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January 28, 2011 Tribunal equates sale of land with transfer of rights in the land The Mumbai Income Tax Appellate Tribunal (“ITAT”) has recently held1 that the transfer of development rights in land should be considered a transfer of land, subject to adequate consideration requirements under section 50C of the Indian Income Tax Act, 1961 (“ITA”). This ruling is particularly relevant to the real estate industry as it highlights certain key tax issues which could arise in the context of real estate development arrangements. Background During the relevant year, the two taxpayers and other co-owners of a certain inherited property (“Property”), entered into agreement (“Development Agreement”) for development of the Property, for a consideration of INR 6,300,000. The ownership stake of the taxpayers was 2/7th and 1/7th respectively, as a result of which they received INR 1,800,000 and INR 900,000 respectively. These amounts were recorded by the taxpayers as capital gains from the transfer of development rights. As the Stamp Valuing Authority had valued the Property at a much higher value (INR 47,348,000) the Tax Officer issued a show cause notice to the two taxpayers, asking why the provisions of s. 50C of the ITA should not apply with respect to transfer of development rights. Section 50C stipulates that, where land is transferred for less than the value adopted by a state government authority, such higher value shall be deemed to be the sale consideration. The instant case is pursuant to an appeal before the Tribunal, from a ruling against the taxpayers by the Commissioner of Income Tax (Appeals). Arguments and Ruling It was argued by the taxpayers before the ITAT, that section 50C could only apply to situations where there was a transfer of land or building, and not merely a transfer of development rights in, as in this case. The taxpayers argued that the Property continued to be held by the taxpayers for all purposes including municipal records for payment of property tax, and that even the stamping authority had levied stamp duty at the rate of 1% (applicable to agreements) vis-à-vis the 5% rate applicable to conveyances relating to the transfer of land. The revenue authorities raised a technical argument that the taxpayers did not raise the objection relating to non-applicability of section 50C during the assessment proceedings, and further submitted that the taxpayers themselves offered the relevant sum as capital gains against transfer of property during the relevant year, as a result of which the transfer was in fact a transfer of land. ITAT held that section 50C of the ITA was applicable, as the taxpayers themselves had offered the capital gains against the transfer of property in the relevant year. In examining whether section 50C could apply, even when there was no transfer of Property, ITAT observed that the ITA does recognize situations of “deemed transfer” under section 2(47)(v) of the ITA. Under section 2(47)(v), part performance of contract under section 53A of the Transfer of Property Act is considered a taxable transfer of property and results in capital gains to the taxpayer irrespective of transfer of title. It was observed by the ITAT that section 53A “talks about a situation where the right created in favour of the transferee cannot be defeated otherwise than by the terms and conditions expressly provided in the contract.” It was further held that, “When the assessee (taxpayer) has received the sale consideration and handed over the possession of the property in question vide development agreement then the condition prescribed u/s 53A of the Transfer of Property Act are satisfied and accordingly, as per the provisions of section 2(47)(v) of the IT Act the transaction of transfer is completed. Merely because the name of the assessee still stands in the record of the municipal record does not change the nature of the transaction.” Therefore, it was held that section 50C is applicable to a transfer of development rights by the taxpayer. Analysis Did the Tribunal apply the appropriate provision to the transfer of development rights? Capital gains under the ITA are taxable under section 45 of ITA, which triggers upon any “transfer” of a capital asset. The term ‘transfer’ is defined in section 2(47) of the ITA, as sale / exchange / relinquishment or extinguishment of rights in property, and section 2(47)(v) considers immovable property to have been “transferred” for the purposes of section 45 if there is part performance under section 53A of the Transfer of Property Act, 1882. In this case, while there was a transfer of development rights resulting in capital gains tax, the issue is whether such transfer could be considered to fall under section 2(47)(v) of the ITA so as to result in a deemed transfer of the immovable property. ITAT’s reliance on section 53A of the Transfer of Property Act seems misplaced, as section 53A requires the transferor to contract to transfer any immovable property, and may not be triggered upon an agreement to transfer rights in the immovable property such as development rights, as the development rights were apparently being sold independent of the corresponding undivided parcel of land. Further, in this case, there does not seem to have been part performance as the Development Agreement appears to have been fully performed pursuant to transfer of possession and payment of consideration. Section 53A appears to have been applied in this case as the court regarded conditions the transfer of the development rights as a transfer of the corresponding parcel of land as well, and which transaction was part performed pending the execution of the sale deed. Even though land and the development rights (superstructure thereon) can be held independent of each other, land and development rights are usually sold as a package with the value of the land usually built in to the valuation of the development rights. Most development agreements would envisage conveyance of the corresponding undivided parcel of land to the ultimate flatbuyer, society or the developer at a later stage giving express authority to the purchaser of the development rights to convey the title in the land to the ultimate flat buyer. To that extent, even though, transfer of development rights, in spirit, entails a transfer of the corresponding parcel of land, technically, land should still be regarded as a capital asset independent of the development rights, and unless the development agreement provides for transfer of the land as well, it may be inappropriate to impute the value of land in the case of transfer of development rights. Regarding the emphasis laid by the Tribunal on “transfer of possession”, it is unclear whether the Development Agreement contained provision for transfer of the Property, or if there was a separate agreement between the co-owners and the developer, as is common in similar arrangements involving the transfer of development rights. Thus, while it is true that for the purposes of capital gains tax under section 45, a transfer could take place without transfer of title, this ruling does not adequately distinguish between situations where such a transfer may be said to occur, versus situations where the owner permits use of property by a third party. It is only to be hoped that subsequent rulings will address the lack of clarity that has emerged. _________________________ 1 Arif Akhatar Hussain, ITA No. 541/Mum/2010
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