GST Issues: Denial of ITC related to construction of Enabling works/PEB storage sheds by treating these as Immovable property

(This is the first article on GST in this Blog and it may not be that relevant for a non GST professional. So I have divided the article in two parts- first part is general discussion about taxes which I think is relevant for everybody and second part is specific to the GST issue but even in this part the views about immovable property are relevant even for a non GST professional)

PART-1-General discussion about Taxation

Tax laws should be simple

If we keep ourselves aside then objectively, on its own, life does not seem to have any higher purpose….except reproduction. Everything around us- whether a flower, an animal or an insect…everybody is just seemed to have one motive and that is to reproduce before death. Life- if one can see appears to support and favors reproduction only not anything else. It does not care if a poor baby is being killed or an innocent girl is being raped…no law of life intervenes…nothing. We may be having larger than life aspirations from our short term life here but life does not seem to expect much from us. But still, all this massive universe and gigantic phenomenon couldn’t have been planned just for creating this worthless cycle of birth and death. There must be some higher purpose behind so much pain and plan in creation. But by looking at the relentless focus of life and support system mainly upon reproduction- it seems that the life system still has deficiencies and its design (like short life) is not fully supporting the basic purpose behind the creation. Or we are living in a Tier 3 world with a chance to upgrade into higher dimension world.

Taxation is a nightmare for most of the humanity. The language used to draft the tax laws is a nightmare even for the highly educated fellows. we see extremely talented professionals debating in courts over tax disputes where we see that the cases involving tax disputes of hundreds of crores are settled by courts over the interpretation of phrases like “in respect of”, “in relation to” , “means” or ”includes”. And when we see that the small useless phrase “in respect of” can be of so much importance we just tremble in awe. This extremely complex web of taxation seems to suggest that this is something very superior…that something extremely important, worthy is being planned and done…that these things are meant only for some chosen ones and this realm will remain out of the reach of normal beings like us. But for all the charisma around it, taxation system has only one purpose- to collect money and in most cases from normal ordinary human beings.

So one day, in the process of evolution, it is possible that an ape from a zoo would ask if the objective is so trivial (just collection of money, no contribution to the life and its objective) then why so much complexity in taxation system? Why to waste so much time and energy in creating such a complex system at first and then fighting for ages in courts for proving what is the “real” meaning/interpretation/coverage of a particular section of law? A beggar also collects money from other people without giving any service to them directly. Similarly taxation system also collects money from other people without giving any service to them “directly”. I am saying “direct service” because the use of the money collected from taxes for the welfare of the people may return something of value to them indirectly. But that is related to the use of money collected from taxes which if we can see suffers from even worse problems- the use of public money for productive uses is very scarce and most of the money is wasted in useless subsidies and freebies just to attract votes.

But we can see that the “usage” of money collected from taxes can be revolutionary for society and humanity- take for example that money can be used for doing revolutionary research in the field of medicine which can prolong the use full life of the human beings (not just old age where they just can breathe). But “collection” and “usage” of the tax money are altogether different and there is no doubt that “usage” definitely is more worthy and valuable. So both “collection” and “usage” need some systems to carry out the desired objectives of their creation but “collection” is a subordinate to “usage” and the efficiency of “collection” system is crucial to the ultimate objectives of “usage” system.

And the efficiency of taxation system is not in the complexity but in the simplicity. Complex system does not result in more tax revenues but more disputes and so much of the productive resources of an economy are consumed in this process of litigation. People confirm the efficiency of taxation structure on the basis of cost incurred for tax collection. The same is around 1% for most of the taxes but this is the direct cost. If we can count the indirect costs due to years of litigation, lack of clarity and doubt, money spent on court and lawyer fees, social costs and most importantly lack of investment due to fear of complex taxation. If one can count these then the same will outweigh any incremental tax revenue collected by creating a complex and arbitrary taxation system. That’s why I always say that tax system should be simple. It can’t be allowed to be so complex to create havoc to the society and economy. Its construction and composition should not burden businessmen so as to discourage investment and innovation but encouraging corruption and anarchy. Taxation system should not burden people with time wasting and costly compliances. Unnecessary and large numbers of compliances like monthly and annual tax returns etc. just increase the cost of doing business and hinder the economic growth because so much of the economic resources like manpower and money are spent on ensuring these tax compliances and disputes which adds nothing/little to the GDP. These forces act more like rentier forces or toll booths on economy collecting money…a charge on economy. Without any second thought, taxation system should be simple just like 2 plus 2 is four.

