Union Budget 2017- a silver lining for realty
During the past few years, real-estate sector has faced stressed growth, funding crunch and a sluggish market, bringing down the confidence of existing industry players and shunning away new players from entering the sector.Jayesh Kariya Partner – International Tax and Regulatory, BSR Affiliates elucidate on the prospects for the sector going forward.
The Government has been trying to revitalize the sector by introducing various reforms such as relaxing FDI Policy, allowing ECB for affordable housing projects, introducing REIT Regime and establishing RERA for regulation and promotion of the real estate sector. These reforms were impactful, but could not provide the much needed impetus. After many years, we have witnessed proposals for the real-estate that could have positive impact:
- “Infrastructure sector” status to affordable housing segment
- Increased infrastructure allocation including multi modal transport system
- Shift in the base year for indexation from 1981 to 2001;
- Reducing holding period to 24 months from 36 months for long term capital gains from immovable property
- Clarifying taxation aspects for Joint Development Agreements under area sharing arrangement
- Relaxation of conditions to claim 100% profit linked deduction for affordable housing projects under section 80-IBA of the IT Act, 1961:
- Time limit for completion extended from 3 to 5 years
- “Built-up area” of 30sqm and 60sqm replaced with “carpet area;”
- Removing the 25km municipal limit for four metro cities
- “Infrastructure Sector” status will help accomplish government’s vision of “Housing for All by 2022”
- Ensure easier access to institutional credit and help in reducing developers’ cost of borrowing for affordable projects
- External Commercial Borrowings (‘ECBs’) will be permitted (under the automatic route) without any limits/additional conditions. Therefore, Infrastructure Finance Companies (‘IFCs’) and Infrastructure Debt Funds (‘IDFs’) would also be eligible to invest in affordable housing projects.
- SEBI registered foreign venture capital investors (“FVCI”) may now be permitted to invest in companies engaged in affordable housing without complying with the FDI pricing norms
- Likely increase of domestic and foreign players in affordable housing projects.
- Implementation challenges, considering most developers will be engaged in non-affordable housing projects as well
- Complex and “multiple windows” approval process
- Existing approved housing projects meeting the criteria may not be eligible for the tax benefits
- No additional tax incentives for first time affordable home buyers (other than deduction on principal loan payment and interest on housing loan)
- Scarcity of developable land in urban areas and appropriate infrastructure in peripheral regions which escalates the final project cost
- Restriction on FDI in Limited Liability Partnerships (‘LLP’) engaged in business of affordable housing projects due to performance linked criteria
- No exemptions from MAT levy resulting in minimal incentives for the affordable housing sector
The fiscal announcements proposed in the Budget 2017 for the real estate sector, coupled with policy reforms such as RERA, REIT Regulations and relaxed FDI norms are expected to lead to higher investments and consequently provide the much needed boost to the sector. The dream of “Housing for All by 2022” is not a farfetched idea anymore, rather a bright future, as affordable housing is finally becoming a reality.
The policy measures like amendment of the Airport Authority of India Act, new Metro Rail Policy, dispute resolution mechanism for infrastructure related construction contracts and allocation of INR 2, 50,000 crores for development of transportation within the country will attract higher investments, lead to availability of much required infrastructure in semi-urban regions and foster the growth of real estate. All these initiatives will increase the float of affordable housing units thereby making the affordable home at a reasonably affordable price provided the inflationary pressures are maintained under control.
Joint Development Agreements (‘JDAs’)
In a typical JDA, in exchange for the land, the land owner is entitled to certain portion of the developed/ constructed area or revenue shares in the agreed ratio from the developer. The taxation of JDAs has been complex including timing of taxation of capital gains, characterization of income, determination of sales consideration, etc.
- The Budget introduceda new Section 45(5A)effective from April 01, 2018 to provide that in case of an individual or HUF’s (‘landowner’) JDA especially under area sharing arrangement, the capital gains shall be chargeable to tax in the previous year in which the certificate of completion for the whole or part of the project is issued by the competent authority.
