Rav Singh

Income Tax Bill, 2025: In Search of a Big Idea

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The Department of Revenue claims that Income Tax Bill, 2025 – tabled in the Parliament on 13 February 2025 – marks a significant step towards simplifying the language and structure of the Income Tax Act, 1961. Does it? Yes. Was it needed? Yes. Is it a major reform? No, and herein lies the rub.  

The Press Release accompanying the IT Bill, 2025 makes it clear that the ‘simplification exercise’ did not implement any major tax policy changes to ensure continuity and certainty for taxpayers. This statement presumes two things: first, that there isn’t much uncertainty in the current IT Act, 1961 or certainly not worth immediate attention; second, that simplification and policy changes are easily separable. Both contain an element of truth without being completely true. 

In more than six decades of its existence, the IT Act, 1961 has ensured some stability and continuity in the direct tax domain, despite repeated amendments. But that does not mean that any major policy change in direct taxes should be frowned upon and sacrificed at the altar of certainty. There is enough ambiguity on various issues in income tax that could do with more clarity and better policy direction. Capital gains tax is one example. 

Equally, if the underlying policy is muddled, then the legislative language can only be that ‘simple’. Merely because the Provisos have been rearranged into sub-sections, Schedules have been appended, or ‘notwithstanding’ has been replaced with ‘irrespective’ will not be enough to reduce income tax litigation and disputes. Straightforward policy decisions usually lead to simpler statutes. Ad hoc policy changes cause frequent amendments and an eventual bloating of the statute. As it happened with IT Act, 1961. To aim for simplification of language without ensuring adequate clarity in policy is a limited exercise.   

In this post, I intend to highlight three major things: one achievement of IT Bill, 2025; one major flaw, and the way forward. 

IT Bill, 2025: Improves Readability, Not Comprehension  

IT Bill, 2025 has achieved one thing: it has improved reading flow of the proposed statute, the provisions are easier to locate without unnecessary alphanumeric numbers and caveats obstructing one’s view. The multiple Explanations, Provisos, non-obstante clauses, some with prospective, others with retrospective effect have been realigned into sub-sections to make the provisions easier to follow. Schedules are more informative, some redundancies have been eliminated, and overall, it is much easier to navigate the law as compared to the IT Act, 1961. But the ease of readability, and improved navigation is only for tax professionals. 

I don’t intend to speak for an ‘average’ taxpayer, but I’m going out on a limb to say that any claim that IT Bill, 2025 will be easier to comprehend for an average taxpayer is a bit of a stretch. The proposed law does not in any way remove the legalese to such an extent that the average taxpayer can fully understand the tax implications of their transactions. It is self-serving for tax administration to sell hope on the back of this simplification exercise, but let us draw a line and stop them from selling a fantasy. Let me illustrate: 

Section 9(1), IT Bill, 2025 states that income deemed to accrue or arise in India shall be the incomes mentioned in sub-sections (2) to (10). Section 9(2) then states that any income accruing or arising, directly or indirectly, through or from the transfer of capital asset situated in India shall be deemed to accrue or arise in India. Section 9(9) refers back to Section 9(2) and elaborates the latter via seven clauses with almost each clause containing various sub-clauses. We expect an average taxpayer to not only read this legal language, but also understand it, make a reasonable prediction as to how the tax officers and courts will interpret it? It should not even be an expectation. It is pure fantasy.

And if anyone still doubts my assertion, let us show an average taxpayer the Revenue Department’s explanation of what is a ‘tax year’ and the need for its introduction. The clueless expression that a taxpayer may respond with will give us some answers about the simplicity of language and lucidity of the IT Bill, 2025. Don’t get me wrong, tax year as a concept is welcome and can be easily understood by tax professionals. Not by a layman. And the claim that somehow by rearranging the provisions and improving flow of the statute may make it easier for an average taxpayer to comprehend it is something that I’m unable to accept.

In fact, improved readability is all the simplification exercise offers to tax professionals. For all intents and purposes, the changes in the IT Bill, 2025 will not make it easier to understand and interpret. IT Bill, 2025 remains as complicated and dense a statute as its predecessor and is likely to attract similar volume of litigation and same nature of interpretive disputes.      

Simplistic Understanding of Simplification  

Is simplifying the language of statute a ‘significant step’? Rarely. 

Simplification of legal language is a desirable step. It is not necessarily a significant one. 

Tax law, like every other law, is a constant site of interpretation. Judiciary performs the prime role in statutory interpretation. One can then argue that simplifying the language of statutory provisions may make it easy for the judiciary to understand ‘legislative intent’. It is a phrase that is often-invoked by the Revenue Department. However, the expectations should be muted on this front. A simple language in a statute does not guarantee that the judiciary will always agree with the Revenue’s interpretation. An outcome that the latter terribly desires, but rarely achieves. 

IT Bill, 2025 contains provisions of charge, exemptions, deductions, corporate taxation, tax evasion, assessments, clubbing of income, powers of tax officers, to name just a few. Each of these provisions require constant interpretation and re-interpretation depending on the transactions and facts that emerge. It is the dynamic nature of personal and commercial transactions, their shape shifting nature that provides scope and opportunity for tax officers to interpret the law and determining tax liabilities of taxpayers. And depending on the fate of disputes, the law changes frequently to address the emerging circumstances. If the Revenue Department disagrees with a particular interpretation, changes to income tax law happen soon thereafter. Why? Because protecting revenue’s interest is primary, policy direction is easily divorced. Simplification, is thus, rarely about drafting provisions in easy-to-understand language. Simplification emerges from clear policy.    

Simplification of provisions of IT Act, 1961 currently seems like a desire that legislative language will be easier to decipher during adjudication of tax disputes. The desire will only become a fact once the judiciary starts interpreting the ‘simple’ statutory provisions. And if one goes by the track record of Department of Revenue, each time the judiciary disagrees with it, the statute is amended to reflect its position and interpretation via an Explanation, a Proviso, an insertion or deletion of a clause. Will that not happen in the future? We don’t know because there have been no such commitments. Also, because we don’t know what tax policies are driving the simplification of provisions, apart from generic statements such as ‘improving ease of business’, ‘rationalisation of tax law’, ‘improving compliance’, etc.  

In Search of a Big Idea 

There is no big idea that underscores the IT Bill, 2025. Admittedly, if the official Press Release itself admits no major policy change has been introduced, then highlighting lack of substantive changes is an obvious comment. But it doesn’t and shouldn’t distract us from the fact that India’s direct tax policy is not ideal. The claim that direct tax policy shouldn’t be disrupted to prevent ‘instability’ is shallow and insincere. To be sure, India’s income tax has witnessed some changes in recent times, the primary one being the introduction of new tax regime. And, of course, the recent introduction of income tax exemption on income upto 12 lakhs per annum. What else? Nothing. Political parties continue to enjoy a durable income tax exemption, there is no movement to tax agricultural income, charitable organisations keep facing undue scrutiny and onerous compliance requirements, tax officers continue to enjoy unbridled powers of search, seizure, and survey without any meaningful scrutiny. Faceless assessments and attempts to limit powers of reassessments were well intentioned reforms, but both are embroiled in tangles that seem to have limited their administrative reform potential. 

