Change in the tax regime for REITs could potentially have a negative impact on the growth of the fledgling industry.
Gaurav Karnik
Real estate holds immense potential to contribute to India’s economic growth. While it suffered tremendously during the early stages of the pandemic, it recovered significantly in 2022 on the back of an increase in demand for residential real estate.
Homebuyers as well as real estate developers had expected certain reliefs and incentives in Budget 2023 that would have given a further boost to the sector.
The Finance Minister recognizes the need to increase investment for the growth of affordable housing in the country. In her budget speech, the FM announced that the outlay for the PM Awas Yojana has been enhanced by 66 percent to over Rs. 79,000 crore, which is a welcome move given the significant backward and forward linkages real estate and construction in particular have with the rest of the economy.
In relation to homebuyers, a few clarifications and amendments have been brought in which seek to restrict capital gains exemption. Capital gains exemption available to individuals and Hindu Undivided Families (HUFs) on transfer of residential assets or any other long-term capital assets has now been capped at Rs. 10 crore. This could adversely impact recycling of high-value assets.
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It has also been clarified that, for arriving at a sales consideration (for computing capital gains tax on joint development agreements), the stamp duty value on the share of individuals/ HUFs will be increased by consideration received in any mode and not just cash. While computing capital gains on transfer of house property, cost of acquisition or improvement of such house property has been clarified to not include any amount for which deduction has already been claimed while computing income from house property (such as interest).
From an investment perspective, there was a concessional tax rate of 5 percent which was available to foreign portfolio investors on interest income received. However, the beneficial tax rate was available only for interest earned up to June 2023. It was expected that the Budget 2023 will extend the benefit for another financial year. However, no amendment has been introduced in this regard. This could result in increased cost of borrowing for developers.
Further, amendments have been brought in with respect to taxation of Real Estate Investment Trusts (REITs). Distributions by REITs that do not suffer taxation either in the hands of the REIT or in the hands of unit holders (for instance, capital repayment) will now be taxed as other income, i.e. 30 percent for residents and 40 percent for non-residents subject to tax treaty relief, if any.
Further, this will also include distribution through redemption of units by REITs. However, cost of acquisition will be allowed as deduction on redemption. The REITs will have to re-look at their distribution policy as the proposed amendment is expected to have a significant negative impact on returns to unit-holders.
While the sector now stands on a strong footing, with the increased transactions in the sector, there was a need for more tax sops for the sector. The homebuyers had been hopeful of an increase in the interest deduction on loans taken for property or tax deduction on home loan principal repayment, which would have provided a boost to the demand for real estate, especially given the increase in lending rates in the past few quarters.
The investor and developer community had been expecting certain clarifications and reliefs in the tax regime for REITs such as parity with listed equity with respect to the holding period for long-term capital gains treatment, removal of tax on deemed income on unsold inventory, increase in safe harbour of 20 percent or 30 percent as compared to the existing 10 percent on purchase/ sale of property.
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In sum, there had been many expectations which the sector had that have not been met and at the same time, the change in the tax regime for REITs could have a potentially negative impact on the growth of the fledgling REIT industry.