If there is anything in our society which indeed deserves complexity is the easy entry of anybody in public services, administration and politics. Any fool can enter these very important social structures without any testing. Just by passing an exam anybody can become a public servant and can play with gigantic economic and social resources. We attempt to test and measure their intelligence by taking exams/tests etc. but no tests for judging the integrity, ethical buildup, compassion and thirst for social welfare in the candidates which are more important for public services than intelligence because in the absence of these attributes intelligence will lead to corruption in almost all the cases. If you ask me, compassion is also a major part of IQ not intelligence alone. No doubt that any attempt to judge these abstract attributes of human character will make the selection process very complex but this is what and how it should be- the selection process of public servants should be very complex to discourage easy entry. Only a compassionate, honest and ethical policeman can do his job meaningfully making valuable contribution to the society and where general public can have faith and confidence not fear and disgust.

Things are very strange in our society. Governments distribute much of the resources collected through taxes to poor through many social schemes. As this distribution is targeted and involved scarce money/economic resources hence there should be extreme caution and focus to not to waste or misuse this money. So this indeed requires devising a very high tech, complex, transparent system so that money does reach the needy and corruption free. But situation is just the opposite- Huge quantity of food in the form of wheat/rice is wasted in the shabby warehouses by government meant for public distribution not to forget the widespread corruption. Highly subsidized Urea is used wastefully in excess because it is cheap- in some cases around 10-20 times the required input. So this inefficiency is everywhere wherever public money is involved instead of being highly efficient.

But on the contrary, taxpayers (Income tax) work day and night and then from their hard earned money they part away very significant portion as taxes. So government should be thankful to them but instead these taxpayers are burdened with unnecessary large number of compliances and in some cases making their life miserable. Instead of giving some exclusive benefits (like lower toll charges etc.) taxpayers are burdened with huge obligations although they give money (as tax) for free but the receiver of this (both direct and indirect taxes) money (including Government) who are receiving this for free have virtually no obligation towards proper and authentic utilization.

Similar is the case for indirect taxes. It is true that the collectors (businessmen/firms/companies etc.) of these taxes are dealing with public money so it must be ensured that they are doing this in good faith and there is no misappropriation and avoidance but still the prime responsibility for ensuring this lies with the tax department not on the assesse. So tax departments should devise systems to ensure most of the compliances indirectly rather than assessees spending big time and money on ensuring the same.

PART-2 GST

GST is one such attempt to bring simplicity to the taxation and to create an environment of flexibility, freedom, fearlessness, clarity, perspective and lower compliances. It is indeed a step in the right direction but as of now it still needs fine tuning.

Low compliances is one area where simpler rules/formats can ensure easy life for businesses. But seamless Input tax credit (ITC) is another area of equal importance and in no case a law should arbitrarily deny input tax credit to a business. In my view, for a business which is discharging output tax (GST) liability the right to avail ITC is a fundamental constitutional right. No law should attempt to disallow ITC just for the sake of revenue.

Disallowance of ITC of certain supplies in GST

GST act has disallowed the ITC of many input goods and services under section 17(5) of CGST act. One such disallowance (Clause (c &d) of section 17(5)) is against works contract services and goods/services used for the purpose of construction of immovable property other than plant and machinery even when these are used for the purpose of furtherance of business. Apart from exception in the form of plant and machinery the other exception is where works contract service is the input service for further supply of works contract service. Below is the reading of the Clause (c &d) of section 17(5):

input tax credit shall not be available in respect of the following, namely:

(c) works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service;

(d) goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business.

