Activity of Developing The Land Is A Supply of Service Under GST- An Advance Ruling From Karnataka Authority in the case of Maarq Spaces Private Limited vide Advance Ruling No. KAR ADRG 119/2019 dated 30.09.2019. Advance ruling is upheld by AAAR vide Order No. KAR/AAAR-19/2020-21 dated: 04/05/2020.
It has come into knowledge that an application under Section 97(2) of CGST Act, 2017, and Section 97(2) of the KGST Act, 2017 in FORM GST ARA-01 along with the fee of Rs.5,000/- each under the CGST Act 2017 and the KGST Act, 2017, has been filed by M/S. MAARQ SPACES PVT. LTD.
The Applicant (M/S. MAARQ SPACES PVT. LTD.) is a Private Limited Company, registered under the Goods and Services Act, 2017, engaged in the business of property development. The Applicant has entered into a Joint Development Agreement (‘JDA’) on 08/11/2017 with Land Owners for development of land into residential layout along with specifications and amenities. The consideration was agreed on revenue sharing basis in the ratio of 75% for Land Owner and 25% for Applicant/Developer. Cost of the development shall be borne by Applicant. Pursuant to JDA, Applicant had entered into an agreement with customers for sale of developed plots for consideration.
In this connection the Applicant sought an advance ruling in respect of the following.
1. Whether the activity of development and sale of land attract tax under GST?
2. If the answer to the question no.1 is yes, for the purpose of taxable value, whether provision of rule 31 can be made applicable in ascertaining the value of land and supply of service?
The Karnataka Authority for Advance Rulings (KAAR), vide ruling No. KAR ADRG No. 119/2019 dated 30.09.2019 held as follows-
“The activities as envisaged in the agreement between the applicant and the Land Owner amount to supply of service and liable to be taxed under GST.
Rule 31 applies in the instant case and the value of the supply equals to the total amount received by the Applicant, which is equal to 25% of the Market value of each plot.”
Let us see what has been discussed before Karnataka Authority for Advance Rulings (KAAR) in the aforesaid matter.
Facts of case:
1. The applicant submitted that as per entry 5 of the Schedule III relating to “Activities or transactions which sha1l be treated neither as a supply of goods nor a supply of services” which reads as under-
“Sale of land and, subject to clause (b) of paragraph 5 of Schedule II, sale of building”
2. The applicant states that on combined reading of the above provisions it is understood that, sale of land is excluded from the scope of “supply”, under Entry No. 5 of Schedule III.
3. Further the applicant submitted that expressions “Composite Supply” & “Principal Supply” have been defined under sub-section (30) & (90) of Section 2 as under;
Section 2(30) “Composite Supply means a supply made by a taxable person to a recipient consisting of two or more taxable supplies of goods or services or both, or any combination thereof, which are naturally bundled and supplied in conjunction with each other in the ordinary course of business, one of which is a principal supply.
Section 2(90) “Principal Supply” means the supply of goods or services which constitutes the predominant element of a composite supply and to which ang other supply forming part of that composite supply is ancillary.
4. Applicant further submitted that applying the same principle to the facts of the Applicant where the predominant supply is land and development activity is incidental to the sale of land. Moreover, the development activity is naturally bundled with sale of land in other words it is integrally connected with sale of land, therefore Applicant is of the view that, sale of Developed Plot is nothing but sale of land, which fall under Entry 5 of III Schedule to the Act, therefore does not attract tax under GST.
5. Further the applicant submitted that, as per sub-section (5) of Section 32 of Karnataka Urban Development Authorities Act, 1987, wherein it provides that, person who forms layouts, is required to transfer the ownership of the roads, drains, water supply mains, parks and open spaces, civic amenity areas to the authority, permanently without claiming any compensation thereof. Therefore, the applicant is of the view that, where law requires the applicant to transfer the ownership on the developmental works such as roads, drains, water supply mains, parks and open spaces, civic amenity areas, therefore the applicant cannot have agreement for supply of service but can only enter agreement for sale of land.
