Renting of immovable property

The Division Bench of the Delhi High Court comprising of Justice Badar Durrez Ahmed and Justice Rajiv Shikader gave a milestone judgment on 18th April, 2009, in the case of Home Solution Retail India Ltd and Others Vs. UOI and Others (2009-TIOL-196-HC-DEL-ST). The issue involved in this case related, to a batch of Writ Petitions challenging the legality, validity and vires of Notification No.24/2007 dated 22.05.2007 and Circular No.90/1/2008 dated 04.01.2008, issued by the Secretary, Ministry of Finance, Department of Revenue, Government of India.

In this article, an attempt has been made to understand the crux of the decision by Hon^¶ble High Court. Before discussing way forward of this judgment, let's take a note of chargeability of service tax on renting of the immovable properties, Petitioners contention & basis of appeals and highlights of this judgment.

ÄLegal wires for Chargeability of service tax on renting of the immovable properties:

Service tax was sought to be levied on “renting of immovable property” w.e.f. 01.06.2007. The relevant definitions in this regard are as below:

Section 65 (90a) provides for the definition of “renting of immovable property” as: -

³It includes renting, letting, leasing, licensing or other similar arrangements of immovable property for use in the course or furtherance of business or commerce but does not include —

(i) renting of immovable property by a religious body or to a religious body; or

(ii)renting of immovable property to an educational body, imparting skill or knowledge or lessons on any subject or field, other than a commercial training or coaching centre.

Explanation [1]. — For the purposes of this clause, ^³for use in the course or furtherance of business or commerce´ includes use of immovable property as factories, office buildings, warehouses, theatres, exhibition halls and multiple-use buildings;

Explanation 2. — For the removal of doubts, it is hereby declared that for the purposes of this clause “renting of immovable property” includes allowing or permitting the use of space in an immovable property, irrespective of the transfer of possession or control of the said immovable property;´

Section 65 (105) of Finance Act, 1994 provides for the definition of “Taxable service”. Sub clause (zzzz) of the said Section provides that

Taxable Service ^³means any service provided or to be provided to any person, by any other person in relation torenting of immovable property for use in the course or furtherance of business or commerce.´

As per Section 67 of the Finance Act, 1994 service tax is levied on “gross amount” charged. Exemption Notification No. 24/2007-ST, Dated 22.05.2007 has been issued, which exempts service tax on property tax paid in respect of such property. In other words, service tax in excess of the amount payable on the gross value minus the

property tax is exempted. It can be inferred there from that what is taxable is the total rent minus the property tax. An example has also been provided in the said notification by way of illustration.

The relevant portion of the Notification is produced as under: -

^³….the Central Government, on being satisfied that it is necessary in the public interest

so to do, hereby exempts the taxable service of renting of immovable property, referred to in sub-clause (zzzz) of clause (105) of section 65 of the Finance Act, from so much of the service tax leviable thereon as is in excess of the service tax calculated on a value which is equivalent to the gross amount charged for renting of such immovable property less taxes on such property, namely property tax levied and collected by local bodies……….´

It has also been clarified in the CBEC^¶s circular No. 98/1/2008 Dated 04.01.2008, with regards to a query whether service tax paid under “commercial or industrial construction service” or “works contract service” towards construction of a building, be treated as an input service, for the service of “renting of immovable property” and service tax paid on the former can be availed as CENVAT credit and utilized for payment of service tax on the latter? It was clarified in the Circular that “right to use immovable property is leviable to service tax under renting of immovable property service” and hence Credit is not admissible.

The relevant portion of the said Circular is produced as under: -

^³…….Right to use immovable propertyis leviable to service tax under renting of immovable property service.

Commercial or industrial construction service or works contract service is an input service for the output namely immovable property. Immovable property is neither subjected to central excise duty nor to service tax.

Input credit of service tax can be taken only if the output is a ^µservice‘ liable to service tax or a ^µgoods‘ liable to excise duty. Since immovable property is neither ^„service^¶ or ^„goods^¶ as referred to above, input credit cannot be taken………´

The above two, viz., Notification 24/2007 implying that the levy of service tax is on the rental income out of renting of immovable property and the circular clarifying that Right to use immovable property per se is a taxable service, were challenged in the batch of Writ petitions.

