The Goods and Services Tax (GST) represents one of the most transformative reforms in India’s indirect taxation landscape, promising to unify disparate taxes and ease the burden on businesses. Central to its mechanism is the Input Tax Credit (ITC), which allows businesses to offset taxes paid on purchases against their output tax liabilities, thereby reducing tax cascading. However, when it comes to construction activities, the applicability of ITC becomes a complex and often contentious matter.
The restriction imposed by Section 17(5)(d) of the Central Goods and Services Tax (CGST) Act, 2017, prohibits ITC claims on goods and services used for constructing immovable property. This provision has sparked significant debate, especially for businesses involved in the development and leasing of commercial spaces, where construction costs represent a substantial investment.
The recent Supreme Court ruling in Chief Commissioner of Central Goods and Service Tax & Ors. v. M/s Safari Retreats Private Ltd. & Ors. has brought this issue into sharp focus. This case delved into whether ITC on GST paid during the construction of a shopping mall could be claimed against GST payable on rental income. The Court’s nuanced judgment acknowledged the inherent complexities of applying a rigid statutory framework to dynamic business activities, calling for a functional, case-specific approach. This judgment has reignited discussions on balancing statutory clarity with commercial pragmatism, making it a significant development for stakeholders in real estate and taxation.
Facts of the Case
M/s Safari Retreats Private Ltd., a company involved in real estate development, constructed a shopping mall in Odisha using various inputs like cement, steel, elevators, and air conditioning systems, all of which attracted GST. Instead of selling the mall, the company leased out its units to tenants and generated taxable rental income. Safari Retreats claimed ITC for the GST paid on construction-related inputs, intending to offset it against the GST payable on rental income. However, tax authorities denied the ITC claim, citing Section 17(5)(d) of the CGST Act, 2017, which restricts ITC on goods and services used for constructing immovable property, except for “plant or machinery.”
Disputing this, Safari Retreats argued that the restriction should not apply when the immovable property itself is used for generating taxable income. The Orissa High Court ruled in the company’s favour, interpreting the provision to allow ITC, reasoning that denying credit would lead to double taxation. This decision was challenged by the Revenue Department in the Supreme Court, where the Court upheld the constitutional validity of Section 17(5)(d) but emphasized the need for a “functionality test” to evaluate whether the constructed property qualifies as “plant” under the Act. The case was remanded to the High Court for further fact-specific determination.
The issues in the Chief Commissioner of Central Goods and Service Tax v. Safari Retreats Private Limited case, as per the judgment, were framed as follows:
- Whether the denial of ITC on goods and services used for the construction of immovable property (shopping malls in this case) was justified under the provisions of Section 17(5)(d) of the CGST Act, especially when the property was not used for the taxpayer’s personal consumption but was leased out, generating GST revenue.
- Whether the provisions of Section 17(5)(c) and (d) of the CGST Act, which restrict the availability of ITC for immovable properties, were constitutionally valid, given their alleged inconsistency with the Act’s purpose to eliminate the cascading effect of taxes.
- Whether buildings such as malls could be classified as “plant or machinery” under the exceptions provided in Section 17(5)(d), based on their functional role in the business activities of the taxpayer.
Odisha High Court Judgment
The Odisha High Court, in its judgment in 2019, adopted a taxpayer-friendly approach, allowing Safari Retreats to claim ITC on the GST paid for materials and services used in constructing the shopping mall. The primary legal issue before the Court was the interpretation of Section 17(5)(d), which prohibits ITC on the construction of immovable property, but with an exception for when such property is used in the course or furtherance of business.
The High Court reasoned that the construction of the shopping mall was directly linked to Safari Retreats’ business of leasing out space to tenants. It noted that the GST system’s main objective is to relieve the taxpayer of the burden of input tax on business-related purchases. In this case, the construction was integral to the business activity—renting out commercial units—thus, the GST paid on construction-related inputs should be eligible for ITC. The Court highlighted that Section 17(5)(d) should be “read down” to allow ITC where denying the credit would result in an unjust tax burden on businesses. In this case, since the materials and services used in construction were directly related to generating rental income, the Court held that Safari Retreats should be entitled to ITC on the GST paid for construction materials.
In essence, the High Court applied a purposive interpretation of Section 17(5)(d), emphasizing the business necessity of the construction and ruling that the denial of ITC in such cases would be against the principles of fairness and commercial logic under GST law.
Supreme Court Judgment
The matter was appealed before the Supreme Court, which examined the constitutional validity of Section 17(5)(d) and the eligibility of ITC for Safari Retreats. The Supreme Court upheld the validity of Section 17(5) but modified the approach by introducing a “functionality test” to determine whether a building qualifies as a “plant” under the GST Act. The key aspect of the Supreme Court’s judgment was its distinction between “immovable property” and “plant.”
