Finance minister tries to undo many judicial verdicts through budgetary changes

In the budget speech, the finance minister made some very interesting observations. He said, "The service sector contributes nearly 60 per cent of the GDP. The Service tax to GDP ratio, however, is only around 1 per cent. This sector thus, has significant potential to augment revenue.

To bridge this gap, I had the option to raise the rate of Service tax to 12% as it was before I introduced the third stimulus package. I am not resorting to this option to maintain the growth momentum and to bring about a convergence in the rates of tax on goods and services. I, therefore, propose to retain the rate of tax on services at 10% to pave the way forward for GST.

"I had another option - to bring all services under Service tax. I am not opting for this either at this stage. I propose, however, to bring certain services, hitherto untaxed, within the purview of the Service tax levy. These are being notified separately. I am also proposing certain legislative changes to plug revenue leakages, to remove distortions and to clarify certain doubts that have arisen over a period of time."

He was quick to add, "I do not want to waste the precious time of the House elaborating the details, as they are available in the Finance Bill and other budget documents." The critical question remains what are the fine prints in the Finance Bill. The Finance Bill opens a Pandora's box and the finance minister proposes to do what none of his colleagues have ever attempted in past. The Budget 2010 clearly sends a message to the industry that irrespective of the judicial pronouncements, the government has shown its intention not to follow the judicial discipline.

The amendments proposed in the definition of renting of immovable property and commercial training and coaching services is a clear fallout of the judicial pronouncements in the case of M/s Home Solution Retail India Ltd. and M/s Ahmedabad Management Association, respectively. Surprisingly, the said changes have been proposed with retrospective effect.

In case of the construction industry, a similar trend is seen. Last year, the Authority for Advance Rulings, New Delhi in the case of Harekrishna Developers, STO 2008 AAR 87, observed that the activity of building a residential unit on an earmarked plot in the complex and making construction thereon as per the plan, design and specifications, obtaining various permissions and providing amenities, apart from the provision of common infrastructural facilities before handing over the building to the customers would undoubtedly constitute services provided or to be provided.

The fact that the ownership and possession remains with the applicant throughout the process of construction and that the constructed residential unit can only be transferred to the booker/buyer on receipt of entire sale consideration does not have a real bearing on the question whether any services in relation to the construction of complex are required to be rendered by the applicant.

This stand was reversed by the ministry in a series of clarificatory circulars which had given a sigh of relief to the builders and promoters.

Surprisingly, Budget 2010 proposes to once again undo what the ministry had done in the past. The definition of the construction services is proposed to be suitably amended. The ministry feels that in a few cases, the entire consideration is paid by the prospective buyers/flat owners after the residential complex has been fully developed. This is in the nature of outright sale of the immovable property and admittedly, no Service tax is chargeable on such transfer.

However, in most cases, the prospective buyer books a flat before its construction commences/is completed, pays the consideration in installments and takes possession of the property when the entire consideration is paid and the construction is over.

An explanation is being inserted to provide that unless the entire payment for the property is paid by the prospective buyer or on his behalf after the completion of construction (including its certification by the local authorities), the activity of construction would be deemed to be a taxable service provided by the builder/promoter/developer to the prospective buyer and Service tax would be charged accordingly.

As a result, various methods adopted by the builders or promoters throughout the country will be ultimately brought under the Service tax net. It is observed that in some cases the initial transaction between the buyer and builder is done through an instrument called 'Agreement to Sell'.

As a result, at that stage neither the full consideration is paid nor is there any transfer of ownership of the property although an agreement to ultimately sell the property under settled terms is signed. In other words, the builder continues to remain the legal owner of the property.

At the conclusion of the contract and completion of the payments relating thereto, another instrument called 'Sale Deed' is executed on payment of appropriate stamp duty. This instrument represents the legal transfer of property from the promoter to the buyer.

Further, according to the North block, different pattern is followed at different places. These different patterns of execution, terms of payment and legal formalities have given rise to confusion, disputes and discrimination in terms of Service tax payment. At the initial stage, instruments are created between the promoter and all prospective buyers, known as 'Sale Of Undivided Portion of the Land'.

This instrument transfers the property right to the buyers though it does not demarcate a part of land, which can be associated with a particular buyer. Since the vacant land has lower value, this system of legal instrumentation has been devised to pay lesser stamp duty.

In many cases, an instrument called 'Construction Agreement' is parallelly executed under which the obligations of the promoter to get property constructed and that of the buyer to pay the required consideration are incorporated. Henceforth, all such activities will be under the ambit of Service tax.

However, a vital question still remains unanswered whether the activity is of the nature of sale or service.