Booked an under-construction house? Read on to find out if GST will help you pinch pennies or pocket them!

Touted as the second largest employer in the country (after agriculture), the real estate sector accounts for nearly five percent of India’s GDP (gross domestic product), projecting a potential growth of 30 percent over the next decade. Supported by a thriving corporate environment, an increasing demand for office and commercial space, a burgeoning middle-class keen on purchasing property in urban and semi-urban areas as well as rising short-term and long-term NRI investments pouring in, the market in this sector is expected to touch US$ 180 billion by 2020. In this article, we will discuss how to calculate gst on under construction property with examples.

Despite such promises for the future, this sector has been plagued by countless challenges that seem to have slowed down its projected growth in recent years. Inventory pile-ups, job loss in most service companies affecting chunky purchases, less than impressive rental yields (stacked at merely 2.2%, pushing India to the lowest of the rung), the insidious impact of recession that has not quite worn off, delay in procuring bank loans as well possession of property itself, are some of the reasons real estate sector has been experiencing a comparatively sluggish growth than its heyday prior to 2007-2008. Inflated tax rates mounted on assistive bank loans, multiple taxes borne by both the developer as well as the buyer, tax burden reflected at the time of actual purchase, and ancillary transparency and corruption issues in this sector are also what dissuades most people from investing in property.

The introduction of GST starting this July though, is being perceived as a beacon of hope for many prospective home buyers who may finally get to realize their dream of owning property in the post-GST era. Especially for those who book flats well before their time of completion, it would help to know how this new regime is set to influence their purchasing decisions, and if they would be pocketing the gains or shelling out some more of their hard-earned money.

The Erstwhile Tax System

As briefly mentioned in the paragraph above, property development as well as its sale in the pre-GST era seemed to have been overwhelmed by a multitude of state and central taxes, which included VAT, service tax, stamp duty and registration taxes, all of which used to be applicable depending on the status of construction of the property and its location itself. For example, purchase of under-construction property would attract the whole gamut of taxes, whereas purchase of completed properties used to attract stamp duty and registration charges alone (VAT and service tax would stand exempted).

Multiplicity of these taxes was not the only complexity that previously faced the real estate sector; it was aggravated in a sense that VAT and applicable charges would be levied at different rates, as specified by each individual state. Additionally, Service tax, a central government tax imposition, would apply to the construction costs, effectively standing at 3.8-4.5% on sale agreement value. This complicated tax mechanism not only bred disparity in property rates across the whole of India, but also became a breeding ground for corruption, and a fool proof arrangement for disproportionately charging innocent buyers who, earlier, had no way of accurately ascertaining the actual components included for calculation of VAT and service tax.

Builders/developers too used to be heftily charged via Central Excise Duty, VAT and entry taxes collected by the state on construction material costs. An additional 15% tax used to be collected as labour, approval and incidental legal charges. Suffices to state that in a bid to make profits over and above the construction costs and the wide range of taxes, developers would price properties at exorbitant rates, making it unviable for the larger pool of urban and semi-urban population to purchase property without feeling drained out economically.

Scenario Post GST-launch

Under the current system, under-construction properties would attract a GST of 18%, which shall be applicable only to two-thirds of the property cost. The remaining one-third of the property shall be considered value of the land, and proportionate costs deducted towards transfer of such land. This essentially means that the effective tax shall be 12% (excluding stamp and registration charges), primarily because the builders/developers would now be able to avail input tax credits. A range of varied taxes - from Customs Duty, Central Sales Tax, octroi, excise duty, entry tax, etc. would be streamlined into one uniform tax. With ITC available on construction materials such as steel and cement, developers can pass on this tax benefit to the customers, thus, calling for a minor 1-3% reduction in the overall property price. An overhaul of the logistics sector and reduced prices in that industry too would augment the performance and stability of the real estate market.

So, GST when applied to the real estate sector is all cause for cheer, right?

As with anything that is too good to be true and is a catch, so is the case with the impact of GST on the real estate sector or GST on flat purchase. Subsumed taxes and transparency in transactions in this sector are the biggest takeaways from GST having arrived in the centre stage of India’s economy. With a single tax regime that no more recognizes a distinction between material cost and labour cost as was the norm under the erstwhile tax regime, builders no longer have the incentive to manipulate and conceal related information from the buyers or the tax authorities.

Developers though, would not be granted the option of availing input tax credit for ready-to-move-flats, or even for flats that are nearing completion (that is, constructed about 90% or so). Home buyers thus, may in fact, have to pay 3-4% more on purchase of ready-to-move-in properties, as, even without considering VAT, service tax and other charges under the calculation head, the GST rate of 12% on under-construction property seems to slightly higher than what used to be imposed before. However, no GST applicability on ready-to-move properties also means buyers do not have to pay any tax.

