Home and commercial property buyers face the prospect of having to fork out value added tax on their apartments for construction materials, over and above the money they have agreed to pay the builder to acquire the property.

The minimum VAT on construction material is at 4 per cent, though the rate may vary slightly from state to state.

Maharashtra has already implemented the judgement in a circular it issued on February 7, 2007.

The state will begin levying VAT on construction materials and the value of construction in all pre-launches -- that is, on contracts that precede construction -- with retrospective effect from June 20, 2006. Realty companies fear that this might start a chain reaction in other states, in a bid to increase revenue collection.

The circular follows a Supreme Court bench upholding its judgement in litigation between the K Raheja Development Corporation versus Government of Karnataka.

The Rahejas had an agreement with owners of land in Karnataka for the construction of residential and commercial developments. The issue before the Supreme Court was whether Raheja was liable to pay work contracts tax, which translates into paying VAT, according to a senior partner in Ernst & Young.

The Maharashtra circular is based on its interpretation of the Supreme Court judgement that pre-launches are included under works contract.

Quoting the judgement, the circular stated that works contract includes "...any agreement for carrying out, either for cash or for deferred payment or for any other valuable consideration, the building and construction of any moveable or immovable property."

In layman terms this means that in cases where buyers purchase houses before completion of construction, builders would be levied works contract tax on the building material.

Buyers will have to begin shelling out more as they have to bear the tax burden. Customarily, there is an understanding between the buyer and the real estate developer that until the buyer takes possession of the development, any impact of changes in taxation would be borne by the developer.

"So far, builders were paying VAT on the actual cost of the construction by the contractor. Now they have to pay tax on the material as on the last sale price to the buyer. A part of the builder's profit will be added back to the value of the material. It necessarily means more tax to be paid. Authorities are now likely to attribute more to the cost of construction," said Satya Poddar, partner, Ernst &Young.

"Developers and contractors already pay VAT when we purchase our raw materials like steel, cement, electrical goods, timber etc. Now the government will start charging VAT for utilising these raw materials as well. Developers will have no choice but to pass on the additional cost to the user and that will further escalate property prices," said Ramani Sastri, president, Confederation of Real Estate Developers' Association of India.