In a big relief to the real estate sector, the Supreme Court on Thursday allowed the industry to claim input tax credits (ITC) on construction costs for commercial buildings meant for renting purposes.
It said that if construction of a building is essential for supplying services like leasing/renting out, it could fall under the ‘plant and machinery’ category on which ITC can be claimed under Section 17(5)(d) of the Central Goods and Services Tax Act (CGST). This provision essentially prohibited claiming ITC for construction materials (other than plant or machinery) used for immovable property construction.
While upholding the constitutional validity of Sections 17(5)(c) and (d), a bench led by Justice Abhay Oka ruled that “if the construction of a building is essential for the activity of supplying services like renting or leasing, as outlined in clauses 2 and 5 of Schedule 2 of the CGST Act, the building may be considered a ‘plant’.
A functionality test must be applied on a case-by-case basis to determine if the building qualifies as a plant for tax purposes, it added.
However, the top court said that the question whether a mall, warehouse or any building other than a hotel or a cinema theatre can be classified as a plant within the meaning of the expression “plant or machinery” used in Section 17(5)(d) is a factual question which has to be determined keeping in mind the business of the registered person and the role that building plays in the said business.
It also partly remanded the matter to the HC for limited purposes of deciding whether a shopping mall is a “plant” in terms of clause (d) of Section 17(5).
ITC means the Goods and Services Tax (GST) paid by a taxable person on any purchase of goods and/or services that are used or will be used for business. ITC can be reduced from the GST payable on the sales by the taxable person only after fulfilling some conditions.
The apex court said that if buildings provided on rent perform the same function as that of a “plant” in a factory which produces economic value and output supply, then ITC on such buildings cannot be denied.
In this case, Odisha High Court in 2019 had allowed Safari Retreats to claim the benefit of ITC on works contract and other goods and services used in the construction of an immovable property, excluding plant and machinery. The HC had ruled that ITC for construction materials under the provision cannot be denied to developers constructing properties for renting out. The revenue had then challenged the HC decision in the SC.
Tax experts welcomed the decision, saying the judgment brings much-needed clarity to the GST law concerning ITC on immovable property. Now eligibility for credit will be assessed based on a variety of factors.
“These include the functionality and purpose of the building, the nature of the business, the specific role the building plays, and its essentiality in facilitating the provision of services,” Abhishek A. Rastogi, founder of Rastogi Chambers said, adding that “the interpretation of the term ‘plant’ will be very relevant to examine the essentiality and functionality test for determining the eligibility of the input tax credits.”
Terming it a “huge relief for the taxpayers,” senior counsel Tarun Gulati said that the judgment will have a huge positive impact on several industries like airports, ports, warehousing, hotels, and real estate where ITC was being denied merely because the structure which was used for providing services was immovable. “It is a watershed moment in the development of the GST law,” he added.
Saurabh Agarwal, Tax Partner, EY said that SC’s recognition that malls can, in specific instances, be classified under Plant and Machinery introduces a more flexible interpretation. “This opens up opportunities for businesses, especially in the real estate and commercial leasing sectors, to explore ITC eligibility on construction-related inputs.”
Although the constitutional challenge was dismissed, the acceptance of the taxpayer’s submission under Section 17(5)(d) is a positive outcome, potentially lowering the financial burden on developers and fostering greater investment in commercial real estate. “The real estate industry should carefully evaluate the implications of this ruling on ITC eligibility for outward supplies related to rental income.
Given the SC’s decision, it would be prudent for the GST Council to issue clarifications allowing real estate players to claim ITC on rental income,” Agarwal suggested.
This ruling is also expected to help reduce rental costs, as ITC would no longer be a financial burden for the industry.
“Importantly, the ruling applies retrospectively from the inception of GST, but the time limit for claiming ITC for the period up to 2022-23 has already passed. However, industry players can still claim ITC for FY 2023-24 until November 30,” according to tax experts.
“It is crucial to note that this ruling applies solely to rental income; in cases where a builder has income from both works contract services and rental income, ITC would only be allowed to the extent of the rental income. A thorough review of ITC eligibility should be undertaken by industry participants to ensure compliance and maximize benefits,” Agarwal added.
Vivek Jalan, Partner, Tax Connect Advisory Services LLP said that the judgement is a big relief to those who have constructed buildings, capitalized such amount and let them out on rent. “ITC on goods or services used for repairs, construction, works contract, etc to such buildings, which have not been capitalized in the books, is as it is available and not blocked under Section 17(5) of The CGST Act,” he added.