We had the opportunity to create a trailblazing direct tax policy for cryptocurrencies, instead we opted for and continue with a punitive regime that all but discourages all kinds of cryptocurrency transactions in India. Digital taxation continues to hang in balance, with India participating in the OECD’s attempts to overhaul the corporate and international tax landscape without being able to fully retain its autonomy and wriggle space for autonomous domestic policies. How about capital gains tax? No major idea on the anvil. Tax evasion? GAAR, introduced as a reaction to Vodafone case, alongside the Principal Purpose Test in tax treaties require constant reassurance to calm investors. But no major clarity has emerged on applicability and scope of either. Certainly not until the Revenue’s clarifications are tested in actual cases. Presence of wide-ranging anti-tax evasion provisions while conferring extensive and intrusive powers to tax officers are not typical hallmarks of a tax law attempting to inspire confidence in taxpayers. And, certainly do not boost taxpayer morale. 

Finally, burgeoning bots, robots, and deployment of artificial intelligence seem to have not made a dent in India’s substantive direct tax policy. We are still waiting for someone else to show us the path and then incorporate derived version of AI-related tax policy in India. AI is the biggest idea in today’s tech obsessed world and needs a tax response. How about promoting environment friendly activities? Better and more encompassing tax policies for electric vehicles? Environment taxes on polluting corporates? We refuse to engage with such ideas and instead and are focusing on renumbering our statute instead of unveiling new tax ideas.        

Conclusion 

India’s direct tax policy needs big ideas. Simplification of statute is not one. It is a reform, but we do ourselves a disservice by calling it a major milestone or a significant step. We need better ideas as to how to rethink source rules in a digital world, and how to guard our revenue interests while engaging with OECD, evolving a suitable anti-tax avoidance approach – domestically and in our tax treaties – as well as ensuring that our residence principles do not remain stuck in the past while the contemporary world increasingly inhabits digital nomads. And, not the least, ensure tax administration reforms are not just about ‘using’ AI, data processing, big data but also sowing seeds of substantive tax policies towards these technologies. We also need a first principles approach towards powers of tax officers to ensure that they have sufficient powers, but are not unaccountable for their actions. The only solace is that the simplification of language of IT Act, 1961 may prove to be the launchpad of such major reforms of income tax law. Time will tell if there is appetite for such reforms.  

Skeletal Timeline of Income Tax Reform in India

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1860-1886: 

Income tax was introduced in India for the first time in 1860 to overcome the financial difficulties due to First War of Independence of 1857. The period of 1860-1886 saw the Govt alternating between income tax and license tax as a source of revenue. Income tax became the preferred option when the first systematic form of income tax law was passed in 1886. 

1860: Income Tax Act, 1860 enacted in India

  • First income tax law of India 
  • Income was divided into four schedules to be taxed separately 
  • Four schedules were: income from landed property, income from professions and trades, income from securities, and income from salaries and pensions

1863: Income Tax Act, 1860 ‘expired’ 

1869: Income tax was reintroduced due to financial difficulties faced by the British Govt 

1873: Income Tax Act, 1869 ‘expired’  

1878: Income tax was replaced by license tax to raise money for famine insurance

1886: Income Tax Act, 1886 enacted with important changes 

  • Income was divided into four classes
  • Four classes were: salaries, pensions or gratuities, net profits of companies, interest on securities of Govt of India, and income from other sources 
  • Agricultural income was exempt from income tax and so were properties devoted to charitable and religious purposes  

1918-1961: 

The foundation for modern Indian income tax law – as we know it today – was laid with enactment of 1918. Income tax reforms were initiated after the First World War and eventually led to a broad review of income tax collections leading to enactment of Income Tax Act, 1922, foundational legislation for the current Income Tax Act, 1961. The foundation for tax administration was also laid during this period.   

1918: Income Tax Act, 1918 replaced the Income Tax Act, 1886 

  • Broad shape of contemporary income tax law started emerging  
  • Act of 1918 replaced ‘schedular income tax’ with ‘total income tax’ 

1922: Predecessor to the Income Tax Act, 1961 enacted 

  • Income Tax Act, 1922 was enacted based on recommendations of All India Committee
  • Income tax rates were determined annually via ‘Finance Acts’ (Annual Budget) and were not encoded in the Income Tax Act itself 

1939: Special Enquiry Committee comprised of experts from India and England 

1941: Income Tax Appellate Tribunals were established 

  • First specialist tribunals constituted in India 

1956: Union of India stresses on reform of IT Act, 1922

  • It was acknowledged that IT Act, 1922 had grown in an unplanned manner 
  • It was decided to re-examine the IT Act, 1922 to simplify it and make it more intelligible and referred the task to Law Commission of India  

1958: Law Commission of India submits it report 

  • 12th Report of the LCI made extensive suggestions for rearrangement of provisions
  • LCI stated that income tax law was in a state of ‘hopeless confusion’ due to constant tinkering with the IT Act, 1922 via short sighted amendments 

1959: Tyagi Committee submitted its report 

  • The Committee was formally called ‘Direct Taxes Administration Enquiry Committee’ 
  • The Committee acknowledged that simplification of tax laws was not an easy task. It recommended that provisions of IT Act, 1961 should be rearranged more logically and expressed in clearer language to remove ambiguities in the law

1961: Income Tax Act, 1961 was enacted 

Promise of IT Act, 1961

Promise of Income Tax Act, 1961: 

Morarji Desai promised the following when introducing the income tax law in 1961: 

Simplification has been sought to be obtained by replacing obscure and ambiguous expressions with clear ones and by re-arranging the provisions of the Act so as to make them more easy of comprehension than they are at present. 

1961-Present: 

Over years, Income Tax Act, 1961 grew complex, longer, and difficult to decipher due to various reasons. The Union of India’s propensity to amend the law every year, frequently with retrospective effect, emergence of novel forms of business transactions, incomes, tax evasion techniques, and divergence between the Revenue Department’s understanding of income tax law provisions and judicial interpretation of such provisions contributed to the complexity. Not least was the use of extensive ‘Provisos’, ‘Explanations’ in the statute which made the law difficult to understand and administer.   

