Redevelopment of society: Tax implications

• Redevelopment of society means tearing down an existing one and building a new one in place of it.. Simply put, it is a reconstruction of the existing residential and/or commercial structure. There are various reasons as to why a cooperative society would prefer a redevelopment, the primary reason being the wear and tear of the existing society. Redevelopment requires huge capital inflow; this is where big or big or large builders strike a deal with the members of the cooperative society and propose a redevelopment.
• Typically, in the case of a cooperative housing society, a tri-partite development agreement is entered into between the society as the owner and developer and the members of the society, usually as confirming parties, and the development rights or right to construct by loading of transfer of development rights (TDR) is transferred to the developer. Usually, the societysociety continues asthe owner the owner of landland and buildings. buildings. However, it is also possible that, by virtue of the development agreement, land and building buildings may be transferred to the developer.
• The Development Agreement contains various terms and conditions for redevelopment.. It contains provisions for the area of the new flat to be allotted to the members, temporary alternate accommodation to be provided to the members, the corpus fund to be provided to the members or society, members or society, and the area available to the developer for sales in the new building. The society gives the developer a general power of attorney to apply for various permissions and to permit him to enter the premises for the demolition of an old building and the construction of a new building.
• The developer enters into a Permanent Alternate Accommodation Agreement (PAAA) with individual members with respect to a new flat to be allotted to the member in the re-developed building. Such a development agreement is registered. The developer obtains various permissions to commence the construction by demolition. Usually, upon obtaining permission, the members vacate their old premises. The developer hands over the new flats upon completion of the redevelopment. The new flat owners who purchase flats from the developer's share are given membership in the society. The various issues of taxation arising in the above process of re-developing the cooperative housing society are discussed hereinafter.

Income tax considerations

A. Whether the sale of development rights amounts to a transfer and is thereby chargeable to tax under the head of capital gains

• The term 'transfer' in relation to a capital asset is defined in Section 2(47) of the Income-tax Act, 1961 (IT Act). Section 2(47) of the of the IT Act uses the word 'or' instead of 'and'. Therefore, all the conditions laid down in the provisions of Section 2(47) are not required to be cumulatively satisfied, and even if any condition is satisfied, the capital asset can be considered to be transferred within the meaning of Section 2(47).
• As per the provisions of clause (ii) to Section 2(47), the extinguishment of any right in the capital asset also results in a transfer in relation to the capital asset. The term 'any right' used in the aforesaid clause is wide enough to even include the development rights in the land.
• Reference may be placed on the following case laws, wherein it was held that the transfer of development rights would be subject to capital gains:

1. Land Breez Co.-Operative Housing Society Ltd. v. ITO [2013] 55 SOT 103 (Mum. Trib.)
2. Maheshwar Prakash-2 Co-op. Hsg. Society Ltd. v. ITO ([2009] 121 TTJ 641 (Mum. Trib.)) [Confirmed by Bombay HC in ITA No. 2346 of 2009 dated 24/4/2015]

B. When does the transfer take place?

• The year of transfer in the case of joint development agreements has been a matter of great dispute. The primary area of dispute is whether the transfer takes place at the time of the transfer of rights or when the property is transferred by the developer to the member.
• When pursuant to a development agreement, the assessee mainly receives a share in the constructed area, and if such share is taxed in the year of execution of the development agreement, then the assessee has to pay huge taxes on the share in the constructed area even though the constructed area is to be received in the future.
• Reference may be drawn to the case of CIT v. Balbir Singh Maini, reported at 398 ITR 531 (SC), wherein the assessee was a member of the Punjabi Cooperative Housing Building Society Ltd. The society entered into a Joint Development Agreement (JDA) for the development of 21.2 acres of land with the developers. The consideration was fixed as cash and a share of the constructed area to be given to the individual members. The Supreme Court held that S.2(47)(v) was not applicable as the JDA was not registered. The Supreme Court also analyzed the alternate argument of transfer u/s 2(47)(vi). S.2(47)(vi) provides that transfer includes any transaction (whether by way of becoming a member of, or acquiring shares in, a co-operative society, company, or other association of persons, or by way of any agreement or any arrangement, or in any other manner whatsoever) which has the effect of transferring, or enabling the enjoyment of, any immovable property. The Supreme Court held as follows:

"The object of Section 2(47)(vi) appears to be to bring within the tax net a de facto transfer of any immovable property. The expression "enabling the enjoyment of" takes color from the earlier expression "transferring," so that it is clear that any transaction that enables the enjoyment of immovable property must be enjoyed by the purported owner thereof. The idea is to bring within the tax net transactions where, though title may not be transferred in law, there is, in substance, a transfer of title in fact.

