Circular On Lease Transfer Rights - Draconian & Arbitrary?

The GST regime was introduced in India to simplify the indirect tax system, ensuring uniformity and comprehensiveness in the taxation of goods and services. However, the interpretation and implementation of GST on various transactions have led to numerous legal debates and disputes. One

such contentious issue is the applicability of GST on the transfer of lease rights, as addressed by CBIC Circular No. 44/18/2018-CGST, dated 2nd May 2018 (the “Circular”). This article critically examines the

Circular, arguing that it overreaches the scope of the CGST Act, 2017 by extending the applicability of GST to lease transfers without sufficient statutory backing. This circular also clarifies the treatment of various aspects related to the Goods and Services Tax (GST), specifically focusing on the input tax credit (ITC) eligibility for taxpayers.

Framework Of Goods And Services Tax

The Goods and Services Tax (GST) is a comprehensive indirect tax system and the journey towards GST began in 2000 with the recommendations of the Kelkar Task Force, which aimed to simplify the tax system and enhance compliance. Following years of discussions and legislative hurdles, the GST was officially rolled out on July 1, 2017, which aimed at unifying the fragmented tax structure by replacing multiple indirect taxes with a single tax. In India, discussions about GST began in 2000, leading to the introduction of the Constitution (122nd Amendment) Bill in 2014, which was passed in 2016. The GST framework in India follows a dual structure, comprising Central GST (CGST) and State GST (SGST), allowing for the seamless flow of input tax credits and mitigating the cascading effect of taxes.

Key Highlights Of The Circular

Here are the key highlights of CBIC Circular No. 44/18/2018-CGST, dated 2nd May 2018:

1. Taxability of Tenancy Rights: The transfer of tenancy rights for consideration in the form of a tenancy premium is classified as a supply of service under GST.
2. Exemption for Residential Use: Renting of residential dwellings for use as residences is exempt from GST as per Notification No. 12/2017-Central Tax (Rate).
3. Impact of Stamp Duty: The imposition of stamp duty and registration charges on the transfer of tenancy rights does not exempt the transaction from GST.
4. Outgoing Tenant Consideration: If a portion of the tenancy premium is paid to the outgoing tenant, this transaction is also subject to GST.
5. Applicability of GST on the Grant of Lease Rights: The Circular reiterates that the grant of lease rights by a lessor to a lessee is a taxable supply of services under GST as per Entry No. 2 of Schedule II of the CGST Act, 2017. This applies when the lease is granted for a specific period, and the lessee receives the right to use the leased asset.
6. Applicability of GST on the Transfer of Lease Rights: The Circular further states that even the subsequent transfer of lease rights by an outgoing lessee to an incoming lessee constitutes a taxable supply of services under GST. The circular specifies that such transfers occur when the original lessee assigns their rights to another party, thus triggering GST implications.

Distinction Between Grant Of Lease And Transfer Of Lease

Here are the key distinctions between the grant of lease and transfer of lease as per CBIC Circular No. 44/18/2018-CGST, dated 2nd May 2018:

1. Nature of Agreement: Grant of lease is the initial agreement where the lessor provides the lessee the right to use the property, while transfer of lease involves an existing lessee assigning their rights to another party.
2. Tax Treatment: The grant of lease is treated as a supply of service under GST, whereas the transfer of lease may also be considered a supply of service, depending on the circumstances and consideration involved.
3. Ownership Rights: In a grant of lease, the lessor retains ownership of the asset, while in a transfer of lease, the original lessee transfers their rights and obligations to the new lessee.
4. Consideration: The grant of lease typically involves periodic rent payments, while the transfer of lease may involve a one-time payment or tenancy premium from the new lessee to the outgoing lessee.
5. Duration and Terms: The grant of lease establishes new terms and conditions, while the transfer of lease maintains the original lease terms but changes the parties involved.

Also Read : Lease in India

Landlord-Tenant Relationship

Entry No. 2 of Schedule II of the CGST Act, 2017 delineates the landlord-tenant relationship by classifying the leasing of land and buildings as a supply of service. This classification establishes that any consideration paid for the right to use the property constitutes taxable supply under GST, thus making landlords liable to charge GST on rent. Furthermore, it clarifies that the tenant’s payments for leasing property are subject to GST implications, ensuring compliance with tax obligations. This provision aims to streamline the taxation process in rental agreements, enhancing clarity for both landlords and tenants in their respective roles.

No Supply Of Goods Or Services

The Circular’s treatment of lease transfers as a supply of services is legally untenable. As per Section 7 of the CGST Act, 2017, the term “supply” includes all forms of supply of goods, services, or both. However, the transfer of lease rights does not fall within this definition, as it neither involves the provision of goods nor services.

Moreover, the definition of “services” under Section 2(102) of the CGST Act excludes activities related to money, securities, and actionable claims. Since the transfer of lease rights involves the transfer of interests in immovable property, it cannot be considered a “service” as per the CGST Act. This fundamental flaw in the Circular’s reasoning calls into question its legal validity.

Stamp Duty And Registration Irrelevant?