1963: Central Boards of Revenue Act, 1963 passed 

  • Repealed the Central Board of Revenue Act, 1924 
  • Central Board of Revenue was replaced by two entities: Central Board of Direct Taxes and Central Board of Indirect Taxes and Customs. Former is the ape administrative body for income taxes in India  

1991-92: Raja Chelliah Committee examined India’s entire tax landscape 

  • Formally called the ‘Tax Reforms Committee’, it recommended a series of tax reforms for direct and indirect taxation 
  • The Committee though did not suggest enacting a new income tax law, only suggested various changes including but not limited to corporate taxes, interest taxation, agricultural income, and gift tax  

2009: First notable attempt to replace the IT Act, 1961 

2010: Revised version, Direct Taxes Code Bill, 2010 presented in the Parliament 

  • Revised version incorporated some comments received on the 2009 version
  • Direct Taxes Code Bill, 2010 referred to the Standing Committee on Finance

2012: Standing Committee on Finance submitted its Report on Direct Taxes Code Bill, 2010 

2014: Revised version of Direct Taxes Code Bill, 2010 was again put up for comments 

  • Direct Taxes Code Bill, 2010 lapsed with dissolution of the 15th Lok Sabha 
  • No clear commitment by the new BJP Govt to take the process forward 

2017: Task Force on Direct Tax Code setup 

  • Initially the Task Force was led by Mr. Arbind Modi and later by Mr. Akhilesh Ranjan 

2019: Task Force submitted its Report 

  • Report was never released to the public 

2024: Ms Nirmala Sitharaman announces a review of IT Act, 1961

  • CBDT forms an ‘Internal Committee’ to substantively review IT Act, 1961 
  • It was announced that the review will be completed within 6 months 

2025: Ms Nirmala Sitharaman announces that new income tax bill will be introduced 

  • Promises that new income tax law will be based on ‘trust first, scrutinize later’ principle 
  • New law will be substantively shorter and simpler as compared to IT Act, 1961
  • Also indicates that the income tax bill will be referred to the Standing Committee 

Promise of Income Tax Bill, 2025: 

Nirmala Sitharaman promised the following in her Budget Speech of 2025 

New IT bill will carry forward the spirit of  ‘nyaya based on the concept of trust first, scrutinise later’ and ‘the new bill will be clear and direct in text with close to half of the present law, in terms of both chapters and words. Also ‘It will be simple to understand for taxpayers and tax administration, leading to tax certainty and reduced litigation.’ [Not verbatim]

Why Should Tax Lawyers Care About the Annual Budget?

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Tax law, especially Indian tax law discussions are far too often contained by self-sustaining logic of statutory provisions and case laws. Tax lawyers, including me, feel validated and satisfied having decoded a particular judgment or the meaning of a provision. The satisfaction is often short lived because another judgment or amendment is on the horizon. Else, another Press Release, Circular, Notification, Clarification of the Circular, Amendment to the Notification, Guideline, Order that needs to be read. If we don’t keep abreast, we risk losing clients for missing a deadline of tax return, or failure to obtain tax refunds, or for our failure to render a timely advice. Where does the Budget fit in such daily scheme of things for a tax lawyer? 

In not many places. But, it should.  

In the Budget of 2020-21, for example, it was announced that the Union of India has decided to abolish Dividend Distribution Tax (‘DDT’). It was crucial information. As a tax lawyer I certainly need to know that w.e.f. 1.04.2020, shareholders and not companies are obliged to pay income tax on dividends. Unfortunately, the curiosity of most tax lawyers stops here. 

Ideally, and this is where I aspire to make my case: a tax lawyer should also know why the change was introduced? Union of India introduced DDT in 1997 reasoning that it was easier to collect tax on dividends in the hands of companies itself? It was easier to administer tax law over companies than large swathe of shareholders. Subsequently, ‘Buyback Tax’ was also introduced to plug the loophole of companies avoiding payment of DDT. What changed in 2020 to prompt the Union to upend its policy of taxing dividends in hands of companies? Especially when the no. of shareholders had increased multifold since 1997. Is it because the earlier was policy ill-conceived to begin with? Or is it that despite the large no. of shareholders it was easier track online payment of dividends? Dividends ‘should’ always be taxed in hands of shareholders is not a convincing explanation. For such an explanation impliedly castigates the introduction of DDT and its continuation for close to two decades. 

Now, of course, most practicing tax lawyers are likely to consider the above as superfluous inquiries. Or inquiries that are best addressed by academic lawyers. But that hardly changes the reality that most tax lawyers aren’t curious beyond the immediate needs of their clients. And many don’t have the luxury to meet such curiosity. But I would like to state that understanding reasons for major tax policy changes helps us better anticipate future changes, if not predict them. And ability to anticipate policy changes is an underrated but core quality for many lawyers, not just tax lawyers. 

To take another example, the Budget of 2022-23 revealed that cryptocurrency transactions are no longer in a tax vacuum and will be subject to a flat tax rate of 30%. Not much explanation was forthcoming for the punitive tax for cryptocurrency. But most tax lawyers worth their salt knew that the tax rate was a clear signal to discourage cryptocurrency transactions in India. The prelude to ‘crypto tax’ where RBI attempted to shackle cryptocurrency exchanges should have offered enough clue about the direction of regulatory environment for cryptocurrency in India. But, is it enough for a tax lawyer to know that the Budget has introduced new provisions relating to cryptocurrency transactions in the Income Tax Act, 1961? I guess you know my answer by this point. In my view, timely advice for clients for cryptocurrency transactions was ‘before’ the provision was introduced, not ‘after’. Thus, merely knowing the provisions once they are on the book is not enough. We need deeper and better understanding of the winds of change and their direction.       

But does the Budget tell us more? 

Yes, it does. (Especially if you can sit through the entire Budget Speech!)

Sometimes it tells us that when it comes to taxation, the Union of India operates in mysterious ways. And making anticipating changes may not always be a straightforward task. Because, I think, sometimes it is a mystery to the Union itself as to what tax policies it is enacting and why is it making certain tax policies. The Union of India, can, for example, attempt to ‘rationalise’ capital gains tax by completely doing away with indexation benefits in one sweeping announcement as in the Budget of 2024-25. Done and dusted. Or so it thought.   

And once the Union of India failed to fully explain its decision and received a wave of backlash, it amended its rationalization by introducing a grandfathering provision to ensure that the investments made before 23.07.2024 continued to receive the indexation benefits. 

One explanation for removing indexation benefits was to remove difficult and complicated calculations from the IT Act, 1961. Instead, the Union of India argued, it was better to prescribe a single capital gains tax of 12.5%. But what we now have instead is that for properties bought before 23.07.2024, taxpayers have the option of choosing between an indexation benefit or a capital gains tax of 12.5% from 2024 onwards. Simplification, they said. Dual options for taxpayers were created instead. And no, more is not merrier in every context.   

On second thoughts, maybe Union of India’s approach to tax policy is not a mystery. Maybe the goal is to try and see if through ‘shock and awe’ a policy change can be pushed through. If not, it is prepared make some prudent concessions that should have been incorporated in the first instance itself.    

Apart from the ‘whys’, Budget thus also reveals the ‘hows’ of tax policy changes. Is it a sledgehammer approach, a genteel incremental path, or a passionate persuasion for a change that the Government in power is advocating. Example: rumors that the Budget of 2025 will introduce a new Income Tax Bill. And there isn’t much disbelief about the rumor. An entirely new legislation on income tax is rumored to be introduced in a couple of days and the public is yet to see a draft version. When the Government in power is not averse to such a ‘hide and seek’ way of operating, it becomes a necessity for tax lawyers to be in tune with the Annual Budget. 

Further, the Budget reveals a lot about the nature of time. 

