This judgment is likely to cause a series of disputes between the department, builders and the property buyers resulting in plethora of litigation. Read on for more details.
The Delhi High Court recently held that service tax shall not be levied on purchase of under construction flats. Under the current framework Service tax at 15% is to levied on 25% of the consideration value.
The tax is levied only on 25% of the entire consideration, as this magic number is set by the Central Board of Excise and Customs (“CBEC”) to be the service component involved in a purchase of a property.
In the case in hand, one Mr. Suresh Bansal had entered into an agreement with a builder to buy flats in a group housing project, being developed in Noida, Uttar Pradesh. The builder recovered service tax from Bansal which is payable by him for services in relation to ‘construction of complex’ and on ‘preferential location charges’. Bansal challenged the empowering Section 65 (105)(h) of the Finance Act, 1994 (the ‘Act’) and the explanation to Section 65 (105)(h) of the Act introduced by virtue of Finance Act 2010 as being ultra vires of the Constitution of India.
The issues placed before the Court for determination were as under:
Upholding the center’s competency to levy service tax, the Court held that imposition of service tax in relation to a transaction between a developer of a complex and a prospective buyer does not impinge on the legislative field reserved for the States under Entry-49 of List-II of the Seventh Schedule to the Constitution.
The High Court further held that object of taxing services in relation to construction of complex is essentially to tax the various services that are involved in the construction of a complex and the resultant value created by such activities. Service tax is essentially a tax on the value created by services as distinct from a tax on the value added by manufacturing goods.
A developer directly or through subcontractor carries on myriad of activities for construction of a complex which apart from construction of buildings also involves planning, preparation of a layout plan, development of land, construction of sewer lines, development of infrastructure for supply of electricity and water, etc. In such cases, it cannot be disputed that no services are rendered by a builder.
Indisputably the arrangement between the buyer and the builder is a composite one which involves not only the element of services but also goods and immovable property and thus, the Parliament is competent to tax the element of service involved. However, the levy itself would fail if it does not provide for a mechanism to ascertain the value of the services component which is the subject of the levy. In the present case the magic number of 25% determining the service component finds its genesis in a 2012 CBEC notification and as such it cannot substitute the lack of statutory machinery provisions to ascertain the value of services involved. For the purposes of ascertaining the value of services, the Central Government has made Service Tax (Determination of Value) Rules 2006. However, none of the rules provides for any machinery for ascertaining the value of services involved in relation to construction of a complex. The abatement to the extent of 75% by a notification or a circular cannot substitute the lack of statutory machinery provisions to ascertain the value of services involved in a composite contract.
As regards the preferential location charges, the Court held that there is an element of service involved in the preferential location charges levied by a builder as these charges are charged by the builder based on the preferences of its customers. They are in one sense a measure of additional value that a customer derives from acquiring a particular unit and thus can be subjected to service tax.
The Court declared the explanation to Section 65(105)(h) of the Act, to the extent that it seeks to include composite contracts for purchase of units in a complex within the scope of taxable service as invalid and further directed the department to refund the amount collected by the builder as service tax with interest at the rate of 6% from the date of deposit till the date of refund.
While upholding the parliament’s competency to levy service tax on purchase of immovable property, this judgment holds that the law as it stands today does not clearly spell out the consideration paid for the services one avails while purchasing an immovable property from a developer. Due to this lacuna in the current legislative framework service tax cannot be levied nor collected by the developers. The machinery provision for computation of the service element must be provided in the Act or the Rules itself.
The operation of this judgment will be limited, as it is binding upon a single judge of the Delhi High Court and all the Courts falling under the jurisdiction of the Delhi High Court. Since this judgment is contrary to the view upheld by the High Courts of Bombay and Karnataka, the judgment rendered by those courts will be operational within their jurisdiction, while it may have a persuasive value before other Courts across India.
Given the fact that builders have been collecting service taxes and the contrary views amongst High Courts, this judgment is likely to cause a series of disputes between the department, builders and the property buyers resulting in plethora of litigation. This judgment is likely to cause a significant revenue loss for the centre. While implementation of GST is a distant dream, we can expect either an amendment to the Finance Act,1994by the Parliament to immediately remedy this lacuna or a challenge by the department before the Supreme Court along with a plea seeking an ad-interim stay on the operation of this judgment
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