Service tax implications – Real estate & Construction business - By Udit Mathur

Real estate sector deals in the rarest resource of our country i.e land, with the growth in the economy, market of real estate is becoming more and more competitive and more complex. Since we know service tax in constituted by central government for bring the services under the taxable area in the indirect form of taxation it is being very important to know the implication of this on one of the major sector of the Indian economy which is still unregulated.

Real estate sector could be divided into 2 forms:

1.      Construction business

2.      Renting and trading in real estate property

Real estate construction business – detailed

In real estate construction business a person constructs the immovable property for the users. This construction could be as a work contract or complete development of that civil or private structure.

U/s 66E of the finance act, 1994, 9 services have been constituted as declared service, which are covered under the definition of service u/s 65B (44), clause (ii) of section 66E covers construction of complex, buildings, civil structures etc.

Section 66E(ii) has specially provided for the confusion that had been occurred in the earlier period of laws , there is a thin line of difference between the interpretation of the construction of property intended for sale, as a “sale of immovable good” or “services of construction of property”. One could call it as a transfer of immovable property which could make the transaction out of the virtue of service tax.

Hence to solve this confusion, section 66E(ii) had made exclusion for only those transaction where the entire consideration for the property has been given to developer after completion of construction of the property. To understand the time of completion of construction provision has put the burden on “competent authority”, these authorities include followings:

-          Architect registered with the council of architecture

-          Chartered engineer registered with the institution of engineers (India)

-          Licensed surveyor of the respective local body of the city or town or village or development or planning authority.

In depth analysis of section 66E(ii)

What constitute “construction” in the eye of section 66E(ii) ?

Construction been a wide term, it include the additions, alterations, replacements or remodelling of any existing civil structure.

Are only those construction which are done with the intention of sales are covered?

Yes, construction done with the intention of sale are only covered, hence donation and gifting is not covered under the provisions of service tax.

Whether construction done by unincorporated association for its member with an intention of sale would be charged to service tax?

In respect of this question answer is hidden in explanation 3 of section 65B(44) which clarifies that concept of mutuality does not apply to service tax provision hence construction done would be covered under service tax because these are treated as two distinct person.

Now as that we had understood what kind of construction constitutes services, the question is the amount at which service tax has to be charged?

In construction business framework of work could be where the material for construction are provided by service receiver or buyer and assesses is involved in providing construction services only whereas the other framework possible could be of a work contract where both material and construction services has to be provided together.

In case of work contract it has been specifically provided to take the service portion of work contract under section 66E (viii) but it is difficult to differentiate the amount of service from the total bill amount charged hence to resolve this issue central government has notified rule 2A of service tax (determination of value) second amendment rules, 2012 under which following 2 methods are defined:

1.      Deduction method

2.      Abatement method  

Deduction method – in this method service value is determined as gross value of amount charged minus transfer of property in goods involved in the execution of work contract.

Value of goods transferred in execution of work contract has to be as per vat laws if applicable. Gross amount charged should not include VAT.

Abatement method – to avoid the complexity of deduction method, in abatement method fixed percentage of total amount has been deemed as the value of service where total amount means the gross amount charged plus fair market value which need to be determined in accordance with the generally accepted accounting principles of those supplied by service receiver either in same or other contract of which no amount is charged by receiver, following are the percentage:

Nature of work contract	% of total amount
For execution of original works	40%
For maintenance or repair or reconditioning or restoration or servicing of any goods	70%
Other work contract	60%

Under this method no CENVAT credit of duty paid input goods are allowed but input services and capital inputs are allowed.

By notification 09/2013 dated 08/05/2013 abatement is provided to the taxable construction services, this abatement is allowed only where the total value of construction service includes the cost of land also, other conditions are similar to those of abatement method of valuation of taxable service portion of work contract; following are the rates of abatement:

Particulars	Percentage of abatement
For a residential unit satisfying both the following condition; I) the carpet area of the unit is less than 2000 sq. Ft. Ii) the amount charged for the unit is less than rs. 1 crore.	75 %
Other than those above	70 %

By notification no. 30/2012 service portion of work contract provided to business entity registered as body corporate located in taxable territory should be covered under reverse charge mechanism (RCM) with the ratio of 50:50 for service provider and service receiver respectively, since service only to business entities are covered companies registered u/s 25 of companies act, 1956 would not be covered under RCM. Body corporate includes limited liability partnership (LLP) as under section 3(1) of limited liability partnership act, 2008 LLP is termed as body corporate.

If the case is covered in above notification, it is the separate decision by service provider and service receiver to select one of the above mentioned methods of valuation for service portion hence both can opt for different method.

