How Service Tax And VAT Is Calculated On Under-Construction Property

Rakesh (name changed) has always dreamt of owning his own home. Now with a salary increment, he was closer to turning his dream into a reality. He shortlisted a few under-construction properties that met his budget of Rs 60 lakh. However, as he readied himself to pay, he enquired about the actual cost of the apartment from the developer. The cost sheet supplied to him included two additional charges – Value Added Tax (VAT) and Service Tax, which he was unaware about.

Are you also unaware about these additional charges as Rakesh?

If your answer is yes, then you should know that at present Service Tax and VAT are applicable to all under-construction property transactions. Their actual value varies from state to state, depending on where the property is being constructed. However, Parliament recently gave its approval to the Constitution Amendment Bill for the implementation of the Goods & Services Tax (GST). Once GST is rolled out, these and other central and state indirect taxes will be subsumed and a consolidated indirect taxation regime will come into force.  

Note: An under-construction property can be divided into three parts, vis-à-vis its cost components. The first part is the cost of the land and calls for no VAT or service tax. The second part is the cost of material which is liable for VAT. The third part is the cost of construction and involves labour charges and can be treated as a service that is rendered by the developer to the purchaser. Therefore, service tax can be levied on this component.

Let us learn more about these taxes and the calculation behind them.

Service Tax

Service Tax is levied by the Central government on the construction services offered by the developers to buyers. At present, the Service Tax rate in India is 15 per cent.

The basic cost of the property that you pay includes the cost of land and construction. Service tax is applied only on the construction component. Earlier, the calculation of service tax was a bit complicated. The government levied "two rates of abatement for services of construction of complex, building, civil structure, or a part thereof". For a residential unit having a carpet area of less than 2,000 square feet and costing less than Rs 1 crore, there was a 75 per cent abatement. The abatement was 70 per cent of the amount charged for other units. Both were subject to fulfilment of certain conditions.

However, with effect from April 1, 2016, the government (vide amendment to notification No. 26/2012-ST), has standardised the abatement "for services of construction of complex, building, civil structure, or a part thereof, subject to fulfilment of the existing conditions" at a uniform 70 per cent. This now brings the effective service tax on residential property to 4.5 per cent.

For other cost items, such as Preferred Location Charges (PLC), Floor Rise Charges (FRC), initial maintenance charges and club houses, meanwhile, service tax is levied on the entire amount. In all these cases, service tax is a standard 15 per cent. External development charges and infrastructure development charges (EDC/IDC) and lease rent to the extent paid to the state government are excluded from the service tax liability. Parking charges are also exempt from the service tax net.

Service tax is payable only on property purchase directly from developers and is not required in the case of resale property purchase, as there is no service provided.

The service tax exemptions to be continued in GST include services provided by way of pure labour contracts of construction, erection, commissioning, installation, completion, fitting out, repair, maintenance, renovation or alteration of a civil structure or any other original works pertaining to the beneficiary-led individual house construction/enhancement under the Housing for All (Urban) Mission/Pradhan Mantri Awas Yojana (PMAY).

Service tax is not applicable on the construction of a single residential unit such as an independent house, villa or bungalow. Moreover, there is no service tax on the affordable housing segment. Hence, it is not applicable for housing with a carpet area of up to 60 sq mts per house in the housing complex.

VAT

VAT is levied on the sale of goods (movable properties). For any sale to attract VAT, it should involve a transfer of goods from one person to another. In the case of under-construction properties, it is the transfer of ownership rights from the developer to the buyer in the form of a sale agreement, in select states. This tax is governed by the 'works contract' in the VAT law. For instance, VAT is charged at the rate of one per cent of 'agreement value' in Mumbai and Pune and five per cent in Bangalore, but there is no VAT levied on apartments purchased in Noida, Chennai, and Kolkata. For more information on property in Noida, click here.

Who is liable to pay these taxes?

Although it is the responsibility of the developer to deposit the VAT and service tax with the government, they often recover the cost from buyers. It ultimately depends on what the agreement between builder and the buyer provides. If you wish to avoid paying VAT and service tax, please ensure that the same is mentioned in your agreement with the builder.

The expected GST regime

The Union government aims to roll out the Goods & Services Tax (GST) at a standard rate, which is yet to be finalised, across all states of the country. After the implementation of the new indirect tax regime, there will be no separate service tax or VAT levied on real estate transactions. While these taxes were anyway not applicable on ready-to-move-in apartments or resale flats, GST will be charged at one fixed rate, instead of both service and VAT on under-construction properties.

From July 1, GST would be applicable on under-construction properties at the rate of 12 per cent but not on completed, ready-to-move-in apartments. Real estate experts say that stamp duty and property taxes may continue to be levied on immovable properties.

This post has been updated to incorporate changes in rules on applicability and abatement of service tax on construction services.

Also Read: Buying A Home In Karnataka? Know All About Service Tax & VAT

Also Read: Service Tax And VAT On Under-Construction Flats In Chennai

With inputs from Sneha Sharon Mammen