6. With regard to second question, Applicant submitted that though the price agreed with customers include cost of land as well as cost of development, there shall be levy of tax only on supply of service or goods or both but not on sale of land. The applicant refers to section 7 and clause 5 of Schedule III to the CGST Act. On combined reading of the above provisions it is understood that, sale of land is excluded from the scope of “supply”,under Entry No. 5 of III Schedule. Therefore, irrespective whether the transaction is divisible or indivisible, sale of land shall be excluded from levy of GST.
7. For the purposes of ascertaining the value of land and supply of service The applicant is of the view that, provisions of Rule 27 to 30 do not applyto the applicant’s transaction, therefore the value shall be determined as per Rule 31 of CGST Rules, applying the reasonable means and consistent with the principles.
8. Applying the above principle to the facts of the case, the applicant is of the view that, in order to comply the provision of section 7 read with entry 5 of Schedule III, exclusionof land value based on market value from total consideration or levy of tax only on the development charges based on the market value or cost plus reasonable profit sha1l be the reasonable means consistent with the principle.
The KARR considered the submission of the applicant with the following observations:
1. After having examined the salient features of the agreement (JDA) we visit the arguments put forth by the applicant while concluding their views about the first question.
2. The main thrust of the applicant is that they are primarily engaged in the sale of land and the said activity is not liable to be taxed in terms of the provisions contained in serial number 5 of Schedule III of the CGST Act, 2017.
3. The applicant further contends that the activity of development work carried out in respect of the land is an activity incidental to the sale of land. It is naturally bundled with the sale of land, constituting a composite supply. And the predominant supply, being sale of land, is not liable to be taxed and consequently they are not liable to pay any tax on the entire activity.
4. The KARR observed that the core contention of the applicant is that they are engaged in the sale of land. The sine qua non for any sale of land is the ownership of the land so1d. The seller can claim that he is engaged in the supply of land by way of sale only if he himself enjoys the title of the land. Anyone who does not possess any titleof the land cannot be considered as the seller. Such a person may have a role in the activity of sale but he cannot claim himself to be the seller. In the instant case the applicant understands that they have a right to 25% of the total number of plots developed and the sale of these plots, as well as those of the land owners share, is covered under serial number 5 of Schedule III. We do not agree with this interpretation of the agreement by the applicant. We deconstruct the understanding and the arguments professed by the applicant in the following discussion.
5. The first and foremost point to understand is the actual nature of the activities required to be performed by the applicant in terms of the agreement. In this regard our first observation is that in agreement (JDA) the applicant represents himself before the landowners as a person having experience and expertise as a land developer. This representation is of critical importance. This shows that the core competence of the applicant lies in the field of converting a raw piece of land into a well developed residential layout by engaging themselves extensively in activities such as survey of the land, preparing a detailed map of the proposed layout, clearing/leveling the site, carrying out the construction of roads, laying of sewage/water pipelines, designing and creating common amenities etc. These activities change the nature of the barren land and give it a character of a marketable land. The scope of these activities is further borne out in Para 5 of the agreement. The activities to be undertaken by the applicant are in the nature of development of land into residential layout. The agreement provides that the applicant can enter into sale agreements. However this activity is incidental to the main activity of development of land. The sale is entrusted to the applicant as the applicant has invested huge sums in the development of the land and it is a measure to protect his financial exposure in the matter. Here it becomes evident that the core competence and the activity actually carried out by the applicant is that of development of land and not the sale of land.
6. There are a good number of provisions in the agreement which indicate that the applicant has no right over the land and consequently the applicant cannot claim to be engaged in the activity of sale of land as envisaged in the provisions of entry at Serial number 5 of said Schedule III. The provisions of this entry will apply only to those persons who are the owners of the land and not to persons who are incidental to the sale of land.
7. The first provision in the agreement that we notice in this regard is contained in Para 2.6 of the agreement. It provides that nothing contained in the agreement shal1 be construed as delivery of possession in part performance of any agreement of sale. The applicant, therefore, under no circumstances acquires any right over the property which would qualify them to be considered as sellers of the property in the capacity of an owner, as envisaged in entry at serial number 5 of schedule III.
