Development Agreement – Income Tax on Land Owner

INTRODUCTION:

Computation of income tax liability in the hands of the land owners upon execution of a development agreement has been a matter of litigation for ages. The injustice is caused to the land owners due to capital gain tax liability arising on the date of execution of the DA and handing over possession of the land to the Developer. Section 2(47) read with section 45 of the Income Tax Act shifts such liability to the front end even before the land owner has received the consideration for such “transfer”. To overcome this injustice, the legislature has introduced section 45(5A) of the Act wherein if the land owner is an individual / HUF then, subject to conditions such tax liability arises upon completion of project. However, there is another bigger legal issue which arises in the case of DA which is the subject matter of this article. The issue is whether execution of DA is at all a “transfer” under the Income Tax Act. If this question is answered in negative then section 45(5A) will not apply.

In a recent decision of Shri A. R. Prasad v. ITO (ITA no. 956/Bang/2016) the Bangalore ITAT has vide its order dated 28/08/2019 held that a “permissive possession” is not a possession in part performance of the agreement for sale u/s. 53A of the Transfer of Property Act, 1882 and therefore section 2(47(v) of Income Tax Act is inapplicable.

Facts of the case :

During AY 2009-10, the Appellants (holding share of 10% each) along with other co-owners entered into a Joint Development Agreement (“JDA”) on 10/09/2008 with M/s. V for development of residential apartments on the land. As per the said JDA, M/s. V would develop the land and deliver to the Owners 30% of the constructed area along with car parking spaces, share in common area, etc.

Based on this information, the AO, after relying upon the decision of Karnataka High Court in the case of Dr. T. K. Dayalu v. CIT¹ concluded that the land owners were liable to tax on Capital Gains in the year in which the JDA was executed i.e. AY 2009­10. Accordingly, the AO computed Capital Gain by applying guidance value of Rs.203,53,228/- on date of JDA as sale consideration and calculated capital gain tax. The CIT(A) upheld the order of AO. Aggrieved, the land owners preferred an appeal before hon’ble ITAT.

Issues before hon’ble ITAT inter alia include :

The land owners contended that there was no “transfer” as contemplated under section 2(47) of the Act since:

i. The Builder was granted permission to enter the land for the purpose of development upon :

– Approval of plan and grant of license for construction of building from concerned authorities ;

–    Execution of allocation agreement between the Appellants / Co-owners and builder identifying and allocating area falling to share of each of the parties involved.

ii. JDA is only a permission to enter into the land for the limited purpose of its development and construction as per the sanctioned plan. The POA was executed only to facilitate the builder to take necessary approvals for executing the contract.

iii. Conveyance of possession of land was deferred to the time of issuance of certificate of completion.

iv. There was no consideration received at the time of entering into JDA. The consideration being 30% area is received only in AY 2013-14.

v. In the case of Chaturbhuj Dwarka Das Kapadia v. CIT² the Bombay Court held that transfer of possession of the property at the time of entering into JDA can be recognised as transfer u/s. 2(47)(v) only in cases where the contract read as a whole indicates that at that point of time there is transfer of complete control over the property in favour of the developer.

AO’s contention :

On the other hand the revenue contended that:

i. The Appellants vide JDA have granted permission to the builder to enter the land for implementation of JDA.

ii. The JDA contains a clause that when the builder becomes entitled to transfer / sell the developers’ area, the builder can ask the Appellants to sign and execute appropriate conveyance in favour of the builder. Thus, the Appellants have to establish that the builder has not entered into any sale agreement consequent to this clause.

Rule applied by hon’ble ITAT :

The ITAT relied upon the definition of the word “Transfer” as provided under section 2(47) of the Income Tax Act, 1961. The ITAT noted that sub section (v) includes, any transaction involving the allowing of possession of any immovable property to be taken or retained in part performance of a contract of the nature referred to in section 53A of the Transfer of Property Act, 1882 (“TOPA”).

On a reading of the said sub clause the following conditions emerge:

i. There should be a contract for consideration ;

ii. It should be in writing ;

iii. It should be signed by the Transferor ;

iv. It should pertain to transfer of immovable property ;

v. The transferee should have taken possession of the property ;

vi. The transferee should be ready and willing to perform his part of the contract.

The ITAT relied on the decision of Smt. Lakshmi Swarupa v. ITO³ wherein the Court after considering the decision of Karnataka High Court in the case of Dr. T.K. Dayalu (supra) held that the clause in the JDA regarding possession clearly states that what is given is not possession contemplated u/s. 53A of the TOPA and that it is merely a “license to enter” the property for the purpose of carrying out development. The “possession” is in the nature of “permissive possession” and not possession in part performance of agreement for sale. Therefore, invocation of the provisions of section 2(47)(v) was not proper.