To explain the impact of this let’s take the example of Mahindra logistics Ltd which is a logistics player. Mahindra has built a warehouse for storing the goods of his customers and earns income from storage charges. Mahindra has incurred huge costs/investments in constructing this warehouse and must have paid GST on the procurement of all the goods and services which is Input tax for Mahindra. But as this warehouse is an Immovable property so due to the restrictions imposed by this section (immovable property and services offered not being of works contract but storage charges) Mahindra can not claim the ITC of the GST paid on its input goods and services used for the construction of warehouse. These logistics firms do not have large variable costs and their biggest cost is the cost of construction of warehouses etc. Their employee cost is lower than depreciation charge. Even if Mahindra take the warehouses on lease there will not be any difference because the firm who is leasing the warehouse to Mahindra must have forgone its ITC and thus the same has become its cost of construction which will increase the lease charges for Mahindra.

For a warehouse costing 50 cr the loss of ITC of GST will be around 9 cr which is substantial. One can easily see that this does not look very logical because Mahindra is paying the output GST on storage charges earned from its customers so it should get the ITC of input goods and services. The right to avail input credit is related to the payment of output tax and it can’t be restricted on any “particular” class of goods and services per se. same is the case with hotel industry where assets created are immovable but services offered are not works contract.

Violation of constitutional Right to Equality

There is no doubt that it is against the right to equality accorded by Article 14 of Indian constitution which is one of the six fundamental rights in the Indian constitution. Right to equality ensures that there shall not be any arbitrary discrimination between one citizen and the other. It applies to all persons like corporates which are legal persons. For more clarity, take the case of some steel pipe maker like Jindal. Jindal is buying steel and other goods and services for manufacturing steel pipes and is paying GST on all these input goods and services. Jindal is also paying output GST on its sale of steel pipes and as per GST law it can avail the ITC of GST paid on input goods and services. If we can see there is not any difference in the business model- both are paying output GST on their products but Jindal is entitled to claim the ITC of its major input goods and services while on the other hand Mahindra can’t claim the ITC of its major input goods and services. So one can clearly see that both are not treated as “equal” by the law and hence the same is unconstitutional and there are high chances that the Apex court may declare it so on one fine day. But I am leaving this constitutional part here due to length of this article but will explain the same in detail in some other post.

ITC of enabling works by Infrastructure firms

The issue I am going to discuss in this post is related to availment of ITC of enabling works by Infrastructure firms. Generally Infrastructure firms like L&T takes the orders from customers for construction of things like Power plants, Dams, road, Railway lines etc.  Take the example of an order received by L&T from NTPC for construction of a power plant of 800 MW. Here, L&T will be constructing the power plant on land belonging to NTPC. In most cases, NTPC buys the equipments related to power plants like Boiler, Turbine from other firms like BHEL and the same it hands over to L&T for erection and construction of power plant.

These construction firms need to construct sheds/stores for the storage of various materials it receives from NTPC and its own, development of open yard, fencing, electrification work of the open yard and Sheds for security and traceability, building approach roads etc. All this basic infrastructure is collectively called enabling works. The land for constructing store etc. is given by NTPC and as per contract terms L&T is required to demolish the same after the project is completed and no charges are charged by NTPC for the usage of the land.

These days infrastructure firms are using Pre-fabricated/pre-engineered materials (PEB) for the construction of enabling works (Closed and semi closed sheds) at their project sites. PEB building consists of a structural steel framing system, supporting a metal roofing system and the wall panels of varying materials. In PEB buildings, the building structure is built of steel frames instead of concrete and in most cases these steel frames are fabricated elsewhere in a factory and then brought to the site and then the same are installed using screws and welding etc. Also, the side walls and roof of the storage shed is also made of steel panels and roofing sheets. Apart from reduced construction time and lower cost, the main advantage of PEB structure is that the material is re-usable. The steel structure can be removed from site office without damaging the same and same can be reused at other project sites and after transporting the same to other sites it retains its original functionality. So this is a true green material.

Now the question here is- whether PEB building/enabling works is an immovable or movable property as the availment of ITC of GST paid on construction of the enabling works is dictated by this factor and if PEB building is immovable then no ITC will be available and cost implications are huge.  General industry view is that the same is immovable. Further doubts have been raised over this in the wake of recent ruling given by Advance ruling Authority West Bengal in case of Tewari Warehousing Co Pvt Ltd that ITC is not admissible on construction of a warehouse with prefabricated building blocks.