A reading of the JDA in the present case would show that the owner continues to be the owner throughout the agreement and has at no stage purported to transfer rights akin to ownership to the developer. At its highest, possession alone is given under the agreement, and that too for a specific purpose—the purpose being to develop the property as envisaged by all the parties. We are, therefore, of the view that this clause will also not rope in the present transaction."

It was also held that the assessee did not acquire any right to receive income, inasmuch as such an alleged right was dependent upon the necessary permissions being obtained. This being the case, in the circumstances, there was no debt owed to the assessees by the developers, and therefore, the assessees have not acquired any right to receive income under the JDA as permissions were not obtained and the JDA fell through."

• Reference may also be drawn in the case of Bhatia Nagar Premises, Co-operative Society Ltd. v Income-tax Officer, Ward-24 (3)(1) reported at [2013] 37 taxmann.com 9 (Mumbai-Trib.), wherein it was held that where assessee-housing society entered into a Development Rights Agreement (DRA) with the developer, transfer of property could be said to have taken place only when possession was handed over to the developer and not on the date of the agreement, when only a small portion of consideration had been received.
• On interpretation of various judicial precedents, it can be seen that there is a transition in the determination of the year of transfer, from the date of execution of the development agreement to the year of possession to the year of obtaining permissions and consequent demolition. In some cases, the year of taxability is also held to be the year in which a share of the constructed area is received. Also, for determining the year of transfer, subsequent events such as not obtaining approvals or cancellation of the agreement have to be taken into consideration. Simply put, the year of transfer would largely depend on the terms and conditions of the development agreement.

C. What is the tax implication of the grant of development rights?

a. In the hands of society

• If, at the time of redevelopment, the society was not in possession of unutilized FSI and/or development rights, there would be no capital gain implication in the hands of the society on the receipt of corpus money on surrender of FSI and/or development rights. However, in this regard, it would be pertinent to note that Section 55(2) of the IT Act has been amended with effect from April 1, 2024, to include "any other intangible asset" or "any other right."

b. In the hands of members

• Reference may be drawn to the case of Deepak S. Shah v. ITO, reported at 29 SOT 26 (Mum), wherein it was held that the member was neither holding any capital asset nor that the same had been sold, exchanged, or relinquished. Therefore, the same would not attract capital gains under Section 45 of the IT Act.

D. What is the liability of the capital gain tax on society for receiving amenities and facilities for the common use of its members and their families?

• If the society is receiving amenities and facilities for the common use of its members and their families, then the same is not taxable in the hands of the society or the individual members as there is no cost of acquisition of the same.
• Reference may be drawn in the case of JETHALAL D. MEHTA V. DY. CIT [(2005)] reported at 2 SOT 422 (MUM.), wherein the Hon. Income Tax Appellate Tribunal mainly relied upon the Supreme Court decision in the case of CIT V. B.C. Srinivasa Shity 128 reported at ITR 294 in which it was decided that if there is no cost, then no capital gain can be worked out.

E. What is the tax implication in the case of alternate accommodation or rent charges received by the members?

• In cases of redevelopment, it has been seen that the members of society receive compensation for alternate accommodation; such compensation is equivalent to the rent that is to be paid for the alternative accommodation.
• While there are several cases that support the claim the claim that such income will not be subject to tax, a conservative view generally adopted by taxpayers is to offer the compensation received as income from other sources under Section 56 of the IT Act and correspondingly claim expense as rent paid under Section 57 of the IT Act.

F. Requirement under Section 54 of the IT Act?

• Section 54 of the IT Act states that if any residential property that was held for a period of more than 3 years is sold or given for redevelopment and the new flat is purchased or acquired within a period of 1 year before or 2 years after the sale or constructed within 3 years after the sale, then capital gain arising on the transfer of the old flat will be exempt from tax under the said section to the extent of the cost of such a new flat.
• In the case of redevelopment, the new flat to be acquired is treated as "constructed" for the purpose of Section 54. Thus, if the new flat is acquired by the owner within a period of 3 years from the surrender of the original flat, then the capital gain arising from the sale of the original flat can be claimed to be exempted under s. 54 of the Income Tax Act. If the new flat is not acquired by the owner within a period of 3 years, then the assessing officer, at his discretion, can disallow the same at any time during the assessment.
• However, allotment of a flat or a house by a cooperative society, of which the assessee is a member, is also treated as construction of the house [Circular No. 672, dated December 16, 1993].

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