important to note that a sale transaction, to attract VAT, should involve transfer of ownership in goods from one person to another. “Goods” include moveable properties. For an under-construction property, the ownership of goods is transferred during incorporation and the activity qualifies as works contract under VAT law. Various state authorities have imposed VAT on sale of under-construction flats. In 2006, the Maharashtra government imposed 5% VAT on sale of under-construction flats. The Karnataka government issued a circular in 2009, clarifying issues pertaining to levy of VAT in cases involving “agreements for sale” and “joint development agreements”. The governments of Haryana and Delhi also followed suit and levied VAT on the sale of under-construction flats. VAT was made applicable on a notional percentage basis depending on the stage of completion of the property in question at the time of sale agreement. The taxable value of the property is determined as per the valuation mechanism prescribed under the respective state VAT laws and the applicable rate may vary between 4.20% and 13.125% in Haryana and 3% and 12.50% in Delhi, depending on the valuation mechanism adopted.

Ready to move in flats

Service tax: Service tax is levied when one person provides services to another for a consideration. In case of an under-construction property, the builder is deemed to be undertaking construction services for the buyer. But for a ready to move in apartment, the scenario is different provided the sale agreement is not entered into or payment has not been made before the completion certificate is issued. As the property would already be constructed, the builder or developer would not undertake any construction activity on behalf of the buyer, but the construction undertaken earlier would be for the builder’s self and hence will not attract service tax. Therefore, sale of a completed apartment after issuance of completion certificate will not attract service tax as there is no service provided by the builder to the buyer.

VAT: Goods are defined to include moveable properties. Hence, sale of a constructed unit, which is an immovable property, will not qualify as goods and accordingly will not attract VAT. State VAT spotlight on builders and developers Consequent to the introduction of VAT by various state governments on under-construction properties, developers from Maharashtra and Karnataka filed litigation suits. The Supreme Court, in the judgement of Larsen and Toubro, while confirming the levy of VAT on agreements for sale of under-construction units, stated that when an intending purchaser books a flat before completion of construction, the construction made by the developer can be said to have been executed under a works contract with the purchaser. However, when a flat is sold after construction, there is no works contract and it is a sale of immovable property, hence no VAT is applicable. The effect of the judgement is very far reaching, as every state government would now aggressively pursue developers who have not been paying VAT on sale of flats that are under construction.

Buyers should factor in the various tax costs while budgeting for a house so that they are prepared for the necessary payments that could arise.