ÄAppellant’s contention and Basis of Appeals in writ Petitions:

It was alleged by the petitioners in the batch of writ petitions that by virtue of the said notification and circular a completely erroneous interpretation is placed on section 65(90a) and section 65 (105) (zzzz) of the Finance Act, 1994 as amended by the Finance Act, 2007. It was further alleged that because of this incorrect interpretation, service tax is sought to be levied on the renting of immovable property as opposed to

service tax on a service provided "in relation to the renting of immovable property".

In nut shell, the petitioners have raised the question as to whether the Finance Act, 1994 envisages the levy of service tax on letting out / renting out of immovable property per se or whether services in relation to renting of immovable property service are leviable to service tax?

The Petitioners, who are either landlords or tenants in respect of leased premises, contented on the validity of the said Notification (supra) that though this notification speaks of an exemption it also refers to the taxable service as “a service of renting of immovable property". This, according to the view of petitioners, is not so envisaged under the said act. They argued that section 65(105)(zzzz) refers to the service provided or to be provided to any person, by any other person, in relation to renting of immovable property for use in the course or furtherance of business or commerce. The reference in the said provision is not to the taxable service of renting of immovable property but to the taxable service "in relation to" the renting of immovable property.

The petitioners' contention construe that while the Act does not treat renting of immovable property as a taxable service, the takings of the notification are purely based on the cock-and-bull story that the taxable service is the renting of immovable property itself. On this basis it has been contended that service tax is sought to be recovered from the petitioners on a pure misconstruction of the statutory provision.

Similarly, the impugned circular whilst providing a clarification in respect of commercial and industrial construction service has perceptibly clarified that the "right to use immovable property is leviable to service tax under the renting of immovable property service". According to the petitioners, the clarification therefore travels beyond the provisions of the said act by contemplating a service tax on the renting of immovable property itself.

Consequently, the petitioners asserted on the validity of said notification dated 22/05/2007 and said circular dated 04/01/2008 and sought to set aside them as being ultra vires the said act.

Alternatively, the petitioners have taken the plea that, in case, if it is held that such a tax is envisaged then the provisions of section 65(90a), section 65(105)(zzzz) and section 66 insofar as they relate to the levy of service tax on renting of immovable property would add up to a tax on land and would therefore fall outside the legislative capability of Parliament, as the said subject is covered under Entry 49 of List II of the Constitution of India and would fall within the exclusive domain of state legislature. Hence forth such, provisions would have to be declared as un-constitutional.

ÄCases Referred

The counsel appearing on both sides have sought to place reliance on following cases: -

1.) T.N.Kalyana Mandapam Association Vs. Union of India (2004-TIOL-36-SC-ST)

The Supreme Court considered the issue of the taxable service provided by a mandap keeper. In this case Supreme Court held that the taxable service provided

as a caterer by a mandap keeper was within the legislative competence of the Parliament and could not be construed as a tax on the sale and purchase of goods. In this context, the Supreme Court observed that it was well-settled that the measure of taxation cannot affect the nature of taxation and, therefore, the fact that service tax is levied as a percentage of the gross charges for catering did not alter or affect the legislative competence of the Parliament in the matter.

The Delhi High Court observed that the said conclusion of the Supreme Court clearly distinguishes between the case of a mandap keeper and that of a person who rents out an immovable property for use in the course or furtherance of business or commerce. Consequently, the Supreme Court decision in the case of Kalyana Mandapam does not advance the case of the respondents. On the other hand, it does go towards clarifying the stand taken by the petitioners.

2.) Doypack Systems Pvt Ltd

200 2-TIO L-389-SC-MISC

In this case the Supreme Court elucidated the scope of the phrase "in relation to" as to cover the widest amplitude. The Court observed as under:

"The expressions 'pertaining to', 'in relation to' and ^„arising out of', used in the deeming provision, are used in the expansive sense. The expression 'arising out of' has been used in the sense that it comprises purchase of shares and lands from income arising out of the Kanpur Undertaking.”

The Supreme Court further emphasized that a tax cannot be struck down on the ground of lack of legislative competence by enquiring whether the definition accords with what the layman's view of service is. It noted the well-settled principle that in matters of taxation, the courts permit greater latitude to the statute to pick and choose objects and rates for taxation and has a wide discretion with regard thereto.