8. Para 4.2 (JDA) provides that the landowner alone shall apply to the government authorities to obtain sanctioned plans. The plain and clear meaning of this provision is that in the eyes of law the applicant is not recognized in respect of the legal approvals required for development of the land. Law recognizes that the landowners alone as the persons responsible for developing the land. The landowners have further engaged the applicant to develop the land in accordance with the approvals. In such a scenario the claim of the applicant that they are sellers of land is hollow and devoid of merit. At best the applicant assists the landowners in the sale of plots which all belong to the landowners. The applicant has no right over the plots. The applicant only has a right to the extent of 25% of the amounts received on account of sale of the plots towards the cost of development incurred by them.
9. In Para 6 (JDA) it is provided that the entire cost of development shall be borne by the applicant. This shows that the applicant is engaged in the activity of providing a certain service to the landowners and the landowners will compensate the applicant for the same in accordance with the terms of the agreement.
10. The revenue sharing arrangement in Para 8 of the agreement indicates that the applicant gets an amount on the sale of each individual plot. This shows that there are no fixed earmarked plots to which the applicant can claim an entitlement. Further the amount received on the sale of the plots is credited to an escrow account and then only the same is divided. This further shows that the applicant is not the owner of the plots and consequently cannot claim sale of the plots as his supply.
11. The provisions of the agreement related to indemnification in Para 12 provide that the applicant stands indemnified by the landowners on any issue related to the title of the 1and. This again shows that the applicant has no claim on the title of any portion of the land. Once they have no right vested in them, they cannot hold themselves out as sellers of land as envisaged in Entry 5 of Schedule III. In such an arrangement the applicant can only be considered to have extended their services to the landowners in the sale of the plots.
12. Para 20 of the agreement relates to raising of loan by the applicant in relation to the development of land. The applicant can raise loan on the basis of the security of 25% of the undivided share in the property. The agreement, in the same sentences qualifies that this represents the applicant’s revenue share. This shows that the agreement recognizes the applicants right only in the form of revenue share to the extent of 25% of the cost of each plot sold.
13. On the basis of the aforementioned provisions of the agreement it would be in order to conclude that activities undertaken by the applicant are not qualified to be covered under entry number 5 of Schedule III of the said Act.Thus the activities undertaken by the applicant amount to a supply of service and we answer the first question in the affirmative, i.e. the activities undertaken by the applicant, as envisaged in the agreement placed before the Authority, amount to a supply of service to the landowners and is liable to be taxed appropriately under the provisions of the CGST/KSGST Acts.
The second question raised by the applicant relates to whether provision of Rule 31 can be made applicable in ascertaining the value of land and supply of service for the purpose of taxable value if their activity is held liable to tax under GST.
14. The terms of the agreement at Para 6 provide that the cost of execution of the development of the land including the cost of fee payable to the architects, contractors, staff , workmen etc shall be borne by the applicant. Further Para 6.1 provides that the applicant recovers the cost from the purchasers of the plots. In this regard the provisions of Para 8 dealing with revenue sharing are worth noting. Para 8.1 provides that as and when any plot is so1d, the proceeds shall be divided between the applicant and the landowners in the given ratio. This shows that the charges that the applicant receives for the services provided by them to the landowners for the development of the land are equal to their revenue share when the plots are sold. Now we look at the definition of ‘Consideration’ as enumerated in Section 2(31) of the Act. It is stated therein that “consideration” in relation to supply of goods or services or both includes ang payment made or to be made, whether in money or otherwise, in respect of, in response to, or for the inducement of, supply of goods or services or both, whether by the recipient or by ang other person …..