It is trite that laws can be amended or repealed. Statutory provisions can be replaced. And effect of unfavorable judgments can be nullified. But each year the Budget tells us that time does not move only in one direction. Linearity of time is a myth. Tax laws can be amended in 2025 ‘with effect from’ 2017, 2000 or even 1961. For example, there is a distinct possibility that through the Budget of 2025, CGST Act, 2017 will be amended to replace the words ‘plant or machinery’ with ‘plant and machinery’ to negate Supreme Court’s judgment in Safari Retreats case. The GST Council has recommended the amendment be effectuated retrospective effect, i.e., from 2017. Tax lawyers are so used to retrospective amendments that they no longer battle an eyelid when another such amendment is announced. But maybe we should battle an eyelid and more. And ask the tough question: why? Why is it not enough to amend the law w.e.f. 2025? Why do we have to travel back in time and amend it w.e.f. 2017? Can the Union of India, for once, accept it made a legislative oversight/error, change the law and move forward.    

English grammar tells us that conjunctions are important. The expected turn that the Safari Retreats case will take can tell us that conjunctions can be fulcrum of a long litigation battle that may award half a win to the taxpayer, but the Budget will convert it into a full loss. And tax lawyers are none the wiser. Not a great commentary on tax law and its practitioners.  

In formal legal language, Annual Union Budget is many things at the same time. It is the Annual Financial Statement as per Article 112 of the Constitution, Finance Bill when introduced, Finance Act once Parliament approves it, a tool to amend past financial mistakes, and a platform to unveil not a financial but also socio-economic vision of the future. 

In common parlance, Annual Union Budget presents an opportunity to demand ‘relief for middle class’, ‘create investment opportunities’, ‘attract FDI’, and of late hurtle us towards the promised land of ‘Viksit Bharat’. 

But for us tax lawyers, the Budget is also an opportunity to examine if the tax policies are adhering to the enduring canons of taxation propounded by Adam Smith. About time that the examination is public, expressive, and articulate instead of just being reactionary.  

Finally, Budget reveals numbers. It a statement of expenditures and revenues of the past financial year. And proposed expenses for the upcoming financial year. But that’s only one part of a larger story. 

Of late, tax collections are soaring. Undoubtedly. GST collections have only shown an upward trend post-COVID. And the trajectory will likely continue in that direction if there an income tax relief in the Budget of 2025. Income tax relief generally increases cash in hand for taxpayers which in turn will likely spur consumption and generate revenue via GST. So, a further bump in GST collections means a chance to spin the success story of Indian tax policy, including but specifically of GST. But numbers should never be enough. 

To use an analogy: as a tax lawyer, receiving client fee is crucial. Even necessary. But fee cannot be the only barometer of success, no matter how tempting it is to equate money with success.    

If numbers were the ‘be all and end all’, equalization levy was a roaring success and angel tax mopped up some revenue as well. Former is being phased out and latter was abolished via the Budget of 2024-25. Ending the life of both taxes should not be a cause for celebration if numbers are the only touchstone on which success of taxes is to be judged.  

Numbers reveal a story and hide another one. It is upto us what we make of them. If the no. of people filing income tax returns has increased, it is worth applauding. Not so, if they are only filing returns and not paying any effective income tax. Reducing corporate tax rates was supposed to be an incentive for spurring investments, but reduced corporate tax collections since the rate reductions may tell a different story. Ever increasing GST collections may reveal success, but if the burden of GST is primarily being borne by low earning groups, it calls into question the fairness of such a tax. And as much as tax lawyers believe that questions of fairness, justice, and equity are outside their realm, they stare us back in the face every now and then. We may choose to ‘hide’ behind the ‘logic’ and ‘coldness’ of statutory provisions, it won’t change the reality. And neither can we deny how Indian tax policy is increasingly being shaped without a meaningful contribution from tax lawyers.  

CERC Is Exempt from GST: Delhi HC 

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The Delhi High Court in a recent judgment held that the Central Electricity Regulatory Commission and Delhi Electricity Regulatory Commission (‘Commission’) were not liable to pay GST. The Revenue sought to levy on the fees and tariff that Commission received from the power utilities. The Revenue contended that functions performed by the Commission were ‘support services to electricity transmission and distribution services’ under a 2017 Notification issued by CBIC. The Revenue clarified that while no GST was payable on services provided via electricity transmission and distribution services, but support services rendered in the contest of electricity transmission and distribution were subject to GST. 

The Delhi High Court ruled in favor of the Commission. 

Facts and Arguments 

Commission receives various amounts under different heads such as filing fee, tariff fee, license fee, annual registration fee and miscellaneous fee. Commission took the stance that GST is not payable on such amounts since it is performing statutory functions under the Electricity Act, 2003 and is essentially not engaged in any trade or commerce. 

Revenue’s argument – derived from its Show Cause Notices (SCNs) – before the High Court was that the Commission awards licences for distribution and transmission of electricity and charges licence fees. Thus, the definition of business read with consideration under CGST Act, 2017 makes it amply clear that the Commission is supplying services. And any such amount received is taxable under GST.  

The Revenue relied on two major elements to strengthen its argument about liability of the Commission to pay GST: 

First, it relied on FAQs where the CBIC had clarified that Commission is not a Government for the purpose of GST but is appropriately classified as a regulatory agency. And any financial consideration received by the Commission for any service provided by it was liable to GST. Since the regulatory activities performed by the Commission for which it received money amounted to ‘business’, the Commission was classified as a business entity under the said FAQs.  

Second, and the Revenue reasoned this in its SCN as well: the Commission performs both regulatory and adjudicatory functions. That regulatory functions of the Commission fall outside the purview of quasi-judicial functions and while performing such functions it does not have the trappings of a full-fledged court. Further, the licence fee is received by the Commission for its regulatory functions. The Revenue argued that it is immaterial if the regulatory functions of the Commission are mandated by the statute or not, as long as consideration is received by it is for supply of, services it amounts to a supply for which GST is liable to be paid.   

The Commission questioned the Revenue’s bifurcation between its regulatory and adjudicatory functions and contended that discharge of statutory duties by it in public interest cannot be subjected to GST. 

Relevant Provisions of GST 

The High Court reproduced the relevant provisions of CGST Act, 2017 relating to supply, business, and consideration. 

Section 7, CGST Act, 2017 defines supply to include all forms of supply of goods or services or both made for a consideration by a person in the course or furtherance of business. 

Clause 2, Schedule III, CGST Act, 2017 states that services provided by a Court or Tribunal established under any law for the time being in force will not be considered either as supply of goods or supply of services.  

