VAT on Builders and Developers in the State of Maharashtra – Part II

Determination of Taxable Sale Price of Works Contract under Rule 58 of MVAT Rules:

For the sake of better understanding of the procedure, relevant portion of Rule 58 of Maharashtra Value Added Tax Rules, 2005 (MVAT Rules) is reproduced hereunder:

‘58. Determination of sale price and of purchase price in respect of sale by transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract –

(1) The value of the goods at the time of the transfer of property in the goods (whether as goods or in some other form) involved in the execution of a works contract may be determined by effecting the following deductions from the value of the entire contract, in so far as the amounts relating to the deduction pertain to the said works contract:–

(i) labour and service charges for the execution of the works;

(ii) amounts paid by way of price for sub-contract , if any, to subcontractors;

(iii) charges for planning, designing and architect’s fees;

(iv) charges for obtaining on hire or otherwise, machinery and tools for the execution of the works contract;

(v) cost of consumables such as water, electricity, fuel used in the execution of works contract, the property in which is not transferred in the course of execution of the works contract;

(vi) cost of establishment of the contractor to the extent to which it is relatable to supply of the said labour and services;

(vii) other similar expenses relatable to the said supply of labour and services, where the labour and services are subsequent to the said transfer of property;

(viii) profit earned by the contractor to the extent it is relatable to the supply of said labour and services:

Provided that where the contractor has not maintained accounts which enable a proper evaluation of the different deductions as above or where the Commissioner finds that the accounts maintained by the contractor are not sufficiently clear or intelligible, the contractor or, as the case may be, the Commissioner may, in lieu of the deductions as above, provide a lump sum deduction as provided in the Table below and determine accordingly the sale price of the goods at the time of the said transfer of property-

Note: The percentage is to be applied after first deducting from the total contract price, the quantum of price on which tax is paid by the sub-contractor, if any, and the quantum of tax separately charged by the contractor if the contract provides for separate charging of tax.

‘(1A) In case of a construction contract, where along with the immovable property, the land or, as the case may be, interest in the land, underlying the immovable property is to be conveyed, and the property in the goods (whether as goods or in some other form) involved in the execution of the construction contract is also transferred to the purchaser such transfer is liable to tax under this rule. The value of the said goods at the time of the transfer shall be calculated after making the deductions under sub-rule (1) and the cost of the land from the total agreement value.

The cost of the land shall be determined in accordance with the guidelines appended to the Annual Statement of Rates, prepared under the provisions of the Bombay Stamp Determination of True Market Value of Property) Rules, 1995, as applicable on the 1st January of the year in which the agreement to sell the property is registered:

Provided that, deduction towards cost of land under this sub-rule shall not exceed 70% of the agreement value.
(In the above rule 58, after sub-rule (I), the sub-rule (1A) is inserted and shall be deemed to have been inserted w.e.f. the 20th June 2006 by Notification No VAT-1507/CR-53/Taxation-1)

(2)    The value of goods so arrived at under sub-rule(1) shall, for the purposes of levy of tax, be the sale price or, as the case may be, the purchase price relating to the transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract.’

After arriving at the taxable value of works contract, as per the above Rule, the dealer shall calculate tax pay-able on various items of goods involved, the property in which gets transferred from the contractor to the principal, in the execution of works contract.

What should be the amount payable in respect of each of such contract (agreement), that may be a big question and there is no straight way method to determine the liability. It may depend from builder to builder, location to location and project to project. There may be many different combinations, in various types of projects, since its conceptualisation through execution and till completion. All such factors will have their impact in arriving at the taxable value and tax thereon.

If we look at the provisions of the Law, in Maharashtra, tax is payable by a dealer on sale price of goods at such rate of tax as prescribed in the Schedule. And the dealer is entitled to claim input tax credit i.e. setoff of taxes paid on his purchases. Thus net tax payable is Output tax – Input tax credit.

