The budget proposal of 2007-2008 states that service tax will now be levied on the rent received from the leasing of commercial properties at 12.36%. The imposition of this tax is a step towards broadening the scope of service tax, and imposing extra taxes on real estate. The flip side of the coin reveals a benefit, which is enhanced transparency in the transactions made during the buying and selling of properties.

Commercial property includes offices, shops; business centers malls, cold storages, warehouses, and any other premises that are used for a commercial or business purpose. Investors purchasing property on a fixed return basis will witness a drop in their returns. As per the agreements that are signed at the time of renting a property between the developers and the renters, any future tax liability will have to borne by the tenant. However, in certain cases no clause regarded such additional taxes is included, which may lead to disputes and litigation in future.

This increase in service tax is nothing short of a punch in the face for individuals who have either already given or taken the premises on rent, or those who are planning to do so in future. Whether the service tax is to be put up with by the licensor or licensee depends on the prevailing market conditions.

The scarcity of commercial space, the rise in real estate costs in the last couple of years, and now a whopping 12.36% tax addition are backbreaking. A recourse being considered is to seek legal help. However, the government too seems to be sending mixed signals. On one hand, the builders are being encouraged to develop more and more infrastructure facilities, while hiking the input costs, which will have to be ultimately borne by the consumer.

The 12.36% service tax will entail extra operating expenses and squeezing margins, knocking out the retail sector in India. Multiplexes will perhaps be hit worst as approximately 8% of their total revenues already go into paying rentals.

Real estate prices are increasingly going up and it is no more practical for developers to do business in many places. This is because if more properties are under construction and they have to bring down their margins, no retailer would be willing to take it up at extra costs. Such a severe rule as the 12.6% service tax being levied by the Central Government can put strains on the flourishing Real estate sector in India.

Furthermore, the other consequences of imposing service tax may include further inflation of property prices. Hence, the focus of the government must be on how to reduce or sustain the property prices at the existing levels.