GUEST COLUMN

 

Confusion towards measure of VAT on Builders and Developers

 

By B. L. Gupta, Additional Excise & Taxation Commissioner, Haryana (Retd.)

 

Problems in real estate sector: The real estate sector in India is going through a difficult phase as unsold inventory is adding up and the buyers are not coming forward to book or buy even the fully equipped flats/units. The metros and the NCR Delhi are the worst affected. What has led to this situation requires deep analyzing of the issues? The delay in delivery and not honouring the terms of the contract are some major factors and the buyers who are generally end-users now want to buy units where possession and keys are offered simultaneously.

 

Demand of VAT from the developers: Now the State Governments are demanding VAT on sale of these units from the developers retrospectively from the date of their liability and as a result the developers are asking this VAT demand from the buyers even in cases where the possession has been given years ago and or possession has been held up for want of VAT payments from the buyers. In the NCR Delhi area there have been specific query from the buyers and they allege cheating and breach of trust by the developers. In fact the States have become more active after the decision of the Hon’ble Supreme Court of India in the case of M/s. Larsen and Toubro Ltd Vs State of Karnataka and another, decided on 26.9.2013, reported as 2013-VIL-03-SC-LB. Though the earlier decision of the Hon’ble Supreme Court in K Raheja Development Corporation vs State of Karnataka, 2005-VIL-07-SC, had already held the builders liable to VAT being work contractors for the prospective buyers of the flats/units. But some states and particularly the assessing authorities in Haryana hesitated in proceeding to levy VAT on developers as the K Raheja Development case was referred to the larger bench and the decision of the larger bench came in 2013 only.

 

Measure for Levy of VAT

There is confusion amongst the developers and the authorities in determining the value liable to VAT. The model of business in the industry is that the developer gets the necessary approvals from the competent authorities for construction and sale of the units and start booking the built up units by entering into agreements with the buyers. It is also seen that in most of the cases the construction work is not done by the developer himself but entrusted to a third party who works as a sub-contractor for the developer. So the property by theory of accretion passes from this sub-contractor and not by the developer and it is this value of the goods used in the construction of the work which is liable to VAT. This has been repeatedly held by the Hon’ble Supreme Court and affirmed in the Larsen and Toubro case (supra). So there should be no doubt and hesitation amongst the tax experts.

 

Major decisions and their crux:

(i) The Hon’ble Supreme Court in a landmark decision on 17^th November 1992, in the case titled as M/s Gannon Dunkerley And Company Vs State Of Rajasthan 1992-VIL-01-SC held that taxable event is the transfer of property in the goods involved in the execution of a works contract. The said transfer of property takes place when goods are incorporated in the works. Hence, value of goods at the time of incorporation in the works can constitute measure for levy of tax. Taxing the sale of goods element in a works contract is permissible even after incorporation of goods provided tax is directed to the value of the goods at the time of incorporation and does not purport to tax the transfer of immovable property. That the value of the material at the time of the incorporation into the work can be taxed in the works contract. Cost of incorporation of the goods in works contract cannot be made part of measure for the levy of tax. It was further permitted to have a uniform rate for works contract. This rate may be different from the rates applicable to individual goods. The decision still holds for the purpose of levy of VAT on work contracts. The Hon’ble Supreme Court vide its decision in Larsen and Toubro case 2013-VIL-03-SC-LB has only confirmed that the developers are liable to VAT vis-à-vis the buyers of the units being work contractors but the VAT liability will have to be worked out at the time of incorporation of goods.

 

(ii) In the case of State of Andhra Pradesh and others v/s Larsen & Toubro Ltd 2008-VIL-30-SC the Hon’ble Supreme Court held that once the work was assigned by the main contractor to the sub-contractor, the main contractor ceased to execute the works contract because the property passed by accretion (growth) and there was no property in the goods with the main contractor. Thus in such a case the work executed by the sub-contractor resulted only in a single transaction and not multiple transactions and main contractor cannot be taxed. In this case, the issue before the Supreme Court was whether a turnover of Rs.111.53 crores of the sub-contractors was liable to be added to the turnover of L&T. The Supreme Court noted that once the work is assigned by L&T to its sub-contractor, the former would cease to execute the work contract in the sense contemplated by Article 366(29A)(b) because the property would pass on accretion and there was no property in the goods with the contractor which was capable to re-transfer, whether as goods or in some other form. In that context the Supreme Court held that if the submission of the Revenue were to be accepted, that would result in a plurality of deemed sales which would be contrary to Article 366(26-A)(b) of the Constitution and may also result in double taxation.

 

Mode of Valuation:

What should be mode of valuation of goods in a work contract? The mode can be by “deduction method” as is generally the practice under the VAT laws. But under deduction method there is unnecessary confusion in determining the taxable turnover of the developer on the amount received from the buyers. As the flats are built by outsourcing the work to a third party work contractor (sub-contractor) and in rarest cases the work may be done himself by a developer, so the value of goods at the hands of the sub-contractor is liable to VAT and no further value can be made liable. Where the work is done by the developer himself in such a case the taxable liability is to be determined in terms of the agreement and goods involved and transferred.

 

(ii) If the VAT has been paid on the value of the material at the time of incorporation by the sub-contractor then the developer shall not be liable to pay VAT. The developer cannot be asked to pay any VAT on the amount collected by him from the buyers over and above the taxable turnover amount in the hands of the sub-contractor as the sub-contractor has paid tax on whole of the material and no goods were transferred by the dealer company on its own to the buyers. This view has been confirmed by the Kerala High Court in case of M/s Surya Constructions Vs State of Kerala, 2014-VIL-358-KER relying upon the judgment of Hon’ble Supreme Court in case of M/s State of Andhra Pradesh Vs Larsen & Toubro (supra).

 

(iii) The sub-contractor undertakes work by reason of the agreement with the developer for consideration and once the work is complete he is bound to handover the property to the developer even in cases where there is no buyer. So the tax liability is for the work between the developer and the sub-contractor.

 

(iv) Yes if the developer supplies part of the goods to be incorporated in the works then these goods are liable to VAT in the hands of the developer and the sub-contractor as per law in terms of the agreement entered into between them.

 

(v) Hence, there should remain no confusion as regard to deduction of value of land in the hands of the developer. Prescribing of rules for land deduction or deductions for different stages of construction become irrelevant.

 

(vi) Under the Haryana VAT Act, 2003 the provision contained in section 42(2) is quite clear and it absolves the contractor of any VAT liability if the sub-contractor has paid the tax in full on the same work contract. The Hon’ble Punjab and Haryana High Court has also upheld this view in the case of M/s. CHD Developers Ltd Vs State of Haryana 2015-VIL-173-P&H.

 

(vii) Further, where it is not possible to arrive at the taxable turnover by applying deduction method there is no harm in determining the same by adding the expenses incurred in transforming the goods at saleable stage which are liable to tax in the light of the Hon’ble Supreme Court decision in the case titled as M/s Gannon Dunkerley And Company Vs State Of Rajasthan 1992-VIL-01-SC.

 

Conclusion:

Finally it can be said that if the actual business model and the agreements between the developer and the sub-contractor are read between the lines and the different judicial pronouncements are applied then there is no tax confusion or controversy. But the developers will also have to be fair enough in charging and collecting tax from the buyers and they cannot cheat or overcharge them.

 

Author is Additional Excise & Taxation Commissioner, Haryana (Retd.), he can reached at blgupta.aetc@gmail.com

 

Disclaimer: Views expressed are strictly personal. The content of this document are solely for informational purpose. It doesn’t constitute professional advice or recommendation.