Collaborations & Joint Development Agreement and Capital Gains Tax

Collaborations & Joint Development Agreement and Capital Gains Tax:

A joint development agreement is an executory agreement between a land owner or owners and the builder/promoter regarding any real estate joint venture project. A joint venture is one where a land owner with a vacant land or land with building enters an agreement with the builder to construct new projects. The Builder puts up a building. Thereafter, the land owner and builder share the constructed area. The builder delivers the `owner’s share’ to the land-holder and retains the `builder’s share’. This way, the capital, construction and legal work will be carried out by the builder whereas the land will be provided by the land owner.

 

The scope of Capital Gains in Joint Development Agreement is a vast one and is made with an eye on the tax consequences of the transaction.

 

 Important Considerations/issues:
1. Whether the profit is taxable under the head capital gain or business income in the hands of land owner?
2. When does the Capital gain Tax arise for the land owner and developer? Is it at time of signing the joint development agreement, at the time of receiving the constructed buildings, or at the time of selling the buildings?
3. What will be the full value of consideration received on transfer of the capital asset?
4. The Joint Development Agreement between the Landowner and Developer breaks down and the project is not completed, then whether Landowner is liable to pay capital gains tax?

The point by point detailed analysis is as under:

1. Whether the profit is taxable under the head capital gain or business income in the hands of land owner?

Whether the profit is taxable under the head capital gain or business income in the hands of land owner is depend on the complete fact and the circumstances of the case. In the case of Sathappa Textilers (P) Ltd. Vs. CIT, 263 ITR 371(Mad.) court held that there should be genuine case of stock in trade otherwise profit will be taxed only in capital gain head. Merely passing of resolution for conversion of land into stock in trade is not treated as genuine case.

A. As per sec 45(1) any profit/gains arising from transfer of capital asset is taxable under the capital gain head in the previous year in which the asset is transferred.

B. As per sec 45(2) if a capital asset is converted into stock in trade, the capital gain is taxable in the year in which such asset is sold. Thus still taxable as capital gain.

2. When does the Capital gain Tax arise for the land owner and developer? Is it at time of signing the joint development agreement, at the time of receiving the constructed buildings, or at the time of selling the buildings?

Relevant provisions of income tax act:

A. As per sec 45(1) any profit/gains arising from transfer of capital asset is taxable under the capital gain head in the previous year in which the asset is transferred.
B. As per sec 2(47)(v) transfer includes any transaction involving the allowing of the possession of any immovable property to be taken or retained in part performance of a contract of the nature referred to in section 53A of the Transfer of Property Act, 1882 1 (4 of 1882 ).

  • Transaction involving possession to be handed over in part performance of a contract in the nature referred to in Section 53A of Transfer of Property Act, it amounts to transfer. Section 53A clearly explains the concept of part performance of a contract of sale of immovable property. If a buyer is put in possession of a property in part performance of the obligations under the agreement on the buyer paying a substantial portion of the sale consideration, the contract of sale is treated to be in part performance.
  • Where the agreement for transfer of immovable property by itself does not provide for immediate transfer of possession, the date of entering into the agreement cannot be considered to be the date of transfer within the meaning of sub clause (v) of section 2(47) of the Income tax Act.
  • Where the agreement for transfer of immovable property by itself provides for immediate transfer of possession, the date of entering into the agreement shall be considered to be the date of transfer within the meaning of sub clause (v) of section 2(47) of the Income tax Act.

Summary with conclusion:

S.No. Case When does the Capital gain Tax arise Explanation
1. Where possession is transferred at the time of agreement At time of signing the joint development agreement Once it is held that the transaction is treated as transfer as per Sec 2(47)(v), the actual date of taking physical possession will be irrelevant.
2. Where possession is not transferred at the time of agreement At the time of receiving the constructed buildings Such transactions will not be covered under sec 2(47)(v).
3. if a capital asset is converted into stock in trade At the time of selling the buildings Sec 45(2)

3. What will be the full value of consideration received on transfer of the capital asset?

 

S.No. Case Sale consideration Explanation
1. Where possession is transferred at the time of agreement FMV of assets Fair market value of the capital asset on the date of transfer to be taken as sale consideration, in cases where the consideration is not determinable. (Sec 50D)
2. Where possession is not transferred at the time of agreement FMV of flats received by Land owner Such transactions will not be covered under sec 2(47)(v).
3. if a capital asset is converted into stock in trade FMV of assets as on Date of conversion Sec 45(2)

4. Joint Development Agreement between the Landowner and Developer breaks down and the project is not completed, then whether Landowner is liable to pay capital gains tax?

In the case of K.R. Srinath v. Asst. CIT,[2004] 141 Taxman 268 (Mad.), Where the assessee initially paid advance under an agreement for the purchase of a property, reserving right to specific performance of the agreement, and later received consideration under another agreement under which the earlier agreement was cancelled and the vendor was allowed to sell the property to any person at any price, there was a relinquishment of right by the assessee which amounted to ‘transfer’, and the resulting gain was assessable as capital gains. Since the assessee had paid a sum for acquiring the right to acquire the sale deed, it could not be said that there was no cost of acquisition so as to take the view that there could be no assessment to capital gains.

Hence, even if the Joint Development Agreement between the Landowner and Developer breaks down, if the landowner has acquired due to Joint Development Agreement, then what landowner has acquired will come under the definition of “capital asset” and Income Tax department can levy capital gains tax on that capital asset.

Conclusion :

Thus there are three main propositions to be considered while deciding the tax proposition on Joint Development Agreement:

a. Possession and General Power of Attorney and development agreement has been executed further fact that the payment has been postponed to future date is irrelevant. Follow Bombay High Court’s decision in Chaturbhuj Dwarkadas Kapadia’s.


b. Possession has been handed over but from the facts it can be demonstrated that the developer has not performed or not intended to take any efforts which may result in breach of contract- consequently does not amount to transfer u/s 2(47)(v). Binjusaria Properties (P.) Ltd.’s case (supra), Fibars Infratech (P.) Ltd.’s

Please note that Any one should take care while preparing collaboration agreement. Clause of possession in agreement is vital.

Author,
CA Lalit Aggarwal
Mobile: 9999565491
E-mail: lalit.agrwal@gmail.com

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