As the sale of flats, offices, etc., (in the circumstances discussed earlier) will be taxed under the concept of deemed sale i.e. ‘works contract’, the taxable value of each contract will have to be determined in accordance with the provisions of Rule 58 of MVAT Rules, as given above. The taxable value so determined will have to be divided in such proportion of taxable goods as the property in which is deemed to have been transferred from the contractor (builder) to the principal (flat purchaser) during the course of execution of ‘works contract’. The proportionate value of each type of goods so determined shall be liable to tax @ 4% or 5% or 12.5% as the case may be.

After working out tax on such sale price, the dealer has to work out the amount of setoff available, of taxes paid on his purchases, in accordance with Rules 52 to 55. The net tax payable shall be the difference of these two amounts (i.e. VAT = Output Tax – Input Tax Credit).

As each agreement is a separate contract, the taxable value of each such agreement needs to be determined separately. The aggregate taxable value of all such agreements, during a given period, shall be the turnover of sale for the purposes of calculating the tax.

It may be noted that, while, it is possible (except in certain circumstances) to determine the total taxable value of sale of goods in each such agreement of this nature, it would not be possible to determine the cost of various kinds of material used in the construction of that particular flat which is just one part of the whole project. Therefore, for applying the rate of tax, one may have to take proportionate value of goods used in the whole project or building as the case may be. Similarly, the aggregate amount of setoff admissible, during a given period, will be available as input tax credit against the total tax payable on aggregate sale price (taxable value) of all such agreements during that period.

(While determining aggregate amount of setoff, care has to be taken to keep separate the proportionate cost of goods used in the construction of unsold flats i.e. those flats and units which are sold after the construction of the building has been completed.)

Thus, for all practical purposes, proportionate method may have to be adopted. And the same method may be used, if required, to determine the net tax payable in respect of each such agreement for sale of flats and units in an under construction building or project. The builder/developer may first work out his total tax liability (net tax payable) on the entire building or project (as the case may be) and then the net tax liability may be divided proportionately either on the basis of area or on the basis of value or on such other method (as may be appropriate) to find out net tax payable in respect of each such agreement.

To take an example (just to explain the point), suppose a builder has constructed a building having a total built up area of 10,000 sq. ft., consisting of 20 units only (all having exactly similar area in terms of sq. ft. as well as amenities and all have been sold simultaneously). Each purchaser has agreed to pay a total sum of Rs. 25 lakh in respect of one unit and the amount is payable in 25 monthly installments of Rs. 1 lakh each. Thus, the total sale price of the above project (spread over 25 months) works out to Rs. 5,00,00,000/- .

The cost of project to the builder may be consisting of various items, but, if we take a simple format, the cost may comprise of the followings:-

(A careful look at the Rule reveals that the sale price so work out is exactly the total of purchase cost of material used and the profit margin, including non-deductible expenses of the dealer.)

Thus, the dealer (builder) will be liable to pay tax on Rs.1,30,00,000/- at the rate as set in the Schedule. As the building, flat or a unit in a building is not an item in the Schedule, tax needs to be worked out on each item of goods, the property in which gets transferred from the contractor to the principal in the course of execution of works contract. Thus, this amount needs to be proportionately divided over all such goods like steel, cement, bricks, stones, wood, electrical wire, plumbing material, fittings and such other construction and finishing goods.

As the cost of material is already known, there should be no difficulty in arriving at the proportionate value. Although, the combinations may differ from project to project, just to make it easier to understand, suppose the total cost of material used in the construction and finishing (i.e Rs. 1,05,00,00/-) is comprising of two types of goods, one liable to tax @ 4% and another @ 12.5%. And suppose, the ratio thereof is 30:70, then the sale price of 130 shall be divided in the proportion 30:70.

Thus, the output tax, for entire project, in this example shall be:

Now, let’s work out the amount of setoff of taxes paid on purchases:

For each flat, it may work out to (net tax payable/ number of units sold) Rs. 11,165 (223290/20)

[Note: As the built up area of each unit and the price thereof, in the above example have been taken as same, the calculation looks to be very simple, but in a project where there are units of different sizes, sale agreements are entered into at different dates and at different rates, complication of calculation may arise. However, the method of working of net tax payable on the total project will remain almost on the same line. Only thing that the amount of setoff admissible may be little different in a project where some of the units are sold after completion of the project.]

