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The proposal to reduce the Goods and Services Tax (GST) rate on under-construction projects, will have positive implications for the sector. Considering that the modest turnaround witnessed in 2018 was driven primarily by sales of completed projects, which do not attract GST, the reduction in GST on under-construction projects will be a strong impetus for the growth of the real estate sector in 2019. While the removal of Input Tax Credits (ITC) may reduce developers’ profit margins in the short term, the revived demand for under-construction projects will offset the impact of this, over the long term.
GST on real estate: Impact of the earlier high rates
The previous GST rate was a deterrent for home buyers. Developers had been looking to incentivise sales of under-construction projects, with special offers and discounts. The new rate reduces the pricing disparity between under-construction and completed projects. The new tax structure will allow a more balanced sale of inventory between under-construction and ready-to-occupy housing, providing relief to all stakeholders. This will boost sales of under-construction projects and spur demand for new projects.
Over the last few years, residential properties have remained under pressure in terms of pricing and developers have been forced to push sales using tactics such as discount offers and other forms of freebies. As the spotlight is on growth in terms of volume, it is believed that this pressure on prices is likely to continue. Only a handful of developers have managed fully absorbed the GST impact in the form of discounts, given the unfavorable demand in most micro-markets.
Problems associated with input tax credits in real estate
Previously, the ITC helped in reducing construction costs, thereby, preventing delays and substantially reducing property costs. The removal of ITC may affect short-term profitability on the supply side, including steel and cement inputs. However, the resulting demand generation from the reduction in GST, will far outweigh the negative aspects. Over the past year, home buyers have shown to be reluctant to pay GST levied on under-construction projects. The increase in sales, catalysed by the new tax structure, will offer relief to developers by offsetting the liquidity and funding challenges, which will occur from the removal of ITC.
Calculating ITC currently leaves a lot of room for interpretation and is one among the numerous factors that impact a project’s financial viability. Developers who quickly adapt their operations to the simpler tax structure without credits, will see improvement in their balance sheets. The accelerating sales will also reduce the unsold inventory, which is a perennial challenge for the real estate sector, especially in recent years. To ensure that the real estate sector does not revert to being cash-driven, developers will have to purchase their inputs predominantly from GST-registered dealers.
New GST rates for real estate: How it will benefit home buyers
The new tax structure is buyer-friendly and will go a long way towards addressing the needs of home buyers. The revised GST rates will be a significant boost for home buyers, especially in conjunction with the income tax slab changes announced in the budget and the reduction in the RBI’s repo rate. The reduction in GST could potentially reduce a home buyer’s overall payment by up to 6-7%, depending on the segment.
The removal of ITC ensures that home buyers get the full advantage of the GST reduction. A flat 5% rate of GST without ITC, is a better option for home buyers due its simplicity and transparency. There is no need to pursue reclaiming of credits after the purchase. A simpler tax structure will renew interest in real estate investments. A wider spectrum of home buyers will be encouraged to invest in real estate, due to the significant reduction in cost.
Rationalisation of GST rates: Impact on real estate
GST was introduced to replace a complex and multi-layered taxation system, with a clear unified tax. It was expected to simplify the tax system, as well as improve compliance. Rationalising GST on under-construction projects has been one of the real estate sector’s foremost requests, since the tax policy was introduced.
The new GST rates, combined with the full implementation of RERA and other incentives proposed in the union budget, will boost demand and revitalise the market. The proposed transition plan for the implementation of the new tax structure is a positive step, as it will give adequate time to adapt operations to the new structure. Developers are looking forward to more measures that will increase demand, lower costs for them and strengthen the momentum moving forward.
(The writer is director, Aparna Constructions & Estates Pvt Ltd)