Definitions of business and consideration under CGST Act, 2017 are as follows: 

―2. Definitions. —In this Act, unless the context otherwise requires- 

      xxxx                    xxxx                    xxxx

(17) ―business‖ includes— 

(a) any trade, commerce, manufacture, profession, vocation, adventure, wager or any other similar activity, whether or not it is for a pecuniary benefit; 

(b) any activity or transaction in connection with or incidental or ancillary to sub-clause (a); 

(c) any activity or transaction in the nature of sub-clause (a), whether or not there is volume, frequency, continuity or regularity of such transaction; 

(d) supply or acquisition of goods including capital goods and services in connection with commencement or closure of business; 

(e) provision by a club, association, society, or any such body (for a subscription or any other consideration) of the facilities or benefits to its members; 

(f) admission, for a consideration, of persons to any premises; 

(g) services supplied by a person as the holder of an office which has been accepted by him in the course or furtherance of his trade, profession or vocation; 

(h) activities of a race club including by way of totalisator or a license to book maker or activities of a licensed book maker in such club; and; 

(i) any activity or transaction undertaken by the Central Government, a State Government or any local authority in which they are engaged as public authorities;‖ 

―2. Definitions.—In this Act, unless the context otherwise requires,— 

      xxxx                    xxxx                    xxxx

(31) ―consideration‖ in relation to the supply of goods or services or both includes—

(a) any payment made or to be made, whether in money or otherwise, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government; 

(b) the monetary value of any act or forbearance, in respect of, in response to, or for the inducement of, the supply of goods or services or both, whether by the recipient or by any other person but shall not include any subsidy given by the Central Government or a State Government: 

Provided that a deposit given in respect of the supply of goods or services or both shall not be considered as payment made for such supply unless the supplier applies such deposit as consideration for the said supply;

The Delhi High Court examined the above two definitions in detail to reject Revenue’s contention. 

Decision 

The Delhi High Court noted that the Commission certainly acts as a tribunal, but the Revenue seeks to distinguish between the adjudicatory and regulatory functions of the Commission. The bifurcation warranted an examination of the definition of business and consideration in tandem with supply as defined under Section 7, CGST Act, 2017. 

As regards the definition of business, the Delhi High Court observed that clause (a) was the applicable clause. But the High Court observed that it cannot fathom how the power of regulation statutorily vested in the Commission can be included in any of the activities enlisted in the definition of business. Further, while clause (i) included activities undertaken by the Central or State Governments, the High Court noted that the Commission being a statutory body could not be equated with either of the two entities. 

As regards the definition of consideration, the Delhi High Court noted that it draws colour from the definition of business and it needs to be in relation or response to inducement of supply of goods or services. And here two elements need to be satisfied: first, the payment received must be outcome of an inducement of supply of goods or services; second, the supply must be in the course of or furtherance of business. 

As regards the first element, the High Court noted that: 

Suffice it to note that it was not even remotely sought to be contended by the respondents that the payments in the form of fee as received by Commissions were an outcome of an inducement to supply goods or services. (para 29) 

The above observation is not entirely accurate, since the SCN did mention that the Commission was providing support services for electricity transmission and distribution services. 

Nonetheless, even if one accepts that the money received by the Commission was in response to inducement of supply of goods or services, the said money must be in course or furtherance of business. To this end, the Delhi High Court observed that the functions performed by the Commission cannot be included in the term ‘business’ as defined under Section 2(17), CGST Act, 2017 and concluded: 

We find ourselves unable to accept, affirm or even fathom the conclusion that regulation of tariff, inter-State transmission of electricity or the issuance of license would be liable to be construed as activities undertaken or functions discharged in the furtherance of business. (para 33)

Finally, what about the bifurcation between regulatory and adjudicatory functions of the Commission? As per the Delhi High Court that the Electricity Act made no distinction between regulatory and adjudicatory functions of the Commission and that the statute had enjoined the Commission to regulate and administer electricity distribution. 

Conclusion 

The Delhi High Court’s decision stands on firm footing. And despite the CBIC and the GST Council having recommended otherwise, the High Court arrived at a clear and well-reasoned decision that the Commission was a tribunal. Even if it was accepted that the Commission received consideration in exercise of regulatory functions, it was not in course or furtherance of business. 

Finally, the Delhi High Court clarified that merely because was a heading: “Support services to electricity, gas and water distribution” which is placed under Group Heading 99863 of the CBIC Notification does not mean that the statutory exemption under Schedule III where services provided by a tribunal are excluded can be bypassed. The High Court helpfully clarified: 

What we seek to emphasise is that a notification would neither expand the scope of the parent entry nor can it be construed as taking away an exemption which stands granted under the CGST Act. There cannot possibly be even a cavil of doubt that a Schedule constitutes an integral part and component of the principal legislation. (para 36) 

Whether the Revenue will appeal against this decision will be revealed in due course, but for now, a well-reasoned decision of the Delhi High Court has clarified the GST implications of the Commission’s functions. 

Shimla HC Decodes Scope of Sec 43-B, IT Act, 1961

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In a recent judgment, the Shimla High Court had to adjudicate on the conditions prescribed in Section 43-B, IT Act, 1961 for an assessee to claim deductions. The issue related to Section 43-B(f) which envisages deductions to an employer for payments made to employees on encashment of cash leaves.

Facts 

For the Assessment Year 2002-03, the assessee inter alia claimed expenses of Rs 45,00,000/-, a sum it paid to LIC on contribution to Credit Leave Encashment Trust. The Assessing Officer disallowed the claim of such expense and added it to the income of the assessee. The assessee was unsuccessful in appeal before the ITAT. The dates are relevant to understand the issue at hand: 

The fund was established on 29.10.2002 and contribution of Rs 45,00,000/- to LIC was made on the same date.

Provision for contribution of Rs 45,00,000/- was not made by the assessee after closure of financial year 2001-02, i.e. on 31.03.2002. 

The assessee was not following the mercantile system of accounting during the financial year 2001-02. 

The liability of payment of Rs 45,00,000/- did not accrue nor was it paid during the financial year 2001-02.    

Summary of arguments adopted by the assessee and the Revenue is as follows: the assessee argued that the payment of Rs 45,00,000/- was part of the entire past liability of Rs 1.80 crores assessed by the insurer. The liability was not a contingent liability. And since the liability was met before due date of submission of returns, i.e., 31.10.2002, it was a permissible deduction under Proviso to Section 43-B(f), IT Act, 1961. Revenue, on the other hand, contended that the amount was not deductible under the IT Act, 1961 and even if it was, since it was not ascertained during the relevant financial year could not be a permissible deduction under Proviso to Section 43-B, IT Act, 1961. 

Section 43-B, IT Act, 1961 

Section 43-B, IT Act, 1961 allows for certain deductions to an assessee only on actual payment. Section 43-B(f) states ‘any sum payable by the assessee as an employer in lieu of any leave at the credit of his employee;’ and the Proviso states: 

Provided that nothing contained in this section [[except the provisions of clause(h)]] shall apply in relation to any sum which is actually paid by the assessee on or before the due date applicable in his case for furnishing the return of income under sub-section (1) of section 139 in respect of the previous year in which the liability to pay such sum was incurred as aforesaid and the evidence of such payment is furnished by the assessee along with such return.

Shimla HC Answers Two Questions 

The first question that the Shimla High Court decided to answer was whether the contribution made by a corporate employer to a fund for payment of leave encashment to its employees was entitled to deduction. The High Court disagreed with the ITAT and held that it is not accurate to state that such a fund has not been statutorily recognized. The inclusion of Section 43-B(f), as per the High Court, proved otherwise. The High Court cited Exide Industries case to rightly conclude that amount of contribution made by an assessee towards a fund for payment of leave encashment to its employees was a deductible expense. 

