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Budget 2021: Accord infrastructure status to real estate sector

The government can consider extending the harbor limit to 20 per cent for next three to four years.

Real estate sector is an important pillar for the economic growth and stability of the country.  It is the second largest employment provider and also supports various sub-sectors, such as steel, cement, infrastructure. Consequently, the government has undoubtedly taken measures to incentivise the sector. However, owing to the ever-changing landscape, the sector faces many challenges, such as lack of liquidity, delay in projects, unstable demand among others.

To add to the issues, COVID-19 related lockdown led to an unprecedented era for real estate sector. Apart from the policy initiatives, the industry expects that the upcoming Union Budget 2021 will address direct tax challenges to alleviate the stress surrounding the sector.

Granting the status of ‘infrastructure’ to the real estate sector has been an age-old ask of the industry. While the government has accorded the said status to affordable housing, expanding to all categories of assets in real estate will be welcomed. This will attract investments from large pockets of sovereign wealth funds /pension funds who have been granted tax exemption on income streams from ‘infrastructure’ investments.

With the land prices skyrocketing, Joint Development Agreements (‘JDAs’) have become a new norm for the real estate sector. With its increasing popularity, the complexities and ambiguity around taxation also increased with conflicting judicial precedents. While the extant tax law provides for tax deferral in the hands of individuals and HUFs, the need of the hour is to also provide clarity with respect to point of taxation for other assessees as well as provide clarity in a case where land is held as stock-in-trade and methodology for computing gains.

The level of unsold inventory across India has increased manifold due to stagnancy in the market specifically in the current COVID-19 situation. In such a scenario, real estate companies may face undue heat with respect to taxability of notional rental income of unsold stock. The extant tax law provides for exemption from levy of tax on notional rent for a period of two years after receiving the completion certificate. The government can consider deleting the provision and if this is not desirable, extending the period of exemption to say 3-4 years.

As per the tax laws, the seller of real estate property faces adverse consequences if a property is sold at a value below prescribed rate (circle rate) with safe harbour limit of 10 per cent. To boost demand in the real estate sector during the current pandemic, the government had increased the safe harbour limit from 10 per cent to 20 per cent on the sale of stock in trade and for the buyers, such that the difference in sale price up to 20 per cent is acceptable.

In order to provide a further boost to the sector from a long term perspective, the government can consider extending the limit to 20 per cent for the next three to four years.

Certain additional measures include:

  • Extending the beneficial tax regime of 22 per cent (plus surcharge and cess) for LLPs engaged in the real estate sector

  • While the real estate developers of qualifying assets are eligible to profit linked tax deduction, they still need to pay Minimum Alternate Tax of 15 per cent (plus surcharge and cess).  To incentivize the sector further, the applicability of Minimum Alternate Tax should be relaxed

  • removal of the restriction of Rs 2 lakhs on set off the loss from house property against other heads of income

  • carry forward of tax losses on re-organisation, which is currently restricted to ‘industrial undertakings’ be extended to companies in the real estate sector

  • extension of lower withholding tax rate applicable on External Commercial Borrowings, Rupee Denominated Bonds and investment by Foreign Portfolio Investors to perpetuity or suitably long period

  • considering the current funding requirement of the sector, carving out applicability of thin capitalisation in perpetuity or for suitably long period

  • from a recovery perspective, granting relaxation to the stressed real estate acquisition, such as non-taxability on waiver of loans, carving out the applicability of deemed taxation on the takeover of companies below their book values, etc.

While extending most tax reliefs and tax pass-through status to Real Estate Investment Trusts (REITs) has been a welcome move, there are few tax inefficiencies which need to be plugged. Such as, while dividend income is tax-exempt in the hands of REIT, withholding tax on such payments by SPV to REIT leads to cash lock-up and needs to be done away with.

Similarly, and assuming that the SPV has opted for the beneficial tax regime of 22 per cent (plus surcharge and cess), withholding tax on dividend by REIT to the non-resident at flat rate of 10 per cent (without considering beneficial tax treaty provisions) leads to undue hardship to investors which can be avoided. Also, the migration to REIT is driven by commercial factors and hence, in such genuine cases the tax losses at the project SPV level should continue even where there is change in shareholding of more than 51 per cent pursuant to migration to REIT.

While we expect the government to undertake steps to mitigate the hardships faced by the developers and buyers, bringing more clarity and extending specific tax reliefs (pertinent for the sector), will go a long way in re-igniting the economic recovery of the country.

(Chartered Accountants Nirmal Nagda and Mugdha Godbole contributed to the piece)

Kalpesh Desai is Partner – M&A Tax and PE, KPMG in India
first published: Jan 28, 2021 01:15 pm