If the framework of construction activity is of work contract nature, point of taxation would be only date of receipt if payment is above Rs. 1000/- since work contract has been notified as continuous services under rule 2( c) of point of taxation rules,2011, by notification no. 38/2012 issued by central government. 

Implication of exemption under u/s 66D and notification no. 25/2012 on construction business:

There is no specific exemption for construction business in negative list u/s 66D

Under the notification no. 25/2012 –

“12. Services provided to the government, a local authority or a governmental authority by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of -

(a)  a civil structure or  any other original works meant predominantly for  use other than for commerce, industry, or any other business or profession;

(b)  a historical monument, archaeological site or remains of national importance, archaeological excavation, or antiquity specified under the ancient monuments and archaeological sites and remains act, 1958 (24 of 1958);

(c)    a structure meant predominantly for use  as (i) an educational, (ii) a clinical, or  (iii) an art or cultural establishment; 

(d)  canal, dam or other irrigation works;

(e)  pipeline, conduit or plant for (i) water supply (ii) water treatment, or (iii) sewerage treatment or disposal; or

(f)    a residential complex predominantly meant for self-use or the use of their employees or other persons specified in the explanation 1 to clause 44 of section 65 b of the said act;

13.  Services provided by way of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation, or alteration of,-

(a)     a road, bridge, tunnel, or terminal for road transportation for use by general public;

(b)     a civil structure or  any other original works pertaining to a scheme under jawaharlal nehru national urban renewal mission or rajiv awaas yojana;

(c)      a building owned by an entity registered under section 12 aa of the income tax act, 1961(43 of 1961) and meant predominantly for religious use by general public;

(d)     a pollution control or effluent treatment plant, except located as a part of a factory; or a structure meant for funeral, burial or cremation of deceased;

14. Services by way of construction, erection, commissioning, or installation of original works pertaining to, - (no maintance or repair work is covered under clause 14)

(a)  an airport, port or railways, including monorail or metro;

(b)  a single residential unit otherwise than as a part of a residential complex;

(c)   low- cost houses up to a carpet area of 60 square metres per house in a housing project approved by competent authority empowered under the ‘scheme of affordable housing in partnership’ framed by the ministry of housing and urban poverty alleviation, government of india;

(d)  post- harvest storage infrastructure for agricultural produce including a cold storages for such purposes; or

(e) mechanized food grain handling system, machinery or equipment for units processing agricultural produce as food stuff excluding alcoholic beverages;”

Real estate renting and trading business – Detailed

In this part of real estate business assesse primary deals in renting of immovable property or is involved in purchase and sale of immovable property or maybe involved in the real estate broking activity.

As it is specially clarified in section 65B (44) that transfer of title of immovable property does not amount to service hence the trade in immovable property does not covered under service tax and totally out of question.

Whereas while in renting of immovable property, it is a declared service u/s 66E(i) it covers renting of immovable of any kind or in any manner except those specially exempted u/s 66D or any exemption notification.

Exemption/deduction from service tax on renting of immovable property:

1.      Under section 66D – Negative list

a.       Any services by RBI

b.      Renting of vacant land in relation to agriculture or agriculture produce.

c.       Renting of residential dwelling for use of residence.

2.      By mega exemption notification 25/2012

a.       Renting of religious place for general public

b.      Renting for religious ceremony

c.       Renting of immovable property to educational institute

3.      By notification no. 29/2012

Proportionate deduction of property taxes paid to local bodies for the period for which property was being rented. 

Abatements under notification no. 26/2012

Under clause 6 renting of hotels, inns, guest houses, clubs, campsites or other commercial places meant for residential or lodging purposes are eligible for 60% abatement with the condition that no cenvat credit of input goods or capital goods are taken.

Place of provision for real estate & construction business

The place of provision of services provided directly in relation to an immovable property, including services provided in this regard by experts and estate agents, provision of hotel accommodation by a hotel, inn, guest house, club or campsite, by whatever, name called, grant of rights to use immovable property, services for carrying out or co-ordination of construction work, including architects or interior decorators, shall be the place where the immovable property is located or intended to be located.

By Udit Mohan Mathur

CA Final

09993238124

udcreation92@gmail.com

Estimated date of result for IPCC & Final May, 2014

There has been a news that in the National convention held at Indore in the month of July that..

Vice President of ICAI Mr. Manoj Fandis has spoken about the results awaiting for May,2014 he has expressed his view to announce the results by 9th of August,2014.

Hoping for the best !!!