The second question then was: did the assessee meet requirements of Section 43-B and its Proviso? The High Court answered in the negative. The High Court noted that Proviso allows only allows an assessee to claim a deduction if the sum payable as an employer in lieu of any leave was incurred by the assessee according to the regular method of accounting employed by him and the sum was actually paid in the previous accounting year. The second condition is not a correct interpretation of the Proviso, as it clearly states the payment can be made after the accounting year but before due date of filing returns. 

Nonetheless, the Shimla High Court denied the assessee’s claim for deduction on the ground that the liability of Rs 45,00,000/- had already been incurred as a past liability. The assessee’s assertion that the amount was part of a past liability of Rs 1.80 crores determined by the insurer, the High Court noted had not been substantiated. And since the finding of fact is not controverted the High Court denied assessee’s claim for deduction. 

Conclusion 

The insight this case offers us is that the payment towards a fund for encashment of leave is a permissible deduction under Section 43-B, IT Act, 1961. The payment can be made after the end of accounting year but before the due date to successfully claim deduction. But, the payment must be for satisfaction of a past liability incurred during the previous accounting year and the accounting method adopted by an assessee must reflect the liability. The observation that Section 43-B alongwith Proviso also requires payment before the end of accounting year does not align with a plain reading of the provision and does not hold on scrutiny.     

Assignment of Leasehold Rights is Immovable Property under GST: Guj HC 

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Introduction 

In a recent and much discussed judgment, the Gujarat High Court has held that assignment by sale and transfer of leasehold rights of a plot of land amounts to transfer of benefits arising out of immovable property. The High Court concluded that the transfer would not amount to a supply under Section 7, CGST Act, 2017 read with Schedule II of the Act.  

My usual lament is about length of judgments. This judgment is 280 pages and could very well have been less than half. But the Judges felt the need to reproduce the entirety of arguments and copiously cite precedents relied on by the parties to the case, even if several of them had no proximate bearing on the High Court’s conclusion. While this lament may sound repetitive, I believe it is important to constantly strive for more brevity and more clarity in our judgments.   

Regardless, a quick summary of the case is below. 

Issue before the Gujarat High Court 

The brief facts of case are: Gujarat Industrial Development Corporation (‘GIDC’). GIDC acquires land and develops the same for industrial estate by creating infrastructure such as road, drainage, etc. and allots a plot of land on long term lease for 99 years to a person/entity. A registered deed is executed between GIDC and the lessee. The lease deed allows the lessee to further assign the leasehold rights and any interest in the land to a third person with approval of GIDC. In the impugned case, Gujarat Chamber of Commerce and Industries was the lessee and its case was that the transfer of leasehold rights to a third party did not attract GST. 

In the impugned case, the land was leased to the lessee, and the latter constructed a building on it. And the leasehold rights that were assigned related to both the land and the building so constructed.  The High Court thus framed the issue specifically as: whether assignment of leasehold rights alongwith the building thereon would be covered by the scope of supply to levy GST as per the CGST Act, 2017 or not?  

Arguments and Relevant Provisions 

The crux of lessee/petitioner’s argument was that leasehold rights are benefits arising out of land. A succinct logical flow of the argument can be stated as follows: 

  1. The definitions of immovable property under the General Clauses Act, 1897 and Registration Act, 1908 both include ‘benefits that arise out of land’.   
  2. Leasehold rights are benefits arising out of an immovable property. 
  3. Thus, transfer/assignment of leasehold rights amounts to transfer of an immovable property. 
  4. Since transfer of immovable property is not within the scope of ‘supply’ as defined under CGST Act, 2017 it cannot be subjected to GST. 

The Revenue’s case was that while sale immovable property is outside the scope of supply of GST laws, interest in immovable property like leasehold rights which is transferred by way of sale is a ‘supply of services’ is liable for GST. The Revenue further argued that transfer of right to occupy a land by GIDC to lessee constitutes a supply of service. And that the nature of interest in land would not change merely because the lessee makes an absolute transfer of leasehold rights to a third party. 

To buttress its argument that leasehold rights were benefits arising out of a land, the petitioner’s relied on a galaxy of judgments in the context of TPA, 1882 where courts have elaborated on what constitutes a movable or immovable property.

Supply has been defined under Section 7, CGST Act, 2017 to include sale, transfer, barter, exchange, licence, rental, lease or disposal made or agreed to be made for a consideration in the course or furtherance of business. Further, Clause 5(a), Schedule II, CGST Act, 2017 states that renting of immovable property shall be treated as supply of services. Thus, while renting/leasing is within the scope of supply the assignment of leasehold rights is not specifically included in the definition of supply.  

Reasoning and Conclusion 

The Gujarat High Court did not accept the Revenue’s argument. The High Court noted that the first transaction between GIDC and lessee merely transferred the right of possession to the latter as the right of ownership of the plot remained with GIDC. The second transaction wherein the lessee assigned all the leasehold rights in the property to a third party involved transfer of absolute rights. The High Court added: 

when the lessee-assignor transfers absolute right by way of sale of leasehold rights in favour of the assignee, the same shall be transfer of “immovable property” as leasehold rights is nothing but benefits arising out of immovable property which according to the definition contained in other statutes would be “immovable property”. Therefore, the question of supply of services or place of supply of services does not arise … (para 52)

Thus, transfer of land for lease of 99 years by GIDC to lessee is taxable under GST as per clause 5(a), Schedule II, CGST Act, 2017. But transfer of such leasehold rights would be nothing but transfer of immovable property since the consideration paid is as much an alienation as sale or mortgage. (para 64) The High Court also invoked the meaning of term ‘assignment’ to mean that it includes transfer of all rights of a property, the whole interest with rights and liability to sue and be sued. (para 67-68) And the implication of the above understanding of assignment was that the lessee was removed from the picture on transfer of leasehold rights.   

But can the lessee transfer a title superior to the one they received? If the lessee only received leasehold rights from GIDC can it transfer/assign absolute rights to a third party? To this end, the High Court emphasised that GIDC only leased the plot of land and the lessee constructed a building and developed a land for the purpose of business. The entire land and building was therefore transferred along with leasehold rights and interests in land which is a capital asset in the form of immovable property. The lessee, therefore, earned profits by operating a building which constitutes ‘profit a pendre’ which in turn constitutes as immovable property as per the Anand Behra case. 

Legislative Intent or Strict Interpretation? 

The Gujarat High Court has relied on both: strict interpretation of tax statutes and legislative intent to hold that assignment of land the building does not amount to a supply under GST. Using both interpretive techniques in a single judgment is a bit strange. The default approach in interpreting tax statutes is – strict interpretation. Courts usually resort to discovering legislative intent if there is ambiguity or uncertainty in the relevant provisions. In the impugned case, the Gujarat High Court declared that it must follow strict interpretation of law since regard must be given to clear meaning of the terms since entire issue is governed by language of the provisions. (para 58) And yet in the succeeding paragraphs the High Court goes into legislative intent and history in detail before arriving at its conclusion. (paras 60-62)

The Gujarat High Court specifically invoked legislative intent when it noted that when legislative intent is not to levy GST on sale of immovable property, the Revenue’s argument of treating assignment of leasehold rights as equal to renting of immovable property would be contrary to legislative intent. (Para 82) This issue could have been easily adjudicated upon by relying on the strict interpretation of statutes by holding that Clause 5(a), Schedule II, CGST Act, 2017 only mentions ‘renting of immovable property’ and cannot by interpretive gymnastics be held to include ‘assignment of leasehold rights’.   