3.) ALL India Federation 2007-TIOL-149-SC-ST

4.) BSNL v. Union of India 2006-TIOL-1 5-SC-CT-LB

5.) Commissioner of Income-tax, Bangalore v. B.C. Srinivasa Shetty 2002-TIOL-587-SC-IT-LB

6.) Union of India v. Inter Continental 2008-TIOL-83-SC-CUS

ÄInterim Stay granted by following High Courts from collection of service taxin terms of Section 65 (105) (zzzz) of the Finance Act, 1994

1.) Bombay High Court – W.P No. 1263 of 2007 - Stay Order dated 30.07.2008

2.) Andhra Pradesh High Court –

W.P. No. 6572 of 2008 - Stay Order dated 27.03.2008

3.) Gujarat High Court – Special Civil Application No. 5269 of 2008 - Stay Order dated 28.03.2008

4.) Delhi High Court – W.P.(C) No. 1659 of 2008 - Stay Order dated 03.03.2008

5.) Madras High Court – W.P. No. 30276 of 2007 - Stay Order dated 09.10.2007

ÄDelhi High Court's judgment:

The Division Bench of the Delhi High Court pronounced its verdict in favour of the assesseess / petitioners and held that Notification No.24/2007 and Circular dated 04.01.2008 are ultra vires the said Act. The relevant part of the decision is produced as under: -

Paras 34, 35 and 36 of the Order reads as follows:

^³From the above discussion, it is apparent that service tax is a value added tax. It is a tax on value addition provided by a service provider. It is obvious that it must have connection with a service and, there must be some value addition by that service. If there is no value addition, then there is no service. With this in mind, it would be instructive to analyse the provisions of Section 65(1 05)(zzzz). It has reference to a service provided or to be provided to any person, by any other person in relation to ^³renting of immovable property for use in the course or furtherance of businessor commerce´. The wordings of the provision are so structured as to entail – a service provided or to be provided to µA' by µB' in relation to ^µC'. Here, µA' is the recipient of the service, µB' is the service provider and µC' is the subject matter. Aspointed out above by Mr. Ganesh, the expression “in relation to” may be of widest amplitude, but it has been used in the said Act as per its context. Sometimes, ³in relation to´ would include the subject matter following it and on other occasions it would not. As in the case of the service of dry cleaning, the expression ³in relation to dry cleaning´ also has reference to the very service of dry cleaning. On the other hand, the service referred to in Section 65(1 05)(v), which refers to a service provided by a real estate agent ³in relation to real estate´, does not, obviously, include the subject matter as a service. This is so because real estate by itself cannot by any stretch of imagination be regarded as a service. Going back to the structured sentence, i.e. – service provided or to be provided to µA' by µB' in relation to ^µC', it is obvious that µC' can either be a service (such as dry cleaning, hair dressing, etc.) or not a service by itself, such as real estate. The expression ³in relation to´ would, therefore, have different meanings depending on whether µC' is a service or not a service. IF „C' is a service, then the expression “in relation to” means the service „C' as well as any other service having connection with the service ^„C”. Where „C' is not a service, the expression “in relation to” would have reference only to some service which has a connection with ^„C”. But, this would not imply that „C' itself is a service.

From this analysis, it is clear that we have to understand as to whether renting of immovable property for use in the course or furtherance of business or commerce by

itself is a service. There is no dispute that any service connected with the renting of such immovable property would fall within the ambit of Section 65(1 05)(zzzz) and would be exigible to service tax. The question is whether renting of such immovable property by itself constitutes a service and thereby, a taxable service. We have already seen that service tax is a value added tax. It is a tax on the value addition provided by some service provider. Insofar as renting of immovable property for use in the course or furtherance of business or commerce is concerned, we are unable to discern any value addition. Consequently, the renting of immovable property for use in the course or furtherance of business of commerce by itself does not entail any value addition and, therefore, cannot be regarded as a service. Of course, if there is some other service, such as air conditioning service provided along with the renting of immovable property, then it would fall within Section 65(1 05) (zzzz).

In view of the forgoing discussion, we hold that Section 65(1 05(zzzz) does not in terms entail that the renting out of immovable property for use in the course or furtherance of business of commerce would by itself constitute a taxable service and be exigible to service tax under the said Act. The obvious consequence of this finding is that the interpretation placed by the impugned notification and circular on the said provision is not correct. Consequently, the same are ultra vires the said Act and to the extent that they authorize the levy of service tax on renting of immovable property per se, they are set aside.´

The Hon^¶ble High Court based its findings and resolved the issue by delving upon the following two issues:

1. Interpretation of the term “in relation to”.

2. Absence of value addition by the service provider.

The High Court has interpreted the term “in relation to renting of immovable property” and went on to consider whether the term “in relation to” would even cover “renting of immovable property” per se, or would cover only the services which are “in relation to” such “renting of immovable property”.