- The stamp duty value of his/her share, being land or building or both, in the project on the date of issuing of said certificate of completion as increased by any monetary consideration received, if any, shall be deemed to be full value of the consideration in the hands of landowner.
- The effective amount (full value of consideration) shall be higher as the stamp duty value on date of completion of project shall be taken as full value of consideration leading to higher taxation though postponed at a later date.
- The provisionsare not extended to all land owners including corporates or other entities, holding most of the land parcels in urban and semi-urban areas. The benefits should be given irrespective of the land held as capital asset or stock-in trade as the proposed amendment indicates the benefit would be available if the land is held as capital asset, the gain from which is taxable as capital gains.
- The proposal covers area sharingJDAs. The taxability of prevalent revenue sharing arrangement or a mix of revenue share and area share arrangements are not covered and remain to be decided by the Courts leading to increased litigation.
- Presently, depending on the construct and terms of JDAs, the land owners claim that their income from JDA arrangements is taxable as business income based on Percentage of Completion (POC) method as followed by the developers. Alternatively, many of the developers and land owners offer the income in the year of completion of the project following “Project Completion” method. Given the Budget proposals, the tax authorities could seek to tax the income as capital gain in the hands of the land owners despite that the proposals are applicable prospectively.
- Postponing the taxability to the year of completion of the project should be extended to all the land owners and cover all types of JDAs thereby removing taxation of income on deemed stamp duty valuation in the year of completion which could result in negative cash flow for the land owners depending on the commercial dealbetween the parties and the given market conditions.
Capital AssetHolding &Base Year Shift
Reducing long-term capital asset holding period for immovable property(land or building) from 36 to 24 months and proposed shifting of the base year for indexation from April 01, 1981 to April 01, 2001 will reduce the effective tax cost for the property owners. E.g. if the actual cost of capital asset acquired before 1 April 2001 is less than the Fair Market Value (FMV) as on April 01, 2001, then such FMV is deemed to be the cost of acquisition.
These proposals will encourage the property owners to sell their existing properties and invest in new properties given the existing benefit under Section 54 hedge against capital gains taxation. These measures should increase transactions in the secondary market, enhance liquidity for investments in the sector, provide the desired boost to the secondary market and will momentum in the primary market as well.
FDI / ECB Norms
The Budget has extended:
- Concessional rate of Tax Deducted at Source (‘TDS’) under Section 194LC on interest payment on borrowings made in foreign currency (ECB) from June 30, 2017 to June 30, 2020
- Concessional rate of TDS under Section 194LD on interest payable up to June 30, 2020 on Rupee Denominated Bonds (“Masala Bonds”).
- Exemption of the capital gain from transfer of Rupee Denominated Bonds by a Non-resident to another Non-resident from tax in India
These provisions will facilitate extension of the existing debt arrangements, increase foreign currency borrowings, provide the desired liquidity at a lower interest cost and offer requisite impetus for investments in this sector. Affordable housing projects would become attractive for the foreign investors, given its new infrastructure status.
Under the ECB Regulations, the financial institutions and developers were allowed to raise ECB under the approval route for affordable housing projects subject to fulfillment of certain conditions for the past three fiscal years endingMarch 31, 2016. This window has not been extended by the RBI. The RBI should consider necessary changes in the ECB policies to allow access toforeign funds available at very competitive rates.
Many of the “draconian” provisions like deemed taxation of various transactions on stamp duty value, extending tax soaps to individual tax payers, etc. have remained unaddressed. The Government should consider removing those “draconian” tax provisions, removing various roadblocks discussed above and opening up of ECB window for the sector would make the realty sector vibrant and foster the overall growth of the economy given that the sector supports more than 250 industries and its contribution to the GDP of the country. The biggest and boldest move of according “infrastructure status” to affordable housing should be extended to the entire real estate sector going forward.