Section 234E : Again an Stay order

After Kerala , Karnataka, Rajasthan & Mumbai High courts now Orissa High Court in the case of Partha Sarathi Das Vs. UOI & Ors. (Odisha HIgh Court) had given stay order for recovery of penalty under section 234E on the matter of legalitity & validity of section 234E.

The case is represented by Mr. Tushar Kanti Satpathy, Advocate.

Download case file:- 

http://taxguru.in/wp-content/uploads/2014/07/Orrissa-HC-234E-TAXGURU.pdf

Section 2(22)(e) Deemed Dividend - Everything you need to know

Introduction

Section 2(22)(e) of Income Tax Act,1961 has been one the most helpful provision for checking the evasion of Income Tax. It has been introduced in the Finance Act, 1955 and this had created a vibration in the economy and tax laws because for the first time the Loans & Advances to shareholders are treated as Income for Shareholders. There had been a question of Constitutional Validity of this provision which has been in favor of revenue in the case of Navnitlal C. Jhaveri v K K  Sen, AAC [1965] 56 ITR 198 (SC).

Why the Section 2(22)(e) introduced??

In a case held at Delhi High Court CIT v. Raj Kumar (2009) 181 Taxmann 155 the following para were written which explains the reasons very well:

“Section 2(22)(e) of the Income Tax Act, 1961 plainly seeks to bring within the tax net accumulated profits which are distributed by closely held companies to its shareholders in the form of loans. The purpose being that persons who manage such closely held companies should not arrange their affairs in a manner that they assist the shareholders in avoiding the payment of taxes by having companies pay or distribute, what would legitimately be dividend in the hands of shareholders, money in the form of advance or loan.”

Extract from Section 2(22)..

 “(e)  any payment by a company, not being a company in which the public are substantially interested, of any sum (whether as representing a part of the assets of the company or otherwise) ⁹⁷[made after the 31st day of May, 1987, by way of advance⁹⁸ or loan to a shareholder⁹⁸, being a person who is the beneficial owner of shares (not being shares entitled to a fixed rate of dividend whether with or without a right to participate in profits) holding not less than ten per cent of the voting power, or to any concern in which such shareholder is a member or a partner and in which he has a substantial interest (hereafter in this clause referred to as the said concern)] or any payment by any such company on behalf, or for the individual benefit, of any such shareholder, to the extent to which the company in either case possesses accumulated profits⁹⁹ ;……..” there are some exception which does not be included in definition of dividend.

Scope of Deemed Dividend

From a Bird View of the provision we could bifurcate the clause into the following 5 Checkpoints.

A.      Nature of Payments 

B.      Types of Company

C.      Persons to be Charged of

D.      Amount

E.       Point of Charging

A.      Nature of Payments :-

·         Providing Loans and Advances for or on behalf of Individual benefits of such Shareholder. Except when Loan or advance is granted in the ordinary course of its business and    lending of money is a substantial part of the company’s business.

·         Loan or Advances can be with Interest or without interest.

·         A notional payment by way of book entries will not be included it has been clarified in G.R. Govinda Rajolu Naidu v CIT (1973) 90 ITR 13 (Mad). Where the Court has given the emphasis on outgoing or flow of money from the company to the shareholder.

·         Early payments of any future Liability which is not yet due is define as Advances in - CIT v Srinivasan (K.) (1963) 50 ITR 788 (Mad) 

·         To Elaborate into the term “Advances” Delhi High Court applied the rule of construction of noscitur a sociis, which lead to a result that the advances which are obligated to repayments are only covered in Section 2(22)(e) for example Advances for Supplies to give them a commercial transactions are not covered in this provision. This is still not a settled matter and Courts has given some contraventional views.

·         Some of the Case Laws are as Follows :

o   ACIT v Harsad V. Doshi (2011) 49 DTR 181 (Trib) (Chennai), Imprest Balance by Directors are not covered in definition of Advances.

o   M.D. Jindal v. CIT [1986] 28 Taxman 509 (Cal.), Advances in kind are also covered under the Provision.

·         Payments on behalf of or for the individual benefit of such shareholder

o   In the Case of CIT v. L. Alagusundaram Chettiar[1977] 109 ITR 508 (Mad.), Company gives Loan to employee and employee gives loan to assesse on the same date, held liable to deemed dividend.