While dealing with this issue, the Hon^¶ble High Court took note of various decisions interpreting the term “in relation to” and also observed that services are of two kinds, viz., property oriented and performance oriented. It is further observed service tax is a value added tax and when there is no value addition, there is no service tax.

Quoting from the decision, the Hon^¶ble High Court noted that if services are provided to “A” by “B”, in relation to “C”, “A” is the service recipient, “B” is the service provider and “C” is the subject matter. The Hon^¶ble High Court has laid down that the question whether the term “in relation to” in the above example would refer to the subject matter “C” itself is dependent upon the context.

The Hon^¶ble High Court went on to observe that if “C” by itself is a service, the expression “in relation to” would cover “C” also and if “C” by itself is not a service, the expression “in relation to” would not cover “C” as such, but would cover only those peripheral services, which would add value to the subject matter.

The Hon^¶ble High Court has compared the definition of taxable service for dry cleaning services, which reads as “any service provided or to be provided by any person to any other person, in relation to dry cleaning” and came to a conclusion that in this case, since dry cleaning by itself is a service, the expression “in relation to” would cover dry cleaning per se also. On the contrary, according to the High Court though the definition of taxable service for real estate agent service reads as “any service provided or to be provided by a real estate agent, in relation to real estate”, the same shall not cover real estate per se, since it is not a service.

The Delhi HC has, while dealing with the question as to whether renting of immovable property for use in the course or furtherance of business or commerce by itself is a service, has also held that any service connected with the renting of such immovable property would fall within the ambit of Section 65(105)(zzzz) and would be exigible to service tax. Of course, the HC has specifically held in Para 35 of its order that if there is some other service, such as air conditioning service that is provided along with the renting of immovable property, then it would fall within Section 65(105)(zzzz).

Now, it is well known that the Landlords/ Lessors do provide a lot of services like letting out of fitouts, furniture, provision of air-conditioning, providing common parking space, providing common facilities, common power supply, etc. as part of an overall package and, in terms of the Delhi HC judgment, all of these services would indeed get covered under ^„Renting of Immovable Property' services. In other words, the Delhi HC's judgment holding that ^„renting of immovable property' is not a service, is only, qua, the activity of renting of the immovable property without any additional services being rendered. If any other services get provided by the Landlord or the Lessor, the provisions of Section 65(105)(zzzz) stand automatically attracted, as per the Delhi HC.

The question is whether renting of such immovable property by itself constitutes a service and, thereby, a taxable service. Service tax is a value added tax. It is a tax on the value addition provided by some service provider. Insofar as renting of immovable property for use in the course or furtherance of business or commerce is concerned, we are unable to discern any value addition. Consequently, the renting of immovable property for use in the course or furtherance of business of commerce by itself does not entail any value addition and, therefore, cannot be regarded as a service. Of course, if there is some other service, such as air conditioning service provided along with the renting of immovable property, then it would fall within Section 65(105)(zzzz).

So the High Court held that Section 65(105)(zzzz) does not in terms entail that the renting out of immovable property for use in the course or furtherance of business of commerce would by itself constitute a taxable service and be exigible to service tax under the Act. The obvious consequence of this finding is that the interpretation placed by the impugned notification and circular on the said provision is not correct. Consequently, the same are ultra vires the said Act and to the extent that they authorize the levy of service tax on renting of immovable property per se, they are set aside.

The Highlights of the decision are: -

9 Service in relation to renting of immovable property means a service which is distinct and different from mere renting of immovable property itself.

9 The transaction of renting of immovable property by itself is not taxable in terms of Section 65 (105) (zzzz) of the Finance Act

9 Service tax is Value Added Tax and hence only the ^„”value added” is liable to be taxed by way of service tax.

9 The Act of renting of immovable property by itself does not provide any value addition to any person.

9 In the case of lease, the right of possession is transferred whereas in the case of license, there is a transfer of permissive possession. Such transfer of right cannot be considered as service; and

The Hon'ble court has not given judgment on validity of Section 65 (105) (zzzz) of the Finance Act but quashed or set aside the operative part of the subject notification and circular which entails levy of service tax on renting of immovable property.