The net tax payable, in terms of percentage to agreement value, works out to app. 0.45%
In some of the cases, it is possible that the builder does not purchase any material himself, but he gives the entire contract of construction and finishing to a contractor for a lump sum price per sq ft and/or per unit, etc. In that case, the contractor will use his own goods and labour, on the land provided to him by the builder, and do the entire work of construction and finishing as per designs and specifications provided to him. The builder either may give entire contract to one contractor or to various contractors for various types of works to be carried out. In all such cases the taxable sale price of flat/units in the hands of the builder, for the purposes of levying VAT shall be worked out as follows:-

Continuing with the above example, suppose the total value of all such contracts (on which such contractor/ sub-contractor has paid tax) is Rs 1,50,00,000/- (@ Rs 1,500/- per sq. ft.), then the amount so paid to sub-contractor/s will also have to be deducted from the total sale price (agreement value). Thus, the calculation may look like as follows:-

Sale Price – Cost of Land – amount paid to sub-contractor – Expenses on designing, hiring, consumables and such other services (i.e. 500-300-150-25 = 25, all figures in lakh), i.e. the amount equivalent to non-deductible expenditure and profit margin of the builder.

As the builder has not used any material of his own, he is not entitled for any setoff, and, in the absence of any direct relation of this taxable sale price with any particular kind of material, the rate of tax applicable may be the highest i.e. 12.5%. Thus, the builder will be liable to pay a total sum of Rs. 2,77,778/- as tax on the entire project (Rs. 25,00,000 * 12.5 / 112.5).

Tax payable in respect of each flat works out to Rs. 13,889 (277778/20).

In terms of percentage it is 0.56%, almost the same as above (little higher).

It may be noted that the deduction under Rule 58(1), in respect of labour & service charges, etc., is available subject to maintenance of proper accounts which en-able a correct evaluation of the different deductions (as above). Thus, there may be an argument that the sales tax authorities may not agree to accept as it is the amount of cost of expenditure incurred on design, labour & such other services, therefore, the builder may have to opt for lump sum deduction at a fixed percentage, as provided in the Table appended to Rule 58(1). In that case, the tax payable may have to be worked out in the following manner (using the figures from same example as above):

Determination of Sale price by adopting deduction as per Table (Rule 58)

A. In case the builder using his own material:-

(* Note: Regarding base amount for deduction towards labour and services @ 30%, there may be two views. One view is that this percentage is to be applied after deducting from the total contract price, the quantum of price on which tax is paid by the sub-contractor, the value of land need not to be deducted for calculating this percentage. And another view, which the Department has referred to in one of the FAQ, is that the land price also needs to be deducted before calculating this percentage. For the purposes of this example, view expressed by the Department, has been taken, though the legal position may be different.)

It can be seen from above that the tax burden, through any of these methods, on such agreements works out to between 0.45% & 0.78%, i.e. well below 1% of the agreement value.

It may be noted that in different projects this percentage may differ. If the quantum of amount paid to sub-contractor is higher, the amount of tax payable by the builder will be lower. However, there should not be any material difference in most of the projects of above nature throughout the State.

It may further be noted that in the above example, the land price is taken at about 60% of the sale price (agreement value), but there may be cases where land price is much higher. In all such cases, deduction for the total cost of the land is available, subject to a ceiling of 70% of total sale price (agreement value). Thus, it is possible that due to this artificial ceiling, in some of the projects, the amount of tax payable in terms of percentage may differ substantially. To understand the point, let’s take an example of a luxury look apartment at a prime location.

Suppose the sale price of a luxury look apartment, in an under construction building, located in a prime area of city, is Rs. 25,000 per sq. ft. of built up area, and the amount paid to sub-contractor/s for construction and finishing is Rs. 3,500 per sq ft. Then, the working of tax payable may be as follows:-

(* Refer note above)

Point of Taxation and payment of Tax

A dealer (builder/developer) may be able to work out his total tax liability on the entire project through above referred examples, but the main difficulty arises in determining periodic tax liability for depositing tax into the Government treasury.