So in the next paragraphs I’ll try to explain the same. Whether some structure is immovable or movable is relevant not only from the perspective of ITC of GST but also in cases where a building is sold for significant amount and costly machinery is also installed/fabricated in the same building. So now the question may arise whether this transaction is one of sale of immovable property and will attract registration and stamp duty charges on registration/transfer of the building on the entire transaction value or else the transfer of machine is not sale of immovable property but one of sale of goods and thus GST is required to be paid on the same. One can see the involvement of huge sums in the form of registration & stamp duty charges and GST.

As per the Act, the ITC is restricted on the basis of Immovability not on the basis of capitalization. In fact, the ITC is allowed even for immovable property if the same is not capitalized hence we need to test whether the construction of enabling work falls under movable or immovable property.

(A) Construction of PEB enabling Structure  is movable or immovable?

First of all we need to find out what actually is immovable property. The same is defined in General clauses act 1897, Registration act 1908 and Transfer of property act 1882 which say that Immovable property includes land, benefits to arise out of land and things attached to earth. General clauses act and Registration act do not define the meaning of “attached to earth” but the same is done by Transfer of property act. It defines it as:

(a) rooted in the earth, as in the case of trees and shrubs;

(b) imbedded in the earth, as in the case of walls or buildings; or

(c) attached to what is so imbedded for the permanent beneficial enjoyment of that to which it is attached;

As per above, there is no doubt that land and a concrete building is an immovable property. But matter becomes complex when it is about movable things becoming immovable after being attached to these immovable civil structures like a machine or PEB material. To settle the same guidance is provided by the clause (c) above which provides for the permanent beneficial enjoyment of that to which it is attached.

This clause provides that a thing becomes immovable if the same is attached to an immovable structure and such attachment is for the permanent beneficial enjoyment of the immovable property (not of the thing) to which it is attached. These things are not immoveable properties per se but they become immovable as they are permanently attached/fixed to a foundation embedded in earth. So the pressing issues and tests here are 1) permanent attachment and 2) thing to be enjoyed. Major issue involved in deciding permanent attachment is the intent which further involves Object and Mode/extent/degree of annexation to the earth. Let’s have a look at these issues:

1)Thing to be enjoyed: As per this clause, if a thing is attached to an immovable structure embedded in land like wall or civil structure then that thing becomes part of immovable property if by attachment the intention is to enjoy the benefits of wall/civil structure not of the thing which is attached to that structure. So if a chattel is attached to a wall for beneficial enjoyment of wall then the chattel becomes part of immovable structure. However If the attachment is made for the beneficial enjoyment of the chattel itself, then it remains a chattel not immovable property, even though fixed for the time being so that it may be enjoyed.

This explains why door/windows are considered immovable structure because when we attach a door to a wall, then we are not enjoying the door but through door we are enjoying the benefits of room because door on its own is incapable of providing any enjoyment. The same thing is also true for windows as they are just allowing us to enjoy the beneficial enjoyment of our house. But the same thing is not true for AC because when we attach an AC to the wall then the intent is not to enjoy the benefits of wall but of AC as a separate fixture and further we can remove the same without any damage to wall and AC and the same can be reused. So AC fulfills the twin tests of destructibility and beneficial enjoyment of the chattel itself.

1(a) Applying the above test on Construction of PEB Enabling shed at project sites: When we apply same analogy to construction of PEB structure at project sites, one can see that when we attach PEB material to the civil structure or foundation then the intention is not to enjoy the civil structure/foundation (means land) but PEB material itself (of space not land). So by constructing PEB shed the intention is to enjoy the PEB shed itself hence PEB shed is a movable property. Similarly when we make civil foundations, we are getting beneficial enjoyment of land so civil foundations are immovable structure.

Further, even without constructing walls and roof from PEB material we can still enjoy the benefits associated with land as we can place all the materials on land (civil structure/floor) without walls and roof. So the purpose of walls and roof is not to enjoy the benefits associated with land but to ensure security and safety from environment damage. But if the purpose of walls and roof (if made of concrete) is not to enjoy the benefits associated with land then why they are regarded as immovable property. Actually walls/roofs are regarded as immovable property not because they get beneficial enjoyment of land but because walls and roofs are embedded into the earth (as per clause (b) above of Transfer of Property act) which fulfills the condition attached to earth and so the same is immovable property. But it has no relation with beneficial use of land.