ÄIssues emerged by this Decision

This Decision has led to emergence of new issues before the Industry. Some of them are being highlighted as under: -

1.) How will this decision get implemented at the ground level, especially, in cases, where a composite rent is charged by the Landlord/Lessor for letting out the commercial or industrial property and also for providing common services?

As per the Service Tax (Valuation Rules) of 2006, the gross amount charged on which service tax is to be collected, would include the portion of the overall rentals as are attributable to the letting out of the bare/worm shell, which as per the Delhi HC, is not a taxable service. There is no provision in the service tax for an artificial bifurcation to be carried out, to ascertain the portion of the ^„rent' as is attributable to the activity of ^„letting out of the property' which, as per the Delhi HC, is not a taxable service.

The Government has and option to provide for abatement from the gross rent, so as to represent that the levy is only on services in relation to renting and not on renting per se.

2.) What are the implications of this order in respect of transactions outside of Delhi?

Article 226 of the Constitution places two important limitations upon exercise of the powers of the High Court, viz.

The writ issued by the court cannot run beyond territory subject to its jurisdiction.

The authority to which High Court is empowered to issue the writs must be amenable to the jurisdiction of the court either by residence or by location.

It is clear then that the decision of the Delhi HC would not apply to lease/rental agreements entered into, in respect of premises located outside of the jurisdiction of the Delhi High Court, even in respect of the parties who have filed the writs. Thus, even in respect of the petitioners, it is only the properties located within the jurisdiction of Delhi would get covered by the HC decision while, properties outside of Delhi, would still not be covered.

3.) And, lastly, where does this decision of the Delhi High Court leave the hapless Developers/Landlords / Lessors?

Very unfortunately, the extensive coverage of this judgment in the press has already created an impression that the Delhi High Court has struck down the service tax levy on commercial rentals, which as we saw, is totally incorrect. Now, there would be a clamour from the tenants for service tax not to be charged on the rents paid by them while the Department would continue to insist that the landlords/lessors pay service tax on commercial rentals. The Landlords/Lessors could easily get caught in a ^„Catch 22' situation.

4.) Whether the Refund of service tax already paid on renting of immovable properties will be allowed or not?

If the service tax has already been paid but not collected from the recipient of service, refund claim can be made within one year from the relevant date under Section 11B of the Central Excise Act, 1944

If the service tax has already been paid and collected from the recipient of service, the recipient of service may claim the refund provided that he can substantiate that he has not passed the burden of tax to any other person.

Further a new question arises as to what will happen to refund for a period prior to one year from the relevant date in terms of the Section 11B of the Central Excise Act, 1944?

This issue is subjective and depend upon legal interpretation of levy being illegal or unconstitutional so as give right to claim refund either with in specified period of one year in terms of Section 11B of the Central Excise Act, 1944 or filing a suit or writ petition to claim refund for extended period of limitation.

ÄBefore parting ………

Hence, it may be safely concluded in view of recent judgment of the Hon'ble Delhi High Court and relevant provisions of the Finance Act that service tax is not leviable on mere renting of the immovable property and on transactions involving transfer of rights, in some form or other in immovable property like Lease agreements, Leave and License agreements, etc.

Before parting with this batch of cases, the High Court observed that it has not examined the alternative plea taken by the petitioners with regard to the legislative competence of the Parliament in the context of Entry 49 of List 11 of the Constitution of India. Such an examination has become unnecessary because of the view it has taken on the main plea taken by the petitioners.

Now the lobby of lessors / landlords are eagerly waiting for the Decision of Apex Court so that the ambiguity arisen by this decision is ascertained and issue comes to an end.

By: - Pradeep Jain, FCA

Renting of Immovable Pr ope r ty – D e lh i H ig h Co ur t Decision

he Division Bench of the Delhi High Court comprising of Justice Badar Durrez Ahmed and Justice Rajiv Shikader gave a milestone judgment on 18th April, 2009, in the case of Home Solution Retail India Ltd and Others Vs. UOI and Others (2009-TIOL-196-HC-DEL-ST). The issue involved in this case related, to a batch of Writ Petitions challenging the legality, validity and vires of Notification No.24/2007 dated 22.05.2007 and Circular No.90/1/2008 dated 04.01.2008, issued by the Secretary, Ministry of Finance, Department of Revenue, Government of India.