Redevelopment of society – Tax implications

I. Introduction

• Redevelopment of society means tearing down of an existing society and building a new one in place of that. Simply put, it is reconstruction of the existing residential and/or commercial structure. There are various reasons as to why a co-operative society would prefer a redevelopment, primary reason being, the wear and tear of the existing society. Redevelopment requires huge capital inflow; this is where big/ large builders strike a deal with the members of the co-operative society and propose for a redevelopment.
• Typically, in case of a Co-operative Housing Society, a tri-partite Development Agreement is entered into between the Society as Owner, Developer and the Members of the Society usually as a confirming party and the development rights or right to construct by loading of transfer of development rights (TDR) is transferred to the developer. Usually, the Society continues as owner of Land and building. However, it is also possible that by virtue of the Development Agreement, Land and Building may be transferred to the Developer.
• The Development Agreement contains various terms and conditions of re-development. It contains provisions for the area of new flat to be allotted to the Members, temporary alternate accommodation to be provided to the members, the corpus fund to be provided to the member/society and the area available with the developer for Sale in the new building. The Society gives the Developer a general Power of Attorney to apply for various permissions and to permit him to enter the premises for demolition of old building and construction of new building.
• The Developer enters into a Permanent Alternate Accommodation Agreement (PAAA) with individual members with respect to new flat to be allotted to the member in the re-developed Building. Such Development Agreement is registered. The Developer obtains various permissions to commence the construction by demolition. Usually upon obtaining the permissions, the members vacate their old premises. The Developer hands-over the new flats upon completion of redevelopment. The new flat owners who purchase flats from the developer’s share are given membership in the Society. The various issues of taxation arising in above process of re-development of co-operative housing society are discussed hereinafter.

II. Income tax considerations

A. Whether sale of development rights amounts to transfer and thereby chargeable to tax under the head capital gains

• • The term ‘transfer’ in relation to a capital asset is defined in section 2(47) of the Income-tax Act, 1961 (IT Act). Section 2(47) IT Act uses the word ‘or’ instead of ‘and’. Therefore, all the conditions laid down in the provisions of section 2(47) are not required to be cumulatively satisfied and even if any condition is satisfied, the capital asset can be considered to be transferred within the meaning of section 2(47).
  • As per provisions of clause (ii) to section 2(47) extinguishment of any right in the capital asset also results in transfer in relation to the capital asset. The term ‘any right’ used in the aforesaid clause is wide enough to even include the development rights in the land.
  • Reference may be placed on the following case laws wherein it was held that transfer of development rights would be subject to capital gains:
    • Land Breez Co.-Operative Housing Society Ltd. v. ITO ([2013] 55 SOT 103 (Mum. Trib.)
    • Maheshwar Prakash-2 Co-op. Hsg. Society Ltd. v. ITO ([2009] 121 TTJ 641 (Mum. Trib.)) [Confirmed by Bombay HC in ITA No. 2346 of 2009 dated 24/4/2015]

B. When does transfer take place?

• • The year of transfer in case of Joint development Agreements has been a matter of great dispute. The primary area of dispute is whether transfer takes place at the time of transfer of rights or when the property is transferred by the developer to the member.
  • When pursuant to a Development Agreement, Assessee mainly receives share in the constructed area and if such share is taxed in the year of execution of Development Agreement, then Assessee has to pay huge taxes on the share in constructed area even though the constructed area is to be received in future.
  • Reference may be drawn in the case of CIT v. Balbir Singh Maini reported at (2017) 398 ITR 531 (SC) wherein the assessee was a member of the Punjabi Cooperative Housing Building Society Ltd. The society entered into Joint Development Agreement (JDA) for development of 21.2 acres of land with the Developers. The consideration was fixed as cash and share in constructed area to be given to the individual members. The Supreme Court held that S.2(47)(v) was not applicable as the JDA was not registered. The Supreme Court also analyzed the alternate argument of transfer u/s 2(47)(vi). S.2(47)(vi) provides that transfer includes any transaction (whether by way of becoming a member of, or acquiring shares in, a co-operative society, company or other association of persons or by way of any agreement or any arrangement or in any other manner whatsoever) which has the effect of transferring, or enabling the enjoyment of, any immovable property. The Supreme Court held as under :

“The object of Section 2(47)(vi) appears to be to bring within the tax net a de facto 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.

A reading of the JDA in the present case would show 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. We are, therefore, of the view that this clause will also not rope in the present transaction.”

It was also held that the assessee did not acquire any right to receive income, inasmuch as such alleged right was dependent upon the necessary permissions being obtained. This being the case, in the circumstances, there was no debt owed to the assessees by the developers and therefore, the assessees have not acquired any right to receive income under the JDA as permissions were not obtained and the JDA fell through.”