·         Exception of Clause (ii) of Section 2(22) had made it Loans and Advances in case of Ordinary course of Business which has a substantial part of business, out of this provision, but still in depth there is a need to understand these terms.

o   In the case of Jhamu V. Sughend v DCIT (2006) 284 ITR (AT) 82 (Mum) court has relied upon the de facto of the Situation in case and relied that no license of finance is required to prove the Ordinary Course of Business as Lending Business.

o   In the case of CIT v V.S. Sivasubramaniam (1998) 231 ITR 656 (Mad) Madras High Court has ruled that ‘Ordinary course of business’ shall mean that the loan or advance should be given to such shareholder at the same rate and terms as it is given to other borrowers.

o   To substantially is required to be checked on case to case basis no test rules had been ruled yet.

B.      Types of Companies:-

Only Loans and Advances from Closed held companies are covered in this provision and there is no distinguish between Indian and Foreign Company has been done in the provision which make this section applicable on Foreign Companies also but still subjected to DTAA. In define the term closed held no elaboration has been given in the Act but in general context it means in which public is not a substantially interested. Section 2(18) defines “Company which is having substantially public interest “which is as follows:

a.       Government Companies (40% or more by Government / RBI).

b.      Company u/s 25 of Companies Act, 1956

c.       Not Having Share Capital and declared by the Board to be such company.

d.      Mutual Benefit Finance Company

e.      Company >50% Equity Shares are with Co-operative Societies.

f.        Public Co. Listed on Recognized Stock Exchange.

f.

   Some of the proved Definition of Closely held companies are:

1.       Private Limited Company

2.       Public Limited Company not listed on Recognized Stock Exchange.

C.      Persons to be Charged of :-

·         Shareholder Having 10% or more voting power of Beneficial Interest in the company

·         Above person having a share with the fixed rate of Dividend i.e. Preferential Shares are not covered.

·         Loans and Advances Given to…

o   HUF, Firm, AOP, BOI, Company in which shareholder is a partner or Member and have substantial interest I.e. 20% or more of income of that concern belongs to shareholder.

o   Beneficiary Shareholder Only – The one who does not appear in Register of Members but have beneficial Interest.

·         If Payment is to a concern of which assesse is a shareholder

o   Only if Substantial Interest in the concern.

o   Explanation 3(b) to Section 2(22) defines Substantial Interest:-

§  Other than Company – beneficially entitled by not less than 20%

§  Company – beneficially had 20% or more.

o   Such a Loans & Advances would be added in the total income of Shareholder and not that concern.

§  This is a settled issue by the following judgments.

·         CIT v. Ankitech (P) Ltd. (2011) 11 taxmann.com 100 (Delhi)

·         CIT v. National Travel Services (2011) 202 Taxmann 327 (Delhi)

·         CIT v Universal Medical Pvt. Ltd. (2010) 190 Taxman 144 (Bom)

D.      Amount To Be Taxed:-

Amount of Advance or Accumulated Profits (Whichever is higher)

·         Accumulated Profits is a wide term and need to be defined in depth.

o   Supreme Court has ruled that Accumulated Profits should be seen in the light of commercial profits and not the assessed income, refer P.K. Badiani v. CIT (1976) 105 ITR 642 (SC)

o   Depreciation should be at the Rates of Income Tax Act,1961

o   Accumulated Profit Should be up to the date of Payment of Loans & Advances or say Distribution as per Expl. 2.

§  Supreme Court has been against this in the case of CIT v. Ashokbhai Chimanbhai (1965) 56 ITR 42 (SC) by ruling that “The profit accruing during the year cannot be considered as an accumulated profit for the purpose of section 2(22).

o   Accumulated Profit is to be see as a whole sum not the share of particular shareholder, this statement is supported by CIT v. Bhagwat Tewari (1975) 105 ITR 62 (Cal.)

·         Popular Judgments to define Accumulated Profits are as follows :

o   CIT v. MAIPO India Ltd. (2008) 24 SOT 42 (Delhi) - Security Premium should not be included.

o   S. Kumaraswami v.ITO [1961] 43 ITR 423 (Mad.) – Income From Exempt Sources are also Covered in Accumulated Profits.

o   CIT v V. Damodaran (1972) 85 ITR 59 (Ker.).  – Provision for Tax & Dividend are not to be included

·         No Income once added as deemed dividend would be added under this provision even if not adjusted in Books for Accounts, refer P. K. Badiani v. CIT (1976) 105 ITR 642 (SC)

E.       Point of Charging :-

As per Section 8(a) “Deemed Dividend” accrues in the ‘previous year’ in which the payment.

No Amount derived from Carry Forward of Loan could not be treated as Deemed Dividend. – Refer CIT, Panaji – Goa v. Parle Plastics Ltd. (2011) 196 Taxmann 62 (Bom.)

By Udit Mathur
CA Final Student
09993238124