Same view has been taken by various courts in a number of cases:

In case of SRI VELAYUTHASWAMY SPINNING MILLS (P) LTD vs THE INSPECTOR GENERAL OF REGISTRATION Madras High court settled: “In the case before us, the attachment of the oil engine to earth, though it is undoubtedly a fixture, it for the beneficial enjoyment of the engine itself and in order to use the engine, it has to be attached to the earth and the attachment lasts only as long as the engine is used. When it is not used, it can be detached and shifted to some other place. The attachment, in such a case, does not make the engine part of the land and as immovable property”.

Calcutta High Court in Janchand v.Kishore (AIR 1960 Calcutta 301) has held that the test is whether the annexation is with the object of the permanent beneficial enjoyment of the land or building. The Court held that the machinery was not attached for the mere beneficial enjoyment of either the soil or the concrete; it was actually a case of the structure being built around the machinery to protect it.

2) Tests of Permanent attachment: Technically nothing can be attached, annexed or embedded into earth permanently. So “attached forever” can’t be the test for judging the annexation to earth. Here, the intent/purpose behind the attachment confirms the annexation to earth because the things under consideration are itself movable but they are considered immovable due to attachment to the immovable structure so intent behind such annexation is the primary factor. The intent is guided by the “mode” of annexation and “object” of annexation. The mode/nature of annexation involves the test of destructibility while object of annexation further (apart from thing to be enjoyed) involves the intended duration (long term vs short term) of the annexation i.e. whether attachment is intended to be permanent.

Various Indian courts have considered these tests as most relevant while deciding the immovability. The object of annexation is determined by facts and the circumstances of each case. However, most important thing to be kept in mind is that the permanent attachment test is relevant only when the thing is not embedded into earth like wall or building because when it is so then that wall or building is an immovable property courtesy clause (b) of the definition of “attached to earth” of Transfer of Property act. If a thing is not embedded into earth like wall or building then the relevant factor is whether the intent is to attach the thing permanently into earth. That’s why for our PEB structure this test is more relevant as PEB structure is not embedded into earth like wall or building. So the intent behind attachment (permanent or temporary) of this structure into earth is to be checked.

The English law has also evolved the twin tests of degree/nature or mode of annexation and the object of annexation. In Wake v. Halt (1883) 8 App Cas 195 where, speaking for the Court of Appeal, Lord Blackburn stated: “The degree and nature of annexation is an important element for consideration; for where a chattel is so annexed that it cannot be removed without great damage to the land, it affords a strong ground for thinking that it was intended to be annexed in perpetuity to the land.”

Supreme Court in CCE v. Solid & Correct Engineering Works and Ors 2010 (252) ELT 481 (SC) has opined that an attachment without necessary intent of making the same permanent cannot constitute permanent fixing, embedding or attachment in the sense that would make the machine a part and parcel of the earth permanently. Hence, the Supreme Court held that the plants in question were not immovable property.

Here, SC observes that attachment of the plant to the foundation is not comparable or synonymous to walls and buildings embedded in the earth, because a building embedded in the earth is permanent and cannot be detached without demolition.

Apart from destructibility test, another important aspect is the whether the intention is of temporary or permanent (duration) attachment of the structure. There are cases where machinery installed by monthly tenant was held to be a moveable property as in cases where the lease itself contemplated the removal of the machinery by the tenant at the end of the tenancy. The same point was also considered by SC in CCE v. Solid & Correct Engineering Works.

Also, in the above case of Tewari Warehousing Co Pvt Ltd, AAR West Bengal, while giving the ruling, has taken into consideration the fact that the Applicant has taken the land to build warehouse on 30 years lease and the same is further extendable after this period so the intention is to use the warehouse as permanent structure as they are not going to (have no plans) to remove the same in the near future.

