In continuation of the discussion on taxability of ‘development rights transfer’ under Service tax law prior to July 2012, we present Part II of our article, highlighting the taxability of such transactions after introduction of Negative List regime.
We give you a quick recap of the legal nature of development rights and the modus-operandi generally followed w.r.t. transfer of such rights.
1. What are development rights?
A landowner enjoys various rights with respect to the land, such as cultivation rights, easement rights etc. One of such rights is the right to develop such land into an agricultural, industrial, commercial, residential or for any other purpose.
In other words, these are rights to modify an immovable property by carrying out improvements, constructing building thereon etc.
2. Modus-operandi for transfer of development rights
In the real estate sector, generally, following steps are undertaken with respect to transfer of development rights:
– Developer enters into an agreement with a landowner, wherein the right to develop the land is permanently and irrevocably transferred by the landowner to the developer;
– Developer is given permission to enter the land for the purpose of carrying out the development activity. However, ownership in land continues with the landowner;
– As a consideration for sale of development right, a fixed consideration or a share in sales proceeds or ownership of certain developed area is given by the developer to the landowner;
– Accordingly, the developer acquires exclusive, permanent and irrevocable rights for development and subsequently transfer (by way of sale, lease, license, etc. to end customers) the entire or certain percentage of the developed area (i.e. apartment, units, plots etc.)
– The developer is allowed to further assign the development rights to any other person, but the landowner is precluded from doing so.
3. Relevant provisions under Negative List regime (with effect from 1 July 2012)
With effect from 1 July 2012, Service Tax is levied on all activities provided or to be provided in a taxable territory, for a consideration, other than activities that are:
(a) excluded from the definition of service; or
(b) included in the Negative List; or
(c) specifically exempted;
(d) excluded from the value of services.
The term ‘service’ has been defined under Section 65B(44)of the Finance Act, 1994 as any activity carried out by a person for another for consideration, but it excludes a transfer of title in immovable property, by way of sale, gift or any other manner. Section 65B(44) reads as under:
“(44) “service” means any activity carried out by a person for another for consideration, and includes a declared service, but shall not include—
(a) an activity which constitutes merely
(i) a transfer of title in goods or immovable property, by way of sale, gift or in any other manner; or
(ii) such transfer,delivery or supply of any goods which is deemed to be a sale within the meaning of clause (29A) of articles 366 of the constitution
(iii) a transaction in money or actionable claim;
(b) a provision of service by an employee to the employer in the course of or in relation to his employment;
(c) Fees taken in any Court or tribunal established under any law for the time being in force.
Explanation 1
xxxx
Explanation 2
xxxx
Explanation 3.
xxx”
While, transfer of a title in immovable property is excluded from the definition of ‘service’, the activity of renting of immovable property has been specifically included as a ‘declared service’[1].
Further, renting of immovable property has been defined to include services where the main purpose is to grant to a person access to a particular immovable property including any land or building.
In the above context it is relevant to note that Section 65B of the Finance Act, 1994 states:
“allowing, permitting or granting access, entry, occupation, use or any such facility, wholly or partly, in an immovable property, with or without the transfer of possession or control of the said immovable property and includes letting, leasing, licensing or other similar arrangements in respect of immovable property”
4. Taxability of Development Rights under Negative List regime
(a) Whether development rights can be treated as an ‘immovable property’?
As detailed above, a transaction for transfer/ sale of immovable property is excluded from the definition of service, and is outside the preview of service tax.
The term ‘immovable property’ has not been defined under the Service Tax law. However, as per the General Clauses Act, 1987, ‘immovable property’ also includes benefits arising out of land[2].
The courts in India have consistently held that any right associated with an immovable property also partakes the nature of ‘immovable property.
Accordingly, benefits arising out of land are also in the nature of immovable property.
The courts have also held that rights to develop property and avail benefits arising from such developed property are benefits arising out of land, which cannot be severed from the land. Accordingly, it could be argued that development rights should qualify as ‘immovable property’.
Reliance is placed on the below-mentioned judicial precedents in support of the above paragraph:
- The Hon’ble Bombay High Court in Chheda Housing Development Corporation v. Bibijan Shaikh Farid,[3] observed that Transferable Development Rights (TDR) being a benefit arising from the land must be held to be an immovable property.
- Thereafter, in Sadoday Builders Private Limited v. Joint Charity Commissioner,[4] the Hon’ble Bombay High Court was dealing with Section 36(1)(c) of the Bombay Public Trusts Act, 1950 which necessitated taking permission of the Charity Commissioner for sale of immovable property. The Court held that transferable development rights are benefits arising out of land and must be considered as immovable property.
- In State of Orissa v. Titaghur Paper Mills Co. Ltd., the Supreme Court held that bamboo contract was neither a contract for the sale of goods or lease or the grant of an easement. Rather the same conferred upon the company a benefit to arise out of land, namely, the right to cut and remove bamboos which would grow from the soil coupled with ancillary rights and was thus a grant of a profit a prendre which is a benefit arising out of land.
- Further, in Shakti Insulated Wires Limited v. JCIT[5], it was held that the developmental rights are embedded in the ownership of land only. These were valuable rights inherent in the ownership of land.
- Basis the ratio laid out in the above judgments it can be said that development rights a benefit arising from the land and, thus, qualify as ‘immovable property’.(b) Whether a permanent transfer of development rights is akin to transfer of title in immovable property?
Sale is defined as transfer of ownership in exchange for a price paid or promised or part paid or part promised[6].
Therefore, with respect to an agreement for transfer of development rights whereby such rights are transferred permanently on an irrevocable basis, a view may be taken that the transfer of development rights under such agreement constitutes a ‘sale’ of immovable property[7]. Under such an agreement for sale of development right, the development potential of a land is separated from the land and is transferred to the developer for commercial exploitation.
In other words, it can be said that an agreement for transfer of development rights constitutes transfer of title in immovable property in terms of Section 65B(44)(a)(i) of the Finance Act, accordingly excluded from the definition of ‘service’.
(c) Whether a permanent transfer of development rights is in the nature of renting of immovable property and covered under ‘declared service’?
The pith and substance of an activity of transfer of title in immovable property is to transfer the right to develop, market and sell a structure in the land, the exercise of which necessitates granting of possession, right of entry etc.
Therefore, merely because possession is transferred in a sale agreement it cannot be said that the agreement was that of a lease, license etc. Similarly, an activity of allowing a developer to access land under an agreement for transfer of development rights does not have any independent existence but is merely ancillary or incidental to the agreement on transfer of development right.
Accordingly, the nature of the activity, of transfer of development rights cannot be said to be renting of immovable property.
Thus, it is possible to take a view that the subject activity does not qualify as renting of immovable property and therefore, is out of the ambit of declared service.
5. Conclusion
It can be said that the a transaction for transfer of development rights is outside the purview of the definition of service, further, such transaction does not fall under the ambit of ‘declared service’. Therefore, no service tax is applicable on such transaction under the negative list regime (i.e. with effect from 1 July 2012).
Please note that comments in this article are based on the modus operandi as mentioned in para 2 above. If any deviation is resorted to from the modus operandi, it is advised to take legal opinion to determine the precise service tax implications.
*Note: The tax position prior to 1 July 2012 has been discussed in Part-I of this Article
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[1] Section 66E of the Finance Act, 1994