To understand the provisions regarding payment of tax, filing of returns, etc., one may refer to relevant provisions contained in section 20 of MVAT Act, Rule 17 of MVAT Rules and other such provisions, which provide that a dealer is liable to pay tax on taxable turnover of his sales within 21/30 days from the end of period (i.e. month, quarter or six months) as may be applicable in respect to such dealer. The periodicity, as per Rule 17 is decided on the basis of net tax liability of the immediate previous year. Accordingly, if the net tax payable during the previous financial year is up to Rs. 1,00,000/-, the dealer has to file his return for a period of six months and pay the taxes for that period within 21/30 days from the end of that period of six months (April to September). If the tax liability of the previous financial year is more than Rs. 1 lakh but up to Rs. 10 lakh then the periodicity is quarterly and if the tax liability is more than Rs. 10 lakh, the periodicity is monthly. In fact, now as per the new procedure, a registered dealer has to file his returns and pay taxes as per the periodicity determined and displayed by the sales tax department on its website ‘mahavat.gov.in’. In respect of new dealers, in the first year of registration, and for unregistered periods periodicity is quarterly. (Refer Rule 18)

Next question which arises is, what should be considered as taxable turnover of that particular period (i.e. month, quarter or six months)? Whether point of taxation arises in such cases on the date of agreement so entire value is taxable on that date itself, or on the basis of actual work carried out, or on the basis of payment due or actual payment received, or at the time of giving possession?

As this is for the first time that such kind of agreements, for sale of flats and units in a building, will be liable to tax under the concept of ‘works contract’ the Department may have to provide appropriate guidelines so as to avoid any kind of disputes.

However, if we look into the concept of ‘works contract’, the point of taxation arises as and when the work is carried out. And the quantum thereof is certified by a competent person. In case the builder/developer has given construction contract to a sub-contractor, such a certification may be available because the builder/ developer may be releasing payment accordingly, but in cases where builder/developer employing his own material and labour such periodic certificate/s may or may not be available. In such circumstances, in case of normal contracts, the assessing authorities generally ask for payment of tax on the basis of bills raised by the main contractor on the principal. But, in case of builders/developers such system of raising bills or debit notes on the purchasers of flats/units may or may not be there (depending upon normal practice each builder may be following so far). The question then arises whether the Department can ask the builder/s to pay tax on the basis of amount due as per various dates mentioned in each agreement. If that is so, it may be a huge exercise. Another simple method, in case of non-issue of bills or debit notes, may be as and when actual payment is received, if the same is acceptable to the Department.

Once, the above issue gets settled the next question arises is the periodic determination of taxable sale price i.e. sale price arrived at under Rule 58, which requires various amounts to be reduced from the total agreement value (as referred above). This is one aspect, which may create unending litigation between the dealer/s and the Department.

It may be noted that these agreements for sale of flats and units in an under construction or to be constructed building are not normal construction contracts, these are special agreements (as noted by the Hon’ble High Court also). These contracts require reduction on account of value of land from the total agreement value. Now, this reduction is to be done at what stage in such periodic determination of taxable sale price? Whether the value of undivided share in land is to be reduced from the first few installments (and other reductions in the subsequent installments) or to be spread over through all the installments proportionately? Further, at what point of time the amount paid to sub-contractor/s is to be reduced from the agreement value, particularly if it does not have a direct (periodic) relationship with periodic installments received or to be received from the purchaser/s?

One more aspect, which needs specific attention is the reference to fair market value of land in section 58(1A), which provides that “the cost of the land shall be determined in accordance with the guidelines appended to the Annual Statement of Rates prepared under the provisions of the Bombay Stamp Determination of True Market Value of Property) Rules, 1995, as applicable on the 1st January of the year in which the agreement to sell the property is registered:”. Thus, it is possible that value of undivided share in land, in respect of certain flats or units may differ from the value of land for other flats or units within the same building, if the agreements to sell have been registered in two different calendar years. As each agreement is to be treated as a separate contract, the taxable sale price in respect of each such agreement has to be determined on periodic basis.