In Subramaniam Chettiar v. Chidambaram Servai ('40) 27 A.I.R. 1940 Mad. 527 it has been pointed out that when the owner of a building installs machinery therein he may well have intended to make a permanent improvement to the premises which he owned in order to facilitate the user of those premises but that a tenant in temporary occupation of leased premises is not likely to have had any such intention in making the improvement and he accordingly held that the oil engine did not become and was not therefore immovable property.

Madras High Court in Mohammed Ibrahim v. Northern Circars Fibre Trading Co has opined that 'when the owner purchases the land and the machinery, he cannot be said to have the same intention which his vendor had.

Calcutta High Court in Jnan Chand Chugh vs Jugal Kishore Agarwal And Ors. on 21 September, 1959 has observed that “the important test is what was the intention of the owner when bringing the machinery on the land and setting the same up. The owner only had a monthly tenancy. The nature of the structure in which the machinery was housed shows that the object was somehow to keep off wind and water. The reason is obvious; the land was held on the basis of a monthly tenancy and but for the legislation now in force the tenant could be asked to quit on a few months' notice at the most. The whole building seems to me to have been put up in such a way that it could be dismantled and removed elsewhere at a short notice and without much expense. In my view, it is clear that the owner did not want to make the machinery a part of the land at all.

2(A) Applying the above 2 tests on Construction of PEB shed at project sites: In order to decide whether the construction of enabling sheds by PEB material in our project sites is resulting in immovable property we need to apply above two tests of Mode & object of annexation and permanent annexation.

(1) Testing intention for permanent annexation: As explained above, for PEB structure this test is more relevant as PEB structure is not embedded into earth like wall or building. So the intent behind attachment (permanent or temporary) of this structure into earth is to be checked. in our case from the very beginning the intention behind construction of PEB enabling work is to dismantle and transport the same to other sites at the end of the project so the intention is not for permanent attachment but only for the temporary attachment of the structure and hence the same is a movable property. The same can be assessed from the fact that in the past also for similar work done in many sites; we have transported/moved the PEB material to other sites for reusing the same.

 Further, as per the customer contract the infrastructure developer (L&T in our case) is required to dismantle all the temporary structures before leaving the project site after work completion so it is settled well before the start of construction that the time span of the structure is limited (generally for 4-5 years) and to be used temporarily. So as is evident the intention is only for short period that’s why to better manage the capital costs pre-fabricated material is preferred so that the same can be reused at other sites.

2. Test of destructibility: the PEB material can be removed from site office without damaging the same and the after transporting the same to other sites it retains its original functionality.

3. No interest or ownership of land: further the land on which enabling structure is built neither belongs to L&T nor there is any long term lease with customer. Hence it is evident from the very beginning that the PEB structure to be built is only for short duration of time and intention is never for the permanent attachment of the PEB structure into the earth.

From above discussions, it is clear that construction of shed from PEB material at project sites does not become part of immovable property after attachment to the civil structure/foundation. construction of enabling work (Closed and semi-closed Sheds) is construction of movable property hence we can take the ITC of construction work (supply as well as erection work) as the blockage under section 17(5) (c&d) comes into force only when the structure is immovable so we can take the ITC of all the material and services (supply of PEB material and cost of construction also) which are used for constructing the “movable structure”.

Apart from main PEB structure of Closed and semi-closed sheds, I have tried to test the above ratios on other components of an enabling structure:

(B) ITC of Civil Foundation, boundary work, sanitary works, flooring, Shuttering etc.: In all these items, the structure/things are permanently attached to the land/foundation (immovable structures) so it is not possible to remove the same without damaging the structure and its reusability. In fact, the material used in these works is sold as scrap and the same is never transported to other sites. Hence the ITC related to these works should not be taken. In the act, the ITC of civil foundation is allowed only in case of Plant and machinery like when we build the same for placing genset. Here the intention is not to use the benefits related to land but of machine (genset).

 (C) ITC of electrical work of open yard: The purpose behind development of open yard is the beneficial enjoyment of the land. However, the electrification work of the open yard in the form of poles/lights etc. does not enable/facilitate the beneficial use of land. In fact, the main function of electrification work at open yard is to provide security and traceability at night. Further, these poles can be removed very easily and we also shift these electrical poles to other sites for reuse. So this passes the tests enumerated above i.e. Thing to be enjoyed, permanent attachment and mode & objective of annexation. Hence keeping this in view, the ITC related to electrical work at open yard shall be taken.

