Service Tax department may appeal against tax relief for under construction properties

Those buying under construction property may not have to pay service tax. The recently-announced Delhi High Court judgement has said that there is no provision to calculate the value of service in a deal between a builder and a buyer. While the judgment will definitely apply to buyers within the Delhi jurisdiction, it could also have an impact on property deals in other states. The judgment also says that buyers who have purchased property after 2012 should be refunded the service tax. The tax department is likely to appeal against the order, say experts.

REALTY CHECK

• Service tax on under-construction property was introduced in 2012, when it was not included in the negative list of services
• Service tax is calculated on 25% of the property value, assuming 75% is the cost of land
• Service tax is 15%, so it effectively works out to 3.75% of the total property value
• While the order will hold good in Delhi, buyers elsewhere can use it to justify not paying the tax

(1)Today buyers have to pay 15% service tax on an under construction property. The rationale is that since the builder is providing the service of construction, the buyer has to pay tax on that service.

(2) Service tax is not charged on the entire property value. It can be calculated in two ways. One is to deduct the value of the land and value of goods and services from the total value of the property. The service tax is then charged on the remaining amount. Another way is to assume that value of land is 75% of the property value and construction costs account for the remaining 25%. Service tax is calculated on the 25%. For example, if the property value is Rs 1 crore, the value of construction is deemed to be Rs 25 lakh and service tax of 15% is levied on Rs 25 lakh. This works out to about Rs 3.75 lakh.

(3) Service tax is a central subject and is paid to the central government. The builder collects service tax from buyers and passes it to the government.

(4) The petition filed in the Delhi High Court argued that flat buyers are not liable to pay service tax since it is difficult to determine the value of service in construction. The High Court in its judgement said that there is no rule or mechanism as per law to bifurcate the value of land. Hence, service tax cannot be charged. Since construction of property is technically creation of immovable property, the transaction is similar to transfer of land. And since land is a state subject, the central government cannot levy service tax on it.

(5) But the High Court said that tax can be charged on selection of property, such as charges for floor rise, since it is a value addition provided by the builder.

(6) The Court also said that buyers who have purchased flats in 2012 (which is when service tax was introduced) should be refunded the service tax with an interest of 6%.

(7) Most experts say the tax department is likely to appeal against the order. But until the order is stayed, flat buyers can take the stance that they will not pay service tax. While the law holds within Delhi, it could also have an indirect impact in other cities. Buyers can argue against paying service tax using the Delhi High Court's order as a precedent.

(8) But builders may have to deposit the service tax to the government. Because if it is upheld then they could be charged penalty for not depositing the tax on time. This could put additional burden on builders.