Various steps involved in determination of net tax payable, by a builder/developer on periodic basis may be summarised as under:-

1.    Determine the taxable value (sale price of goods) of each agreement for each period of liability.

2.    Sum total of taxable value of all agreements, during a given period, is taxable turnover of sale of goods for the purposes of levying tax.

3.    Determine proportionate taxable value of turnover liable to tax, during that period, at different rates of tax (in proportion to the cost of goods involved).

4.    Calculate total tax payable, during the period, on the taxable turnover of sale of goods by applying the applicable rates (4%, 5%, 12.5%, etc.)

5.    Calculate the amount of setoff admissible on purchase of goods, during the period, property in which gets transferred from the contractor (builder) to the principal (purchaser).

6.    The difference between amounts arrived at in steps 4 and 5 is the net tax payable for that period.

Each and every step, noted above, may need clarification. A further question may arise, in case of certain builders, who are constructing building with their own material. As these dealers (builders) will be entitled to take setoff of taxes paid on their purchases in the period in which the material has been purchased, there may be situations where their claim of setoff is much more than the amount of output tax in that particular period. In all such cases, whether they will be entitled to carry forward the input tax credit (setoff) beyond the financial year?

All these questions need to be addressed appropriately by the Department of Sales Tax and Government of Maharashtra. Another question which arises is in case of certain purchasers, who fall under the specified category of employers, u/s 31 of MVAT Act, i.e whether the provisions of TDS are applicable to such agreements?

As the subject matter is new, there may be many such queries, which need to be resolved.

In the light of the above, it may be necessary for the Government of Maharashtra to consider, in the inter-est of all stake holders, to design a scheme whereby the builders/developers can discharge their tax liability in an appropriate manner, the flat purchasers can discharge their obligation, if any, without hesitation and the Department can assess the tax liability in a hassle-free manner.

While in the Press – Latest Developments:

1.    The artificial ceiling of 70%, in respect of deduction for value of land, in section 58(1A) has been removed vide Notification dated 31st July 2012.

2.    The Commissioner of Sales Tax, Maharashtra, has issued a circular dated 6th August 2012, prescribing conditions and the procedure for granting administrative relief in respect of obtaining registration for past periods and payment of taxes, etc. The prescribed due date for late registration is now extended, by an order of the Supreme Court, to 15th October 2012, and, due date for payment of tax for past periods extended up to 31st October, 2012.

3.    The Department of Sales Tax, through new FAQ hosted on its website, has clarified that:

(i)    Tax is payable by the dealers (builder/ developers) shall be as per the prescribed periodicity (i.e. monthly, quarterly or six monthly as may be applicable).

(xi)    It is possible that within the same buildings some agreements were registered before 31st March 2010 and others after 1st April 2010. In such cases the dealer can opt for composition scheme of 1% in respect of flats sold after 1st April 2010, and, in respect of earlier transactions he may discharge tax liability in accordance with Rule 58. However, input tax credit in respect of goods used in the construction of flats (for which composition scheme opted) will have to be reversed.

4.    The Supreme Court, in its order dated 28th August 2012, in SLP Nos. 17709, 17738, and 21052 of 2012, has clarified that the payment of tax by the builders/developers shall be subject to the final decision of the Court in the matter involved in Special Leave Petitions.

5.    The Supreme Court has further stated in its order “In case the amendment in section 2(24) of the 2002 Act is held to be unconstitutional and the tax so paid/deposited by the developers is ordered to be returned by the State Government to the developers, the same shall be returned with interest at such rate that may be ordered by the court finally at the time of disposal of matter.”

6.    The representations, made by BCAS, may have some fruitful results. The Government of Maharashtra may consider a proposal for simplified composition scheme for the period 20th June 2006 to 31st March 2010.