While Section 17(5)(d) restricts ITC on goods and services used for the construction of immovable property, the Court noted that a building that serves as a “plant” for the purposes of business could be eligible for ITC. The Court explained that constructions integral to business operations, like those used for leasing or renting, could potentially qualify as “plant.” The Court emphasized that the determination of whether a property qualifies as “plant” should depend on its functionality in the business context. If the construction is essential to the business activities—such as a shopping mall being leased to tenants—it may qualify as “plant” under GST, making the construction eligible for ITC. This functionality test would require a case-by-case analysis based on the facts of each individual case.
The Supreme Court also confirmed that Section 17(5)(d) is constitutionally valid, affirming that the restriction on ITC for immovable property is a rational and lawful limitation under the GST framework. However, it remanded the case back to the Odisha High Court for further analysis, instructing the Court to apply the “functionality test” to determine whether the shopping mall in question could be considered a “plant” for the purpose of ITC.
Impact of Judgment on Various Sectors
The Supreme Court’s ruling has far-reaching implications across multiple sectors, particularly in the real estate, construction, and commercial leasing industries. The judgment, which addressed the issue of ITC on construction-related activities under the GST, not only clarifies the eligibility criteria for ITC but also introduces a nuanced “functionality test,” impacting how businesses can claim tax benefits for immovable property used in their operations.
The judgment is a significant development for the real estate and construction industries, sectors that are critical to India’s economy. This ruling provides relief to developers and builders involved in large commercial projects. Developers who build malls, office complexes, or other commercial properties can now claim ITC for the GST paid on materials used in construction. This not only reduces upfront costs but also fosters growth in commercial real estate development. It can also impact rental prices, with developers potentially passing on the savings from ITC to tenants, thus benefiting businesses looking to lease commercial space at more competitive rates.
Moreover, the judgment could lead to more efficient tax structures within these industries, encouraging more transparency in the accounting and reporting of ITC claims. The ruling may also inspire further legislative or administrative changes that streamline the process, making the GST framework more adaptable to the needs of the real estate sector.
The commercial leasing sector stands to benefit significantly from this judgment. Businesses leasing office spaces, shopping malls, or other commercial properties can now apply the ITC on construction-related materials against the GST they pay on rental income. This clarity allows businesses to claim a tax benefit that would have previously been disallowed, directly lowering their tax liabilities. It enhances the attractiveness of leasing as a business model and could stimulate demand for leased commercial spaces.
For commercial landlords and property developers, the judgment has critical implications for financial planning and investment strategies. With the possibility of claiming ITC on construction materials, property developers can now factor in potential tax credits when projecting costs for new developments. This reduces the financial burden of construction and potentially enhances the profitability of leasing operations. It can also lead to an increase in rental properties being built, especially in high-demand urban areas.
The ruling also affects the broader business operations of companies involved in construction, leasing, or real estate investment. Companies that maintain large portfolios of commercial properties will now need to assess each project to determine whether the property qualifies as a “plant” for GST purposes. For instance, businesses may need to provide detailed justifications for their ITC claims, demonstrating that the property serves an essential business function.
This places additional responsibility on businesses to maintain comprehensive documentation and evidence of the role that the constructed property plays in their business. As a result, tax consultants and legal advisors will play a crucial role in guiding businesses through the complexities of GST compliance, ensuring that all criteria are met for claiming ITC under the new framework.
Conclusion
In conclusion, the case of Chief Commissioner of Central Goods and Services Tax v. M/s Safari Retreats Private Limited highlights a significant intersection between tax law and commercial activities, specifically concerning the eligibility of ITC under the GST framework for construction-related inputs.
The Odisha High Court initially interpreted Section 17(5)(d) of the CGST Act in a more business-friendly manner, allowing Safari Retreats to claim ITC on GST paid for materials used in the construction of a shopping mall, which was integral to their leasing business. The High Court’s reasoning was rooted in the commercial necessity of the construction, arguing that the ITC was essential for the business to function efficiently and generate taxable rental income.
However, the Supreme Court, while upholding the constitutionality of Section 17(5)(d), introduced a “functionality test,” adding a layer of complexity to the determination of ITC eligibility. This test requires a detailed, case-by-case analysis to assess whether the constructed property, even though immovable, serves a critical business function, such as being central to a business’s operations (e.g., leasing space in a shopping mall). The Supreme Court clarified that if the construction is crucial for business activities, it could qualify as a “plant,” and thus be eligible for ITC under GST.
This case underscores the evolving nature of GST law, particularly in its application to construction and real estate sectors. The ruling introduces flexibility into the law, ensuring that businesses engaged in commercial activities are not unduly penalized for investing in essential infrastructure. The decision highlights the importance of applying a purposive interpretation of tax provisions to avoid undue hardship on taxpayers, ensuring that the principles of fairness and practicality are balanced within the legal framework.
Thus, the judgment offers important guidance on interpreting the restrictive provisions of GST law in a manner that aligns with the functional realities of modern business operations.
Case Citation: Civil Appeal No. 2948 of 2023.
AY Associates 
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