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Buying an under construction flat is most taxing for any buyer. In my post on Resale Flat or Under Construction Flat, Which is better? i discussed pros and cons of under construction flat. Builders attract buyers with attractive offers of Rs 2999* psf or Rs 3999* psf only. The “star” next to price point makes all the difference. A buyer is caught unaware of miscellaneous charges attached to under construction flat. Though with the time, things have changed and now reputed builders disclose most of the charges associated with under construction flat. Still small and unorganized builders which contribute max inventory keep customers in dark. Dream of owning a house is still a dream for many and in order to bring affordability factor, most of the additional charges are not disclosed to the end user. One such monster is VAT (Value Added Tax) and Service Tax levied on the under construction flats. For many of my clients this is the only souring point with the builder for under construction flat.

As per ruling of Honorable Supreme Court of India, the sale of under construction flat / property is liable to pay VAT. State Govt’s are quite happy with this decision as VAT helps to generate additional revenue because VAT is a state subject. Service Tax is paid to the central government. VAT and Service Tax increase the total cost of under construction flat. Let me clarify that VAT and Service Tax are not applicable for “Constructed Property”. It is only applicable for under construction flat. Secondly, VAT may vary from state to state as it is state subject but service tax is uniform across country i.e. 12.36% as it is fixed by Govt of India.

Honestly speaking its a Grey area and no one knows how it is getting calculated. Recently i visited few builders and checked with them and they are also not aware :). Simple answer i received was that VAT and Service Tax is Rs X. One of them candidly told me that their finance team is calculating VAT and Service for under construction flat based on what is beneficial for him :)

Let me explain, There are 2 different methods of calculating VAT and Service Tax for under construction flat

Method 1

If total project cost is apportioned flat wise then there are 3 cost components of any under construction flat. These 3 cost heads are Land Cost (approx 35%), Material Cost (approx 40%) and Labour + Service Cost (approx 25%). Cost break up may vary from project to project but on an average cost break remains approximately the same as shared by me. You can get this break up from builder for an under construction flat though builders are reluctant to share. Some exceptions are like High Land cost in cities like Mumbai and Delhi or High Material Cost due to transportation in upcoming cities.

VAT is applicable only on Material cost @ 14.5% and ST is applicable only on Labour & Services Cost @ 12.36%. Please note that VAT may vary from state to state. In this post i have taken VAT as applicable in state of Karnataka for reference.

Lets understand with an example:

Assuming Person A bought an under construction flat with base cost of 50 lakh i.e. excluding amenities, club house charges, PLC, deposits etc. In this case, builder will apportion 50 lakh under 3 heads for under construction flat i.e. Land Cost, Material cost and Labour + Service Cost. The break up for under construction flat is as follows

Land Cost: 15 Lakh

Material Cost: 23 Lakh

Labour + Service Cost: 12 Lakh

Material Cost + Labour + Service Cost is collectively referred as Construction Value

Now applicable VAT and Service Tax will be as follows for under construction flat in Karnataka

VAT = 14.5%  X  Rs 23,00,000 = Rs 3,33,500

Service Tax = 12.36%  X  Rs  12,00,000 = Rs 1,48,320

Total VAT and Service Tax will be Rs 481820

Method 2:

In 2nd method, instead of calculating head wise cost for under construction flat, VAT and Service Tax is calculated on Total contract value of the flat. This value is amount mentioned in agreement value or registration value / value for stamp duty purpose, Whichever is higher. Let’s check how it is done

VAT: In case of VAT, many states have launched composition scheme for real estate developers e.g. Haryana, Maharashtra etc. Under composition scheme, builders are free to pay VAT at X% on Total Contract Value. This X% is normally 1% (e.g. Haryana and Maharashtra) for most of the states.

Service Tax: Similarly Service Tax under composition scheme is 3.09% of Total Contract Value for under construction flat. It basically means that service tax of 12.36% will be charged on 25% of total contract value, if the total contract value is less than 1 Cr or flats are below 2000 sq ft. Therefore 25% of 12.36% is basically 3.09% of total contract value.

In case under construction flat is costing 1 Cr and more or under construction flat is more than 2000 sq ft in area then service tax applicable is 3.71%. For such cases, Service tax is charged at 30% of total contract value. Therefore 30% of 12.36% is 3.71% of total value. Only condition is that agreement is signed after March, 2013

In continuation of our example, VAT in Karnataka is 5.5%. For under construction flat costing less than 1 Cr in karnataka, VAT + ST = 8.59% of total cost (5.5% VAT + 3.09% ST). For 50 lakh flat, VAT and Service Tax will be Rs 429500

Method 2 is financially more beneficial in our example but not always. It depends on break up of cost. For states like Maharashtra, Haryana, AP etc where VAT is 1% under composition scheme Method 2 is financially more beneficial.

Million Dollar Question: Who will pay the VAT and Service Tax?

Unfortunately, NO one would like to bear this additional burden. There is no specific guidelines on this. Buyers say that as per court ruling it has to be paid by the builder for under construction flat. Let me clarify, responsibility of builder is to deposit the VAT and Service Tax with govt. It doesn’t mean he has to deposit from own pocket. Therefore it all boils down to what is being mentioned in the agreement between builder and the buyer. If you wish to avoid paying VAT and Service Tax kindly insist on mentioning the same in your agreement with the builder.

Important Points:

1. Land cost is exempted from both VAT and Service Tax

2. Total contract value include value of land under composition scheme. Some builder exclude value of land citing it is exempted from VAT and Service Tax. Please note VAT and Service Tax under composition scheme include value of land i.e. it is part of Total Contract Value.

3. VAT and Service Tax is not applicable on Ready to Occupy flats. You may postpone sale agreement to be signed after completion certificate is issued. In short, if completion certificate is issued then VAT and Service Tax is not applicable for so called “under construction flat”.

4. Builder will issue 2 separate payment receipts i.e. one each for VAT (with Tax Invoice no and TIN) and ST (with Tax Invoice No and ST registration no).

5. VAT & Service tax should be specifically mentioned in the sale agreement and which party will bear this cost

6. Service Tax is not applicable on single residential unit i.e. independent house, villa or bungalow

7. Service Tax is not applicable for low cost housing with carpet area of upto 60 sq. mt. per house in the housing complex but subject to approval from concerned authorities

8. Service Tax on Amount paid towards Amenities, PLC etc will be 12.36%. Service tax on these cost heads will not be calculated under composition scheme and Service Tax of 12.36% will be payable on actuals.

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