The demonetization episode caused choking demand in the real estate sector. Expectations were high that the Budget 2017 would bring in much needed relief in the form of tax reforms.

The real estate sector is an important one for the investment and employment potential it has. As against the expectations, the Budget proposals have been received with mixed reactions from the real estate industry. We take a look into the budget proposals impacting this sector.  

Holding period for long term capital gains for immovable property

The holding period for being eligible for long term capital asset for immovable property brought down from 3 to 2 years.  

Comments

Welcome move and can spur more traction in the 2^nd sale market

Tax Holiday for development of affordable housing  

The Finance Act 2016 provided tax holiday benefits in respect of profits derived from developing and building certain housing projects subject to specified conditions.

The condition inter alia included the limit of 30 square meters for the built-up area of residential unit in respect of project located in four Metro Cities or within 25 kms from the municipal limits of those four cities. Further, for availing the benefit, the eligible project should be completed within a period of three years.

The current Finance Bill has relaxed some of the conditions.  It is proposed to increase the time limit for completion of the project to five years which should give a major relief to the developers as obtaining of approvals from various authorities takes considerable time before the actual commencement of the project.

Also, it is proposed to remove the restriction of 30 square meters on the size of residential units located within a distance of 25 kms from the municipal limits of the Metro Cities.  

The size of residential unit shall be measured by taking into account the “carpet area” as defined in Real Estate (Regulation and Development) Act, 2016 and not the “built up area”, as originally mentioned.

Comments

The above amendments will be effective from the financial year 2017-18 onwards.  It would have been nicer if these amendments were to have been made applicable to projects commenced during financial year 2016-17 also. Further, the Budget has granted infrastructure status to affordable housing, which will allow developers to borrow at lower interest rates. 

By changing the eligibility criteria of home sizes from built up area to carpet area the Government has tried to bring in larger sized homes within the ambit of affordable housing project.

No notional income for house property held as stock in trade

There have been disputes on the treatment of unsold inventory with developers wherein it has been contended by the tax authorities that notional rent should be taxed in the hands of the developers. The developers on their part have contended that the unsold properties are stock in trade and hence no notional rent to be attributed to such properties. In a recent ruling, the Hon’ble Delhi Court in CIT Vs Ansal Housing Finance & Leasing Co. Ltd [TS-5794-HC-2016(DELHI)-O] has held that the assessee, a developer, would be liable to pay tax on annual letting value of unsold flats as income from house property.

It is now proposed to provide that where the house property consisting of any building and land appurtenant thereto is held as stock in trade and the property is not let during the whole or any part of the previous year, the annual value of such property for the period upto one year from the end of the financial year in which the certificate of completion of construction of the property is obtained from the competent authority shall be taken to be nil.

Comments

Though this amendment does not bring in full relief to the real estate developers but this has brought in certainty on the treatment of the unsold stock for atleast one year.  

Restriction on set-off of loss from House Property

As per the extant law, any loss arising under the head “house property” can be set off against income from any other head of income. Accordingly, any loss arising on account of the difference between the rental income and interest on home loan (without any limit) was allowed to be set off. 

Now it is proposed to limit the loss under the head house property to rupees two lakhs that could be set off against any other head of income. Hence, for instance an individual has a residential property on which he has availed loan. The interest payout on such loan is rupees four lakhs. On a presumption that the annual rental value on such property is either nil or negligible compared to the interest cost, the individual can set off the loss under the head house property only to the extent of rupees two lakhs and any excess shall be carried forward for set off to the future eight years.

Comments

The restriction is the cumulative limit for self-occupied and let out properties put together.

The restriction on the set off of the loss could be a major blow for potential investors which may force them to look for alternate investment opportunities.  

Extension of eligible period of concessional tax rate on interest in case of Borrowings

One of the major sources of foreign funding in the real estate sector is through Non-convertible Debentures (NCD). Interest on NCDs to foreign portfolio investor (FPI) were subject to a withholding of 5% under the provisions of the Act. However, this benefit under the Act was available for loans extended before July 1, 2017 [Section 194LC].

In order to boost the economy by way of introduction of foreign capital, it is proposed to extend the benefit of withholding @ 5% on interest payments to non-resident on loans till July 1, 2020.

Comments

Welcome move

Limitation of interest deduction in certain cases

The Budget 2017 has proposed to insert a new section [Section 94B], in line with the recommendations of OECD BEPS Action Plan 4 to provide that interest expenses claimed by an entity to its associated enterprises shall be restricted to 30% of its earnings before interest, taxes, depreciation and amortization (EBITDA) or interest paid or payable to associated enterprise, whichever is less. Further, the debt shall be deemed to be treated as issued by an associated enterprise where it provides an implicit or explicit guarantee to the lender or deposits a corresponding and matching amount of funds with the lender.

However, interest payout of lower than rupees one crore per annum is exempt from the operation of the above provisions. Further, interest paid in excess of 30% cap can be carried forward for a period of 8 years.

Comments

In the real estate, majority of the funding takes place in the form of debt or a mix of debt and equity.

A cap on the deductibility of the interest could have an adverse impact on this sector.

Though the excess interest can be carried forward for a period of eight years, one would need to work out the maths to see whether the developers will have sufficient income to adjust the interest costs carried forward considering higher interest costs.

Further, it may be noted that the proposed provisions shall be applicable for interest payments made during financial year 2017-18. As a result, even the loans made prior to the financial year will also come under review. This may force the investors to relook into their funding structure. 

Resetting the capital gains index

The base year for indexation has been reset to April 1 2001.  

Comments

One significant advantage is that for property acquired prior to this date the fair market value as on April 1, 2001 can be adopted if higher and indexation applied on this amount.

Joint Development Agreement (JDA)

Tax treatment in the case of JDA has always been a contentious issue.  In the case of individuals and HUF the budget proposes to tax capital gains on JDA to the year in which the completion certificate is issued by the competent authority

Comments

Much awaited relief for individual tax payers.  Nevertheless also a concern about the line of thinking the tax authorities would take for non-individual/HUF tax payers.

Other comments

In addition there are couple of tax initiatives which the Government has introduced which could have a far reaching impact for this sector.   

The impact of Income-tax Computation and Disclosure Standards (ICDS) on the revenue recognition method followed by the real estate companies and the interplay between ICDS and the IndAS, wherever applicable could have interesting implications.  

A greater impact could be the coming into force of General Anti Avoidance Rules (GAAR) from April 1, 2017. These Rules give powers to the tax officer to recharacterise a transaction in the absence of commercial substance and could have significant play in this sector. 

Hence, we can witness some eventful times in the near future which could Change the Landscape in the Real Estate Sector!!!