 This interpretive approach where the High Court was trying to rely on two different interpretive methodologies without reconciling them is indicative of a ‘let cover all bases’ approach instead of a narrow inquiry into the issue at hand.        

Conclusion 

It is important that the ratio of this case is understood in the specific context of this case. The specific context is that the lessee received leasehold rights of a plot of land from GIDC. The lessee in turn developed the land, constructed a building, and assigned the leasehold rights over the land and building to a third party. The High Court stressed on the development of land made by the lessee after receiving the leasehold rights and that the assignment by sale by the lessee was of both the land and building. The conclusion may have been different if the land received on land was further leased to a third party on ‘as is where is’ basis.      

Telecommunication Towers are Movable Property under GST: Delhi HC

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The Delhi High Court in a recent decision held that telecommunication towers are best characterized as movable property under Section 17(5), CGST Act, 2017 and are eligible for input tax credit (‘ITC’). 

Facts 

Indus Towers filed a writ petition impugning the showcause notice issued under Section 74, CGST Act, 2017. The notice issued a demand for tax along with interest and penalty. Indus Towers was engaged in the business of providing passive infrastructure services to telecommunication service providers. And the notices denied it ITC on inputs and input services used for setting up passive infrastructure on the ground. The Revenue’s argument was that the inputs were used in construction of telecommunication towers and fell in the ambit of Section 17(5)(d), CGST Act, 2017. The relevant portions of the provision are below to help us understand the issue better: 

17. Apportionment of credit and blocked credits. 

xxxxx

(5) Notwithstanding anything contained in sub-section (1) of Section 16 and sub-section (1) of Section 18, input tax credit shall not be available in respect of the following, namely:-  

xxx

(d) goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business. 

Xxx

Explanation.- For the purposes of this Chapter and Chapter VI, the expression “plant and machinery” means apparatus, equipment, and machinery fixed to earth by foundation or structural support that are used for making outward supply of goods or services or both and includes such foundation and structural supports but excludes – 

  • land, building or any other civil structures; 
  • telecommunication towers; and 
  • pipelines laid outside the factory premises. 

Revenue’s reading of the above extracted provisions was: plant and machinery is not immovable property and is eligible for ITC, but clause (ii) of the Explanation expressly excludes telecommunication towers from the scope of plant and machinery. Thus, telecommunication towers should be considered as immovable property on which ITC is blocked. 

Petitioner’s Arguments 

Petitioner’s assertion was that telecommunication towers more appropriately classified as movable and not immovable property. Petitioner argued that telecommunication towers are movable items of essential equipment used in telecommunications. The towers can be dismantled at site and are capable of being moved. The concrete structure on which the towers are placed could be treated as the immovable element of the equipment, but all other parts can be easily moved and shifted to other locations. And since the underlying concrete structure is essentially for the purpose of providing stability to the towers, it would not detract from the basic characteristic of towers as being a movable property. 

Precedents and Generic Principles of Immovable Property 

The Delhi High Court cited two major precedents: Bharti Airtel and Vodafone Mobile Services cases. The Supreme Court in the former and the Delhi High Court in the latter had opined that telecom towers are intrinsically movable items and liable to be treated as inputs under the CENVAT Credit Rules, 2004. The Revenue’s contention was that both decisions should be distinguished. Under GST, the Explanation appended to Section 17, CGST Act, 2017 specifically excludes telecommunication towers from the ambit of plant and machinery, and thereby they should be treated as immovable property. The Delhi High Court relied on the above two precedents to disagree with the Revenue’s contentions.   

Additionally, the Delhi High Court cited a host of other principles enunciated in the context of TPA, 1882 where courts have tried to distinguish movable property from immovable property. Some of the principles to determine the nature of a property include: nature of annexation, object of annexation, intention of parties, functionality, permanency, and marketability test. 

The Delhi High Court cited Supreme Court’s observations in the Airtel case and how after applying the said tests, the Court had concluded that towers were not permanently annexed to the earth, but could be removed or relocated without causing any damage to them. And that the annexation of telecommunication towers to the earth was only to make them stable and wobble free. 

Expressing its complete agreement with Supreme Court’s observations, the Delhi High Court noted that the telecommunication towers were never erected with an intent of conferring permanency and their placement on concrete bases was only to help them overcome the vagaries of nature. The Revenue’s argument that telecommunication towers were immovable property, was as per the Delhi High Court, completely untenable.      

High Court Interprets Section 17(5) & the Explanation in a Curious Manner  

The Delhi High Court noted that telecommunication towers are not an immovable property in the first place and do not fall within the ambit of Section 17(5)(d). While the Explanation specifically excludes telecommunication towers from the ambit of the expression ‘plant and machinery’, the High Court observed that: 

… the specific exclusion of telecommunication towers from the scope of the phrase “plant and machinery” would not lead one to conclude that the statute contemplates or envisages telecommunication towers to be immovable property. Telecommunication towers would in any event have to quality as immovable property as a pre-condition to fall within the ambit of clause (d) of Section 17(5). Their exclusion from the expression “plant and machinery” would not result in it being concomitantly held that they constitute articles which are immoveable. (para 18) 

The High Court interpretation is a curious one. The legislative scheme under CGST Act, 2017 is: plant and machinery are not to be treated as immovable property, but telecommunication towers are specifically excluded from ambit of plant and machinery. Does mean that telecommunication towers move back into the category of immovable property since they are excluded from the exception? Prima facie, yes. But the Delhi High Court answered in negative. The High Court’s reasoning is that telecommunication towers are not an immovable property in the first place. The High Court’s opinion is not entirely convincing. Explanation to Section 17(5) excludes three specific things from the ambit of plant and machinery, i.e., 

  • land, building or any other civil structures; 
  • telecommunication towers; and 
  • pipelines laid outside the factory premises. 

Category (i) and (ii), are prima facie immovable property. Applying the principle of ejusdem generis, one can argue that telecommunication towers also fall in the same category. Even if the generic principles of the concept of immovable property suggest that telecommunication towers are a movable property that is an answer in abstract. In the context of Explanation to Section 17(5), a case can be made that telecommunication towers are treated as immovable property by a deeming fiction. Section 17(5) read with the Explanation clearly suggests that telecommunication towers are to be treated as immovable property. The Delhi High Court’s opinion that telecommunication towers are not an immovable property in the first place does not adequately examine the interplay of the Explanation with the text of Section 17(5) and that the predecents cited were in the context of CENVAT Credit Rules and not GST law. This issue of telecommunication towers and their appropriate classification under GST may need a revisit in the future.   

