Tax on land, houses, and apartments explained

In our latest series on ‘taxation explained’, KPMG Principal – Tax and Regulatory Suresh R.I. Perera, LLB, Attorney-at-Law, FCMA (UK) responds to questions on tax on land, houses, and apartments.

KPMG Principal – Tax and Regulatory Suresh R.I. Perera

Q: If a person purchases a land or a house using a bank loan what are tax reliefs available to him?

The act of purchasing entails incurring expenditure and not generating income. Therefore, no exposure to

income tax. The issue to consider is whether expenditure is tax deductible and are there any other benefits such as allowances that are deductible. This revolves around the purpose and usage of the land or house/apartment. If the land or house/apartment in turn is leased out to generate income though the purchase cost is not deductible against rent, the interest paid to the bank on the loan taken to fund the purchase will be deductible against the rent income. If the rent income is classified as “investment income”, (which may be the case if the person has no other property given on lease) no capital allowances will be available for the house against the rent income. The rent relief of 25% is also a deduction allowed against rent income.

However if the person could sustain that he is in the “business of leasing”, the claiming of capital allowances is a possibility on the house or apartment but not on land. But the rent relief 25% will not be available.

On the other hand, if the purchase of the house, apartment or land is for personal use, the purchase cost cannot be deducted for income tax purposes.

Interest paid on a housing loan is available as a deduction for the purpose of expenditure relief of Rs. 1.2 million for a Year of Assessment. I have explained this aspect in one of my previous interviews in this series.

Q: What if the house or land is purchased with a bank loan and sold at a higher value?

 If the house sold is not his residential accommodation, where he has owned it for three years and lived in for at least two years, there is no exemption from income tax. The profit or capital gain made will be exposed to income tax if it’s beyond liable thresholds.

The significant issue is whether the income come tax exposure would arise, within the framework of trading profit or capital gains tax. One must keep in mind the courts of Sri Lanka as well as foreign case law point out that, even an isolated transaction, if it has business character, the same could be trading profit though this is rare.

Depending on whether it’s trading profit or capital gains (which depends on whether property would be looked upon as an investment asset or stock in trade in this situation) the computation of the tax liability would also change. If it’s a capital gain the applicable income tax rate would be 10% whereas if it’s trading profit, the mechanism of progressive tax slabs and tax rates would have to be applied. That is the standard rate of 6%, 12% and 18%. The CGT rate of 10% would apply on the gain. The gain is calculated by applying the formula, ‘consideration less cost’. As I have already explained in previous interviews, the cost will be the cost as at 30 September 2017. The consideration is the higher of the amount received or the assessed value (a value certified by a professional value) at the time of disposal/transfer.

Q: When selling a house is there VAT payable? 

 This will also depend on the circumstances. VAT is payable when a VAT registered person makes a taxable supply in the course of carrying on or carrying out a taxable supply in Sri Lanka. Therefore, first and foremost, the seller must be registered for VAT. The issue is if the individual is not registered for VAT, whether this transaction would compel him to obtain a VAT registration. But then the VAT registration threshold nowadays is Rs. 300 million for a Year or Rs. 75 million per quarter. So, in practice it’s highly unlikely an individual selling house or land will reach this threshold. However, if it’s the case, there are other rules to be considered whether the registration and payment is required. For instance, there is a rule in the Act to exclude isolated transactions in determining the VAT liable threshold of Rs. 300 million.

Q: Explain the applicable stamp duty rules for real estate transactions.

 Real estate transactions attract stamp duty from two different stamp duty regimes.

Stamp duty applicable on lease stems from Stamp Duty (Special Provisions) Act No. 12 of 2006. Stamp duty of 1% is due on the aggregate lease rental. If the lease period is more than 20 years, the aggregate lease rental for stamp duty purposes is capped at 20 years lease rentals. The stamp duty on lease of land should be payable by the lessee unless otherwise agreed by the parties.

A significant point to note is that recently an amendment was introduced to ensure if due to an oversight if an excess amount is paid in relation to stamp duty chargeable under the Stamp Duty (special provisions) Act which is collected by the Commissioner General of Inland Revenue (CGIR), the excess could be obtained by way of a refund from the CGIR prior to the CGIR transferring such collected funds to the Provincial Councils in terms of the Provincial Councils (transfer of stamp duty) Act No. 13 of 2011.

However, stamp duty applicable on transfer of land and building is not coming under the above statute. Under the 13th amendment to the Constitution, power to levy Stamp Duty on transfer of land is with each Provincial Council. For instance, Western Provincial Council has legislated a specific financial Statute to levy Stamp Duty on transfer of immovable property. Such Stamp Duty is collected by each Provincial Council where the land is situated. The applicable rate is 3% on the first Rs. 100,000 and 4% on the balance.