15. In this context we see that the applicant receives consideration equal to 25% of the value at which each of the plots is sold. This amount constitutes the consideration for the services provided by the applicant. Section 15 of the CGST Act, 2017 provides that the value of a supply of goods or services or both shal1 be the transaction value, which is the price actually paid or payable for the said supply where the supplier and the recipient are not related and the price is the sole consideration.It is seen here that the applicant does not get any physical possession of 25% of the plots as understood by the applicant. The agreement provides that the applicant gets 25% of the amount at which each of the plots is sold. This shows that the consideration that the applicant receives is in the form of money and not in the form of land. The only peculiar feature of this arrangement is that the landowners do not arrange any cash amount on their own to pay to the applicant for their services. They do not have to invest any personal amount in this manner and as and when a plot is sold the amount is shared and the applicant receives a part of their consideration. In this manner the applicant gets paid his consideration progressively. Therefore, in terms of the provisions of Section 15 the applicant receives the value of taxable supply made by them.
16. Rule 27 deals with the determination of Value of supply of goods or services where the consideration is not wholly in money. In the present case the entire consideration is received in money form. Therefore, this Rule does not apply to the present case. Rule 28 is applicable for determination of value of supply of goods or services or both between distinct or related persons, other than through an agent. The distinct persons are as defined in sub section (4) and (5) of Section 25. In the present transaction there are no distinct persons as defined in sub section (a) and (5) of section 25 are involved. Therefore Rule 28 also does not apply. Rule 29 and 30 also do not apply in the case. Consequently Rule 31 comes into play in the instant case. Rule 31 provides that where the value of supply of goods or services or both cannot be determined under rules 27 to 30, the same shall be determined using reasonable means consistent with the principles and the general provisions of section 15.
17. In the instant case what the applicant receives as their remuneration for the provision of the services of development of the land and their subsequent activities related to the sale of the plots is an amount equal to 25% of the open market value of each plot. The arrangement is that the applicant shall get the amount only as and when the plots are sold. As already discussed earlier this arrangement, where the applicant gets paid for their services only upon the sale of the plots, enables the landowners to not to spend their financial resources to pay the applicant for their services. The applicant gets 25% of the amount collected from the plot purchasers. This amount constitutes their consideration for their services rendered to the landowners. The contention of the applicant that the land cost should not be included in the value and only the cost of the services should be considered for levy of tax, is not acceptable. Consideration for a service is the total value that the service provider gets in the deal and not what the service provider expends for the provisioning of the service. The total gain to the applicant or the total amount accruing to the applicant for the services is 25% of the amount at which the plots are sold.It has already been emphasised and held that the applicant has no right in the title of the land and therefore the applicant cannot be considered as the sellers of the plots. Their role is limited to aiding and assisting the landowners in the sale of the plots. They are only service providers in the whole process, be it development of the raw land into residential plots or their sale after the development. Therefore, the entire amount received by them is liable to be taxed.
Observations of Author:
The recent ruling could potentially put developer of the property into a tough situation. The justification of the Advance Ruling Authority, that the activities undertaken by the applicant, as envisaged in the agreement placed before the Authority, amount to a supply of service to the landowners and is liable to be taxed appropriately under the provisions of the CGST/KSGST Acts, is seems accurately. But this ruling can bother for developers of the property for the decision that the entire amount received by them is liable to be taxed without deducting the marketable value of the land sold under JDA.
However, please note that Section 103 provides that an advance ruling pronounced by AAR or AAAR shall be binding only on the applicant who sought it in respect of any matter referred to in 97 (2) and on the jurisdictional tax authority of the applicant. This clearly means that an advance ruling is not applicable to similarly placed taxable persons in the State. It is only limited to the person who has applied for an advance ruling.
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Disclaimer: Nothing contained in this document is to be construed as a legal opinion or view of either of the authors whatsoever and the content is to be used strictly for educative purposes only.
Attention: [KAAAR upheld the order passed by the KAAR and the appeal led by the appellant was dismissed vide order KAR/AAAR-19/2020-21 dated 04.05.2020]
Read AAR Ruling- GST payable on development of land into residential layout and sale as per JDA
Read AAAR Order – GST on development of land and sale of plots
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