The Indian real estate sector is witnessing a series of crucial changes in direct tax laws and the introduction of domestic transfer pricing regulations. These updates, introduced through recent notifications, amendments, and circulars, have significant implications for developers, investors, and builders. As these changes reshape tax compliance requirements, staying informed and proactively managing these obligations is critical to avoiding penalties, interest, and legal disputes.

This article outlines the major tax changes impacting the real estate sector, their effective dates, and the steps that industry stakeholders should take to ensure compliance.

Recent Direct Tax Changes Affecting Real Estate

1. TDS on Purchase of Immovable Property (Section 194-IA)

Effective from April 1, 2023, a key amendment under Section 194-IA of the Income Tax Act requires that TDS at 1% be deducted on the total consideration for the purchase of immovable property exceeding ₹50 lakhs. This means that all charges related to the transaction, such as maintenance fees, parking fees, and club memberships, are included in the taxable value, not just the base property price.

Why this matters:

• Buyers are responsible for deducting TDS on the full consideration amount, including any ancillary charges. Failure to deduct TDS on the total value could lead to penalties and interest charges.
• Developers should clearly outline and break down additional costs in their agreements to avoid confusion and ensure that buyers comply with the new TDS obligations.

Actionable Point:   
          Both buyers and developers must carefully review sale agreements to ensure that TDS is deducted on the full value of the transaction, including all additional charges. Proper structuring of contracts is essential to avoid non-compliance issues.

2. Capital Gains Exemption Limit (Section 54/54F) – Introduction of ₹10 Crore Cap

A significant change to Sections 54 and 54F of the Income Tax Act, effective from April 1, 2023, has introduced a ₹10 crore cap on the capital gains exemption. Earlier, taxpayers could claim exemptions on capital gains without any upper limit by reinvesting the proceeds into residential property. The new amendment restricts the amount of exemption available to ₹10 crores.

Why this matters:

• High-net-worth individuals (HNIs) who sell high-value properties and reinvest the proceeds in another residential property will be impacted by this change. Capital gains above ₹10 crores will now be taxable, which was not the case earlier.
• Developers catering to luxury residential projects should be aware of the potential impact this change may have on high-value buyers, who will need to adjust their tax planning strategies.

Actionable Point:    
          Property sellers, especially HNIs, must plan their capital gains reinvestments carefully. Exceeding the ₹10 crore limit will trigger capital gains tax liability, which could significantly impact post-sale cash flows. Developers should guide their clients in understanding these tax implications.

3. Taxation of Joint Development Agreements (JDAs) – Capital Gains Taxable at the Time of Agreement (Section 45(5A))

Effective from April 1, 2023, Section 45(5A) mandates that capital gains arising from Joint Development Agreements (JDAs) are taxable at the time of signing the agreement, regardless of when possession is handed over or consideration is received. Previously, capital gains were taxable upon project completion or transfer of ownership, but this change shifts the liability to the year the agreement is executed.

Why this matters:

• Landowners entering into JDAs will now face capital gains tax at the time of signing the agreement, even if they do not receive immediate monetary consideration or possession of the built-up property. This creates a need for immediate tax planning and could result in cash flow mismatches.
• Developers must account for this tax burden in their agreement terms and payment schedules, as landowners may require compensation to cover their tax liabilities upfront 
• Actionable Point:    
   Landowners and developers should evaluate the tax implications of JDAs  and structure agreements to manage the upfront tax liability. Consulting a tax advisor early in the process is essential to ensure the agreement is tax-efficient and compliant with the new regulations.

Introduction of Domestic Transfer Pricing in Real Estate

The domestic transfer pricing (DTP) regulations apply to real estate companies engaged in intra-group transactions. These rules ensure that transactions between related parties, such as intra-group land sales, loans, and services, adhere to the arm’s length principle, meaning they must be priced as if they were between unrelated parties in the open market.

Key Scenarios for Domestic Transfer Pricing in Real Estate:

1. Intra-Group Services: Real estate companies often provide services such as construction, marketing, or management across different group entities. These services must now be priced at arm’s length to comply with DTP rules.
2. Intra-Group Land Sales or Transfers of Development Rights: When land or development rights are transferred between group entities, the fair market value must be applied to the transaction to ensure compliance with DTP regulations.
3. Intra-Group Loans: Financial arrangements, such as loans between related entities within a real estate group, must be priced based on market interest rates and properly documented to avoid tax disputes.

Why this matters:

• Real estate companies with multiple entities must ensure that all intra-group transactions are properly documented and priced at market value. Non-compliance with DTP regulations could result in transfer pricing adjustments, penalties, and litigation.
• Documentation requirements are stringent under DTP, requiring companies to maintain proper records of pricing, terms of transactions, and benchmarking to justify the transfer pricing applied.

Actionable Point:    
          Real estate developers and investors operating through multiple group entities must conduct a thorough review of intra-group transactions to ensure they comply with domestic transfer pricing regulations. Proper documentation, benchmarking studies, and pricing policies should be in place to mitigate the risk of tax audits and disputes.

Key Takeaways for Real Estate Stakeholders

The recent changes in direct taxation and the application of domestic transfer pricing rules introduce new layers of complexity for the real estate sector. Developers, landowners, and investors must take immediate action to review their tax strategies and ensure compliance with these updates to avoid penalties, interest, and prolonged tax disputes.

Action Points for Real Estate Stakeholders:

1. Review all property transactions and agreements to ensure compliance with the updated TDS and capital gains rules.
2. Plan capital gains tax carefully, particularly for high-value property sales and JDAs, to avoid unexpected tax liabilities.
3. Ensure intra-group transactions comply with domestic transfer pricing regulations by maintaining proper documentation and pricing practices.
4. Consult tax professionals early to structure deals and transactions in the most tax-efficient manner and to avoid compliance issues.

Staying informed and compliant with these new rules is crucial to avoiding costly tax challenges. By adapting to these regulatory changes, real estate companies can safeguard their profitability and maintain smooth operations.