Similarly, in the present case, the possession is handed over to the builder only for limited purpose to enter upon the property for the purpose of implementation of JDA. Further such permission is granted subject to approval of plan and grant of licence for construction of building from concerned authorities. Thus, the permission granted is in the nature of permissive possession and not possession in part performance of agreement for sale.

The builder was permitted to enter the property for construction only after 24/08/2009 since the commencement certificate was issued on 24/08/2009. Accordingly, ITAT observed that even permissive possession was not handed over in the year in appeal. Accordingly, the ITAT held that there was no “transfer” of the land by the owners to the Developer and no capital gain arose on execution of the JDA.

Acelegal Analysis :

The great jurist Salmond in his book on “Jurisprudence” stated that in law possession can be of various types. In the present case, the ITAT has explained two types of possession (i) permissive possession and (ii) possession in part performance of agreement for sale. There are various other types of possession. The Apex Court in the case of B Gangadhar v. B G Rajalingam⁴ observed that possession may mean “legal possession”, which is recognized and protected as such by law. Legal possession could be “de facto possession” or “de jure possession”. However, every de facto possession need not always be a possession in law. On the other hand a person who although having no “de facto possession”, is deemed to have possession in law. This de jure possession is sometimes said to be “constructive possession”.

Section 53A of the Transfer of Property Act, 1882 be attracted, when the following two conditions are satisfied :

(i) The transferee must, in part performance of the contract, have taken  possession of the property or any part thereof ; and

(ii) The transferee must have performed or be willing to perform his part of the agreement.

It is only if these two important conditions, among others, are satisfied that the provisions of Section 53A can be said to be attracted. In other words, section 53A of the TOPA would apply to de jure possession more than the de facto possession. Possession which is protected under the law is the possession contemplated under section 2(47)(v) of the Income Tax Act.

In the present case, the Developer obtained a license to enter upon the land for the purpose of developing the land into flats and selling the same. Such license cannot be said to be ‘possession’ within the meaning of Section 53A, which is a legal concept, and which denotes control over the land and not only physical occupation of the land. This being the case, Section 53A of TOPA cannot possibly be attracted. This position has been made clear by the Apex Court in the case of Seshasayee Steels (P.) Ltd. v. ACIT⁵.

Similarly, in the case of CIT v. Balbir Singh Maini⁶, the Apex Court held that the object of Section 2(47)(vi) is to bring within the tax net a de jure transfer of any immovable property. The expression “enabling the enjoyment of” takes color from the earlier expression “transferring”, so that it is clear that any transaction which enables the enjoyment of immovable property must be enjoyment as a purported owner thereof. The idea is to bring within the tax net, transactions, where, though title may not be transferred in law, there is, in substance, a transfer of title in fact. In this case, the Apex Court observed that the JDA shows that the owner continues to be the owner throughout the agreement, and has at no stage purported to transfer rights akin to ownership to the developer. At the highest, possession alone is given under the agreement, and that too for a specific purpose -the purpose being to develop the property, as envisaged by all the parties. Thus, section 2(47) is not attracted.

The said decision of Balbir Singh Maini (supra) is followed by the Bombay High Court in the case of Pr. CIT v. Fardeen Khan⁷. In that case the Court observed that on execution of the Development Agreement, the developer did not have exclusive possession of land but had only permitted user / license to the land from the assessee. However, the possession of land continued to be with the assessee. Accordingly, the Court held that no transfer had taken place u/s. 2(47) of the Income Tax Act, 1961.

Conclusion:

Ultimately tax liability on the land owner will depend upon how the JDA is drafted between the parties. It’s the JDA which is brought into interpretation while deciding the question of transfer of possession under law. Therefore, while drafting the JDA the contract will have to balance the need of developers to have proper title and the land owners desire to defer the tax liability.

Notes:-

1. ¹ ITA no. 3209 of 2005, order dt. 20/06/2011

2. ² (2003) 260 ITR 491 (Bom.)

3. ³ (2019) 174 ITD 54 (Bang.)

4. ⁴ MANU/SC/0212/1996

5. ⁵ (2020) 421 ITR 46 (SC)

6. ⁶ (2017) 398 ITR 531 (SC)

7. ⁷ (2018) 96 taxmann.com 398 (Bom.)