How ITC reforms can propel the managed workspace sector

In brief

• The report recommends lifting Input Tax Credit (ITC) restrictions on fit-out expenses
• India’s managed workspace should align ITC provisions with global best practices
• Managed workspace services must have distinct GST classification codes

There has been a considerable amount of debate on the relevance of restrictions on goods and services used for construction of immovable property under section 17(5) (c) and (d) of the CGST Act, which has been further accentuated by the recent judgement of Hon’ble Supreme Court in the case of Safari Retreats Pvt. Ltd. EY and ASSOCHAM have recently published a report for differentiating the Managed Workspaces Industry by proposing a unique GST classification code for managed workspace services and re-evaluating Input Tax Credit (ITC) restrictions on fit-out and improvement expenses. The report titled “GST on Managed Workspace Services” has put forth key GST reforms aimed at bolstering India’s managed workspace industry, which has seen substantial growth driven by the demand from startups, MSMEs, and global companies establishing a presence in India. Such changes would reduce costs, ease operational complexities, and align India’s policies with international tax standards, further supporting the industry’s growth trajectory.

“India’s managed workspace sector has immense potential, but current GST restrictions create financial constraints. Addressing these will enhance operational efficiency and make India a more attractive hub for global businesses” said Deepak Sood, Secretary, ASSOCHAM.

Current Issue: GST limitations on Input Tax Credit (ITC)

The managed workspace services market has grown at a remarkable 70% CAGR from 2018 to 2023, surpassing traditional coworking space. However, the industry is currently grappling with a significant challenges posed by the Goods and Services Tax (GST) law in India. The GST structure under Sections 17(5)(c) and (d) of the CGST Act restricts managed workspace providers from claiming ITC on office fit-outs and modifications, classifying these expenses as "immovable property" and hence ineligible for ITC. This limitation not only increases service costs but also imposes double taxation, affecting the industry’s competitiveness, particularly for export-oriented businesses that utilize managed workspace services.

"Managed Workspace industry merits a separate classification and further removing ITC restrictions would directly reduce costs for providers, allowing them to pass on savings to clients,” said Bipin Sapra, Tax Partner, EY India. “This approach aligns with global standards and would support seamless service delivery" he added.

Key recommendations for policy adjustments

To address core challenges, the EY-ASSOCHAM report outlines specific recommendations aimed at creating a fair and supportive tax environment for managed workspaces:

Introduce a distinct classification code: Creating a new Harmonized System of Nomenclature/ Services Accounting Code specifically for managed workspace services would reduce ambiguity around GST policies for this sector and ensure a streamlined tax process for service providers. Clarity around the classification code would also help in addressing ITC-related complexities currently affecting the industry.

Revise ITC restrictions on fit-out expenses:

• A complete removal of these provisions would align India’s GST policy with international standards, allowing managed workspace providers to claim Input Tax Credit (ITC) on fit-out expenses, significantly reducing operational costs and enhancing business efficiency. Alternatively, an exception specifically for managed workspaces could be introduced within these sections, enabling ITC on essential setup and improvements while retaining the overall GST framework.
  
  
• Amending the definition of 'construction' in Section 17(5) of the CGST Act to exclude fit-out expenses for managed workspaces would allow Input Tax Credit (ITC) eligibility for essential modifications, ensuring they are not classified as immovable property. Allowing ITC on fixtures, fittings, and other improvements would rectify tax inefficiencies, create a more equitable tax structure, and empower the industry to offer premium services without additional tax burdens. This adjustment could foster a favourable environment for the managed workspace industry to thrive.

Summary

The report advocates for appropriate amendments to the Central Goods and Services Act 2017 (CGST Act) wherein approximately 85% to 95% of the fit-out expenses necessary for delivery of output service of managed workspaces are being classified as in relation to immovable property, thereby the benefit of ITC availment to the said sector being denied.

The report also calls for a distinct GST/HSN/SAC classification code to be introduced for managed workspace services.