According to CBIC Circular No. 44/18/2018-CGST, dated 2nd May 2018, the relevance of stamp duty and registration charges in the context of the transfer of tenancy rights is clarified. The circular states that the imposition of stamp duty and registration fees does not exempt the transaction from Goods and Services Tax (GST). This means that even if stamp duty is paid on the transfer of tenancy rights, it does not alter the taxability of the transaction under GST. The transfer of tenancy rights for consideration, such as a tenancy premium, is still considered a supply of service and is subject to GST, irrespective of any additional charges like stamp duty. This clarification aims to ensure that all parties involved understand their tax obligations when engaging in transactions related to tenancy rights.

No Justification Provided For GST Applicability On Transfer

The Circular does not provide any cogent justification for extending the scope of GST to lease transfers.

The lack of a clear rationale suggests that the Circular was issued without adequate consideration of the legislative framework and judicial precedents. The absence of detailed reasoning raises questions about the validity of the Circular and its enforceability.

Schedule To Entry No. 2 Applicable To Lease, Not Transfer of Lease

Entry No. 2 of Schedule II of the CGST Act, 2017 indicates that the provisions pertain specifically to leasing arrangements, treating them as a supply of service under GST. This means that while leasing of property incurs GST obligations, the transfer of lease rights is considered separately and may be subject to different tax treatments, ensuring clarity in compliance for both parties involved.

Judicial Precedents

Various judicial pronouncements have upheld the applicability of GST on transactions for grant of leasehold or tenancy rights. However, the GST authorities are misusing these judicial pronouncements to bring transactions for transfer of leasehold rights within the GST ambit as well. Such case laws are being used to justify applicability of GST on transfer of leasehold rights, which simply amounts grossly erroneous and misleading interpretation by the revenue. For example, in the case of Builders Association of Navi Mumbai v. Union of India & Ors. 1, applicability of GST on lease premiums paid to CIDCO was upheld by the Hon’ble Bombay High Court. However, this judgment dealt specifically with the grant of lease by a lessor to a lesse and did not address the subsequent transfer of lease rights by a lessee. The GST authority’s reliance on this judgment is therefore misguided, as it attempts to apply a legal precedent to a distinct set of facts.

Draconian Measure

The Circular has created a draconian tax liability for taxpayers engaged in lease transfers. The Circular has imposed severe tax liabilities on taxpayers involved in lease transfers, raising concerns over the lack of clear legislative support for such GST applicability. This situation places an unfair burden on businesses engaged in legitimate transactions, while the retrospective effect of the Circular intensifies financial challenges for these entities.

Arbitrary And Non-Application Of Mind

The Circular appears to be an arbitrary measure, issued without a proper application of mind. It disregards the legal principles governing lease transactions and the statutory definitions of supply, goods, and services. The arbitrary nature of the Circular makes it vulnerable to judicial review and quashing by the courts.

Withdraw The Circular

Considering the arguments, it is evident that the Circular is legally untenable and lacks a sound basis. The Central Board of Indirect Taxes and Customs (CBIC) should withdraw the Circular to restore clarity and certainty in the taxation of lease transactions. This would prevent further disputes and ensure that the GST regime functions in accordance with its legislative intent.

Conclusion

The impugned Circular No. 44/18/2018-CGST has overreached its mandate by extending the applicability of GST to the transfer of lease rights. The Circular conflates the grant and transfer of lease, disregards the principles of supply under the CGST Act, and creates an undue tax burden on taxpayers. It is essential that the Circular be reviewed and withdrawn to align the GST regime with its original legislative framework.

FAQs On The Circular On Lease Transfer Rights

Here are some frequently asked questions to help you understand the implications and concerns surrounding the Circular on Lease Transfer Rights.

Q1. What is the Circular on Lease Transfer Rights, and why is it controversial?

The Circular on Lease Transfer Rights outlines conditions for transferring lease agreements in India. It has faced criticism for being draconian and arbitrary due to perceived restrictions on the rights of lessees and lack of clear guidelines. Critics argue that it hampers flexibility in lease agreements, especially for businesses seeking to transfer or sublet properties.

Q2. How does the Circular on Lease Transfer Rights impact tenants and lessees?

The Circular limits the ability of tenants and lessees to freely transfer or assign lease rights. This has raised concerns about the lack of flexibility for tenants, particularly in cases where they wish to sublet or transfer a lease due to changing circumstances or business needs.

Q3. Why do some consider the Circular on Lease Transfer Rights to be draconian?

The term "draconian" refers to the excessively harsh or restrictive nature of the Circular. It is criticized for imposing unnecessary constraints on lease transfers, often requiring complex procedures and approval from landlords, leading to delays and administrative burdens for lessees.

Q4. How does the Circular on Lease Transfer Rights affect the real estate market?

The Circular is seen as impacting the real estate market by creating uncertainty and discouraging lease transfers. Real estate professionals argue that the lack of clear, fair policies could lead to market stagnation, with businesses hesitating to enter long-term lease agreements.

Q5. Is there any legal remedy for tenants affected by the Circular on Lease Transfer Rights?

Yes, tenants can challenge the Circular’s provisions in court if they believe their rights have been violated. Legal experts suggest that tenants may seek redressal under consumer protection laws or by negotiating lease terms with landlords to ensure more favorable conditions for transfer or subletting.