If any builder/developer however, demands GST on completed properties, one can of course file a complaint regarding the same. Recourse is also available to buyers if developers flout the anti-profiteering clause incorporated in GST rules, thus making builders liable to paying hefty penalties if they do not pass on intended ITC benefits to customers. Admittedly, despite GST being ushered in as a welcome change in the tax infrastructure of the country, there seems to have been a hike of almost 3.5 percent from the previous 8.5% (inclusive of VAT and service tax). In spite of the slight increase in the taxpayer’s burden, buyers, most of whom rely on home loans to fund their property purchase, seem to be open to this move, primarily because it seeks to save them from making complex mathematical calculations, and have a grasp of the different kinds of taxes involved over and above the property rates alone, that was the norm with the earlier tax structure. The present structure not only seems less mind-boggling, and more transparent and smooth, but also less time-consuming.

When it comes to taxation on rental property, persons earning through rental property would be spared the burden of paying tax under GST if they rent out houses for residential purpose. If however, property is rented out for commercial/industrial purpose with an annual income exceeding 20 lakh, a GST of 18% has to be paid. As is evident, unhindered profits are a no-go in post-GST era.

Grey Areas

While positive results have been predicted for the real estate sector (especially for under-construction properties), a few grey areas have popped up as factors that may inhibit transparent growth in this sector.

1. For starters, the basic premise on which GST has been hailed as a saviour in most sectors is due to the availability of ITC industry stakeholders can now make use of, in passing the ultimate benefit to the end customer. It is an idealistic expectation of the Government that builders in the real estate sector would willingly pass on the benefit of ITC to the end consumer, now that they stand to gain on so many fronts. This looks unrealistic on the surface, mainly because while there are guidelines for developers in this regard, at present there is no such mechanism to facilitate buyer awareness and knowledge pertaining to smooth implementation of ITC benefit, or a method by which they can ensure builders/developers are passing on 100% to them, thus making the benefits seem foggy and uncertain.Developers too, are in a dilemma as to the extent of ITC benefits they would be getting from their vendors, and unless they themselves gain from this privilege in actual terms, it is unlikely they would reduce margins to decrease buyer burden on real estate investments. From turnover of the vendor (below or above Rs.20 lakh) to stages of construction of properties (some touching 50% or more), there are numerous challenges builders would have to navigate to even determine ITC benefits accruing to them.And while buyers can certainly resort to the anti-profiteering clause couched under section 171 of GST, there is no credible method by which builders may be compelled to comply with the law. Expectations from developers may be high, but the ground reality remains the same – stakeholders in this sector rarely adhere to the letter of the law, and are more prone to swindling innocent home-buyers. The end result looms large – litigations and disputes may become the order of the day, with buyers losing out on both time and money, thus, defeating the whole purpose of GST.
2. The June 28 notification issued by finance ministry that provides for one-third of the apartment cost to be deducted towards the transfer of the land and pay 18% on the balance amount, has been subjected to multiple interpretations by industry experts. The mandate that buyers would now have to pay tax on the lump sum value (even though said value may include land cost at lower rates) borders on unconstitutional. As quoted by experts in this space, it would have made more sense to exclude the actual land cost or one-third of the land cost, instead of just one-third of the overall apartment price, since in some cases land value may be higher. This could surface as a real challenge when land prices soar; in any case, land value, differs from place to place, and ought to have been included as a factor in calculating GST, instead of determining an arbitrary value without assessment of these related points.
3. Some confusion persists as regards GST imposition on different segments of the housing space – such as luxury and affordable. Also, more clarity remains to be shed on the 5-8% stamp duty charged during registration.
4. Though input tax credit seems to be the highlight of GST, cost of raw materials under this new regime has undergone some minor price changes – on the higher side. For example, cement, paints and plasters are now to be taxed at 28% (up from approximately 23-24% under the previous tax structure). Iron rods and pillars used in construction of buildings would be charged at 18%, whereas bricks used for construction purposes would be kept under the ambit of 28% with an exception of ceramic building bricks which would attract a levy of only 5%. Put briefly, most high quality material used in construction of houses would fall under the GST slab of 28%. In addition to that service charge given to realtors for assistance in sale/purchase of house would see a 3% hike from the erstwhile 15%.

Considering that tax levies on most of these raw materials seem to have seen a minor to significant hike, the net result may end up being roughly the same. With developers paying increased taxes to vendors for these input materials, receiving ITC on these heightened taxes may simply lead to no real net benefit being accumulated at the end.

Conclusion

An overview of the GST impact in this sector can only be assessed accurately when the perceived as well as real effects of GST are surveyed from a standalone viewpoint, much of which shall depend on the law of supply and demand. It is however, a universal sentiment expressed by industry experts that the actual impact of GST in this sector may not be felt in significant ways until considerable time has passed. Short-term challenges might end up overshadowing immediate benefits, with long-term profits taking over in gradual ways – from making simplified tax compliance an integral part of the Indian economy, to bringing in transparency and accountability as well as a permeating effect on ancillary industries, GST in the real estate sector will likely be a boon for all stakeholders involved.

Whether fair play will figure as an inseparable part of the GST mechanism is yet to be seen; however, some high-end realtors have already pulled out all the stops to ensure their lucrative offers are up for grabs for price-conscious homebuyers. From GST waivers, to EMI-free possession schemes topped with hefty bonuses (fully-furnished flats with multiple perks), real estate developers such as Suptertech Limited, Sikka Group, Gaurs Group and the like are keenly marching towards scooping up the most rewarding spots of the real estate market, while abiding by the law.