• • Reference may also be drawn in the case of Bhatia Nagar Premises, Co-operative Society Ltd. v Income-tax Officer, Ward-24 (3)(1) reported at [2013] 37 taxmann.com 9 (Mumbai – Trib.) wherein it was held that where assessee-housing society entered into Development Rights Agreement (DRA) with developer, transfer of property could be said to have taken place only when possession was handed over to developer, and not on date of agreement, when only a small portion of consideration had been received
  • On interpretation of various judicial precedents, it can be seen that there is transition in determination of year of transfer; from the date of execution of development agreement; to the year of possession ; to the year of obtaining permissions and consequent demolition. The year of taxability is also held in some cases to be the year in which share in constructed area is received. Also, for determining year of transfer, subsequent events such as not obtaining approvals, cancellation of agreement have to be taken into consideration. Simply put, year of transfer would largely depend on the terms and conditions of the Development agreement.

C. What is the tax implication on grant of development rights?

a) In the hands of Society

• • • If at the time of redevelopment, the society was not in possession of unutilized FSI and/or development rights, no capital gains implication in the hands of the society on the receipt of corpus money on surrender of FSI and/or development rights. However, in this regard, it would be pertinent to note that Section 55(2) of the IT Act has been amended with effect from 01.04.2024 to include “any other intangible asset” or “any other right”

b) In the hands of members

• • • Reference may be drawn in the case of Deepak S. Shah v ITO reported at  (2009) 29 SOT 26 (Mum) wherein it was held that the member was neither holding any capital asset nor the same had been sold, exchanged or relinquished. Therefore, the same would not attract capital gains under section 45 of the IT Act.

D. What is the Liability of Capital Gain Tax on Society for receiving amenities and facilities for the common use of its members and their families

• • If the Society is receiving the amenities and facilities for the common use of its members and their families then the same is not taxable in the hands of the Society or the Individual members as there is no cost of acquisition of the same.
  • Reference may be drawn in the case of JETHALAL D.MEHTA V. DY. CIT [(2005) reported at 2 SOT 422 (MUM.), wherein the Hon. Income Tax Appellate Tribunal mainly relied upon Supreme Court decision in the case of CIT V. B.C.SRINVASA SHETTY 128 reported at ITR 294 in which it was decided that if there is no cost, then no capital gain can be worked out.

E. What is the tax implication in case of alternate accommodation / rent charges received by the members?

• • In case of redevelopment, it has been seen that the members of the society receive compensation for alternate accommodation, such compensation is equivalent to the rent that is to be paid for the alternative accommodation.

• • While there are several cases that support that such income will not be subject to tax, a conservative view generally adopted by the taxpayers is to offer the compensation received as income from other sources under Section 56 of the IT Act and correspondingly claim expense as rent paid under Section 57 of the IT Act.

F. Requirement under Section 54 of the IT Act ?

• • Section 54 of the IT Act states that if any residential property which was held for a period of more than 3 years is sold or given for redevelopment and the new flat is purchased or acquired within a period of 1 year before or 2 years after the sale or constructed within 3 years after the sale then capital gain arising on the transfer of the old flat will be exempt to tax under the said section to the extent of the cost of such new flat.
  • In the case of redevelopment, the new flat to be acquired is treated as “constructed” for the purpose of the Section 54. Thus, if the new flat is acquired by the owner within a period of 3 years from the surrender of the original flat then the capital gain arising from the sale of the original flat can be claimed to be exempted u/ s. 54 of the Income Tax Act. If the new flat is not acquired by the owner within a period of 3 years, then the Assessing Officer at his discretion can disallow the same at any time during the assessment.
  • However, allotment of a flat or a house by a cooperative society, of which the assessee is the member, is also treated as construction of the house [Circular No. 672, dated 16-12-1993].

Conclusion: The redevelopment of co-operative societies triggers various tax implications under the Indian Income Tax Act, ranging from capital gains on development rights to exemptions under Section 54. Understanding the nuances of these tax considerations ensures that societies and members navigate the redevelopment process effectively, minimizing tax liabilities and maximizing benefits. Consulting with tax professionals can provide valuable insights and guidance tailored to specific circumstances, ensuring compliance and optimizing financial outcomes.

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Disclaimer: This article provides general information existing at the time of preparation and we take no responsibility to update it with the subsequent changes in the law. The article is intended as a news update and Affluence Advisory neither assumes nor accepts any responsibility for any loss arising to any person acting or refraining from acting as a result of any material contained in this article. It is recommended that professional advice be taken based on specific facts and circumstances. This article does not substitute the need to refer to the original pronouncement.