(D) ITC of Fencing and Gates: Purpose of fencing is to safeguard/security of material not of beneficial enjoyment of land and it is not permanently attached/affixed or fastened to earth as these can be removed fairly easily and can be reused at other sites. So we shall take the ITC of the fencing and gates.

Hence as per above points, we shall take the ITC of PEB material supply and construction work, open yard electrical work and Fencing and gates. Except the items I have explained above I have left other items related to construction of enabling works at project sites but I do not think that apart from the above 3 cases the chances of other items passing the movable test are very less and will be disputable.

I have done a rough calculation for development of open yard and construction of 6 nos. closed sheds costing around 8 cr and as per the calculation ITC of Rs. 60 lacs can be taken against total GST impact of some 1.40 cr which is around 8% of the total cost of construciton.

But why disallowance of ITC related to Immovable property at first and possible solution

It appears that the main intention behind the blocking of ITC as per this section is to safeguard the state revenue because when a permanent structure is sold the same is treated as sale of immovable property and hence not taxable under GST as only movable goods are liable for GST. So as there is no GST on sale so any ITC allowed earlier will result in loss of revenue to the state. Although here, in case if enabling work, neither infrastructure developer (L&T) is the owner of the land nor there is any long term lease so there is no chance that L&T can sell the structure as immovable property.

But if we can see the basic premise of value added tax of ensuring seamless input tax credit then this should not be an excuse to deny the ITC of legitimate inputs used for providing taxable output service or sale of goods. Surprisingly the GST act has made sure that for real estate transactions which are also immovable ITC is allowed. Clause 5(b) of Schedule II of the CGST act provides that construction of building etc. is a service (except where the entire consideration has been received after issuance of completion certificate). So by declaring the same as service the act has paved the way for the builders to avail the ITC related to construction of building etc.

Similarly, in case of construction of immovable property the focus should not be on denial of ITC at first but on eliminating the subsequent loss of revenue in the form of ITC availed of immovable business property which later on sold without paying any GST. For ensuring the same In GST act, a special provision can be inserted which provides for the reversal of proportionate ITC availed of Immovable property which later is sold off. By this way, revenue loss will be stopped but this will ensure the same level playing field for companies using immovable properties for providing output supplies like Hotel, Logistics and retail firms.

In fact, a similar clause is already provided in the CGST act. Section 18(6) of CGST act provides that in the case of sale of capital goods or plant and machinery, on which input tax credit has been taken, the registered person shall pay an amount equal to the input tax credit taken on the said capital goods or plant and machinery proportionate to the depreciated value of said machinery or the sale price whichever is higher. Similar provision can be created for the payment of GST liability on sale of immovable property used for the purpose of providing output supply. And since enabling work is also used by infrastructure firms for the purpose of furtherance of business so full ITC should also be allowed.

Whether enabling work is  deferred revenue expenditure not capital asset?

Further, i also think that in the above case of construction of enabling work we can even claim the ITC of entire amount incurred for the development of enabling work. I am still working on this but let me share the basic premise for this. Actually as per the GST act, the ITC is disallowed if the immovable property is capitalized. Here, the main test is capitalization. But in case of enabling work, in my view these are treated as assets not because they are capitalized but because they are “deferred revenue expenditure”. Deferred revenue expenditure is where we have made the full payment but those are not consumed immediately or consumption extends beyond next 12 months. In other words, the benefit of expenditure incurred extends beyond one accounting period like for example expenditure on issuance of bonds, advertising and marketing spend on launching a new product. These deferred expenditures are held as non-current assets on the balance sheet.

So normal capitalized assets are charged off via depreciation but deferred revenue expenditure is written off in the following 3 to 5 years as per the period of benefit. I think the expenditure on enabling work is in the nature of deferred revenue expenditure and so we should get the ITC of the entire amount spent on the construction/development. I’ll share more on this after doing much detailed homework.

(Views are personal)