In an important recent decision, the Mumbai High Court has dismissed several writ petitions which had challenged the constitutional validity of the amendments made to certain definitions in service tax law relating to construction activities, vide the Finance Act 2010. As a consequence, the service taxation of construction activities appears settled and this is also a precursor to the likely treatment of such activities under the impending GST.
In Maharashtra Chamber of Housing Industry and Another Vs. Union of India and Others (2012-TIOL-78), the Mumbai High Court considered the amendments to the definitions of certain services relating, in the main, i) to services in relation to construction of complex and ii) commercial and industrial construction services, being the two major headings relevant thereto. The Finance Act 2010 had introduced an Explanation to these two headings worded 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.]"
As can be seen, this Explanation deemed the construction of a building by a builder etc. as a service to the buyer of the building, if it was intended for sale, wholly or partly, before during or after construction. The only exception was in regard to cases where no sum was received from the buyer or on his behalf by the builder etc prior to the grant of a completion certificate relating to the building. In other words, the Explanation sought to impose the service tax on all relevant construction activities except in a situation of outright sale of immoveable property. Evidently therefore, the Explanation was a very substantive one.
The petitioners argued that the aforesaid Explanation went beyond the legislative competence of Parliament since the subject matter of the tax, relating to immoveable property, fell within the legislative power of the States, under the relevant Entry 49, List II, of the Seventh Schedule to the Constitution. It was also argued that since the Explanation sought to deem something to be a service when it was actually a sale, that too of immoveable property, the tax was in pith and substance on the sale of land and not on construction. It was submitted that while between the builders and the contractors who constructed the building for a fee, there could be a service, since the title to the building which was under construction vested with the builders at all times, there could be no provision of service on the subsequent sale of the constructed building to the buyers, regardless of the point of time at which the sale of the building took place.
As opposed to the above arguments, it was contended by the Government that the Explanation in question did not seek to tax the transfer of property at all and that the subject matter of the tax was limited to the service rendered during the course of construction. The construction activities on land did not fall within the ambit of the above Entry to the Constitution and hence the Explanation was intra virus. It was further submitted that the Explanation was enacted to plug a loophole in the service taxation of construction activities, whereby an agreement to sell was entered into with the buyers and since the title vested with the builders, the activity of construction was liable to be regarded as a service rendered by the builder unto himself. Consequently, the timing of the execution of the agreement under which the transfer of title took place become crucial, resulting in loss of service tax revenues.
It was this loophole which was sought to be plugged vide the Explanation. The tax however was always on construction services and not on transfer or sale of immoveable property and it was only that the tax was triggered where there was an intent to sell and payments were received from the buyers. It was further argued that construction activities, on a reasonable interpretation, indeed involved provision of services and hence there was nothing unconstitutional about the above Explanation.
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The High Court took note of these submissions and stated at the outset that while interpreting the provisions of the statute, it was important to distinguish between the subject matter or the object of the tax, the incidence of the tax and the machinery of its collection. The taxing event determined the subject matter of the tax. However, the incidence of the tax was distinguished from the taxing event as it identified the person on whom the burden of the tax would fall.
It was well settled that the incidence of the tax was therefore not relevant for construing the subject matter of the tax. It was finally stated that the stage at which the tax was collected would also not affect the nature of the tax. Accordingly, the High Court came to the conclusion that the charge of the service tax under Section 66 of the Finance Act 1994 was on the various categories of taxable services defined in Section 65 thereof. Therefore, the charge of the tax was undoubtedly on the rendering of the taxable services.
The fact that the taxable services in question were rendered in relation to an activity which occurred on land did not mean that the charging provisions would be construed as imposing a tax on land and buildings. The tax was not on the ownership of land nor was it directly imposed on land or buildings. It could not be that the service which was rendered in relation to land could be treated in a manner as to argue that a tax thereon could not be imposed at all by the Central Government, simply because land was a subject matter of State taxation.
The Court took note of the various decisions relating to similar constitutional challenges to taxing statutes, including the principle of pith and substance, and held that the service taxes that were sought to be imposed on construction activities relating to land were intra virus the Constitution.
The Court also upheld the right of Parliament to hold that construction activities were deemed to be inter alia a provision of service, relying on the United Nations classification of products and services in which construction services were specifically delineated.
The fact that even globally such construction activities were treated as relating to services was significant. The Court also took note of the notification issued in regard to these two taxable categories whereby exemption up to 75% of the value of the construction contract was provided and it accordingly concluded that what was being taxed was only the value addition relating to the provision of services on construction activities.
Before concluding, the Court took note of its decision in Retailers Association of India Vs. Union of India - (2011-TIOL-523-HC-MUM-ST) as well as of the Delhi High Court in Home Solutions Retails (India) Ltd. v. Union of India- (2011-TIOL-610-HC-DEL-ST-LB), which had both rejected the Constitutional challenge to the levy of service tax in connection with renting of immoveable property and held that in line with those decisions, where the activities of renting of immoveable property was construed to be a service , a tax on the activity of construction on land was also indeed a tax on services.
It will be interesting to see whether the petitioners take up the matter further to the Supreme Court and what would be the outcome thereat. Further, relating to these matters, the CBEC has issued a recent circular in February 2012 clarifying the service taxation on various models of construction activities. These will be discussed in a subsequent article.
The author is Executive Director,PricewaterhouseCoopers Pvt. Ltd.pwctls.nd@in.pwc.com
Supported by Monika Arora and Pankaj Goel