Issuance of Shares under Amalgamation Scheme is Not Transfer of Property: ITAT

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The Rajkot Bench of ITAT recently ruled that issuance of shares under a scheme of amalgamation does not amount to transfer of capital assets under IT Act, 1961. The Assessing Officer had applied Sec 56(2)(vii)(c)(ii) of the IT Act, 1961 to assert that a skewed swap ratio was applied for transfer and valuation of shares, but the ITAT held in favor of the assessee. 

Facts 

The assessee was a public limited company. It filed its revised returns on 07.05.2015 declaring total income of Rs 4,74,48,046/- and book profit of Rs 5,20,68,396/- and it was selected for scrutiny. The Assessing Officer noted that the assessee company had amalgamated with three private limited companies with itself. The latter were owned by relatives of promoters of the assessee company.  During amalgamation, the assessee issued shares to shareholders of all three companies as per the scheme of amalgamation. 

The Assessing Officer took the view that a skewed swap ratio was chosen in the process of amalgamation and the assessee company transferred its shares to the beneficiaries at a discount. And the transfer of capital to such beneficiaries attracted Sec 56(2)(vii)(c)(ii) of the IT Act, 1961. Thus, the Assessing Officer held that the excess value of Rs 18,74,73,500/- transferred to the beneficiary, related parties should be added to the income of assessee. 

CIT(Appeals) on appeal filed by the assessee deleted the addition made by the Assessing Officer. And it was against the order of CIT (Appeals) that the Revenue approached the ITAT.  

Revenue’s Stand 

Revenue made two arguments and the latter appears rather strange. The first argument was that the share of assessee company was valued at Rs 1.82 per share while the amalgamated companies had a share price of Rs 10.65 per share. The Revenue argued that the difference of Rs 8.83 between two prices was passed over or given to the individual shareholder by adopting a colourable device and defeating the purpose of Sec 56(2)(vii)(c)(ii) of the IT Act, 1961. 

Revenue in its second argument conceded that the issuance or allotment of shares under a scheme of amalgamation does not amount to transfer of capital asset under Sec 47 of the IT Act, 1961. And no capital gains would be taxable in the hands of assessee. However, ‘the real income should be taxable in the hands of the assessee company.’ (para 11) 

What is real income in this case? And how did the Revenue suppose it was taxable if the transaction was not a taxable as per the applicable charging provisions of the IT Act, 1961? Even if one concedes that some benefit had occurred, in the absence of an express charging provision to tax such a benefit the entire case collapses. And yet the Revenue thought it was a fit case to file an appeal despite the CIT (Appeals) making an order that the no income had accrued under IT Act, 1961.    

Decision 

ITAT relied on multiple precedents to underline its three reasons for holding in favor of the assessee: 

First, ITAT held that the assessee company receives shares of the amalgamated company upon a statutorily valid and approved procedure of amalgamation under Companies Act, 1956. And once the share is issued at the court approved price, ‘then no one has the right to raise questions regarding one received more or less in value of shares.’ (para 14) ITAT added: 

… the new share is allotted as per the Amalgamation scheme under the supervision of the High Court after hearing of all stakeholders including the Government. The Scheme of amalgamation under which an exchanger ratio of shares is approved by the high court, and it is conclusive. So, question of skewed swap ratio or issuing shares at discounted rate does not arise.’ (para 20) 

Second, ITAT held that under Section 2(1B) read with Section 47 of the IT Act, 1961 transfer of shares during an amalgamation or even a fresh allotment of shares does not amount to transfer of a capital asset. And once there is no transfer of property, on merely receiving shares in lieu of shares previously held, Sec 56(2)(vii)(c)(ii) of the IT Act, 1961 cannot be applied. 

Finally, ITAT noted that Sec 56(2)(vii)(c)(ii) of the IT Act, 1961 does not apply to public limited companies but only to individuals and HUFs. 

ITAT’s decision in the impugned case is well-reasoned and decides the issue appropriately even if the decision in this case was straightforward. The case though is another instance of what I can term as unnecessary litigation by the Revenue Department. The ITAT’s decision correctly aligned with the CIT (Appeals) decision and the Revenue needn’t have appealed against the latter order pretending that the assessee had adopted a colorable device. The law and facts were straightforward to not require dedication of such extensive resources to this case.     

Safari Retreats: Supreme Court Adopts a ‘Strict’ Stance

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The Supreme Court pronounced its judgment in the Safari Retreats case a few days ago. The judgment involved interpretation of Section 17(5), CGST Act, 2017, specifically clauses (c) and (d) read with two Explanations contained in the Section. The judgment has been greeted with a mixed response by tax community with some commending the Supreme Court for adhering to strict interpretation of tax statutes while others criticizing it for misreading the provision and by extension legislative intent. While a lot of ink has already been spilled in writing comments on the judgment, I think there is room for one more view. 

In this article, I describe the judgment, issues involved and argue that the Supreme Court in the impugned judgment identified the issue clearly, applied the doctrine of strict interpretation of tax statutes correctly, and any criticism that the Court misread legislative intent doesn’t have strong legs. At the same time, the judgment is not without flaws. Finally, it is vital to acknowledge that the judgment is an interpretive exercise in abstract as it didn’t decide the case on facts and remanded the matter to the High Court with instructions to decide the matter on merit ‘by applying the functionality test in terms of this judgment.’ (para 67) It is in application of the functionality test where implications of the impugned judgment will be most visible.   

Introduction 

The writ petition before the Supreme Court was a result of Orissa High Court’s decision wherein it read down Section 17(5)(d). I’ve discussed the High Court’s judgment here, but I will recall brief facts of the case for purpose of this article: the petitioner was in the business of construction of shopping malls. During construction, the petitioner bought raw materials as inputs and utilized various input services such as engineering and architect services. The petitioner paid GST on the inputs and input services. In the process, the petitioner accumulated Input Tax Credit (‘ITC’) of Rs 34 crores. After completion of construction of the shopping mall, the petitioner rented premises of the shopping mall and collected GST from the tenants. The petitioner was not allowed to claim ITC against the GST collected from the tenants. The Revenue Department invoked Section 17(5)(d), CGST Act, 2017 to block the petitioner’s ITC claim. It is worth reproducing the relevant Section 17(5)(d) and (e), as they form nucleus of the impugned judgment. 

17. Apportionment of credit and blocked credits.— 

(5) Notwithstanding anything contained in sub-section (1) of section 16 and sub- section (1) of section 18, input tax credit shall not be available in respect of the following, namely:— 

(c) works contract services when supplied for construction of an immovable property (other than plant and machinery) except where it is an input service for further supply of works contract service; 

(d) goods or services or both received by a taxable person for construction of an immovable property (other than plant or machinery) on his own account including when such goods or services or both are used in the course or furtherance of business. 

Explanation.––For the purposes of clauses (c) and (d), the expression ―construction includes re-construction, renovation, additions or alterations or repairs, to the extent of capitalisation, to the said immovable property; 

Another Explanation is appended to Section 17, after Section 17(6), which states as follows: 

Explanation.––For the purposes of this Chapter and Chapter VI, the expression ― “plant and machinery”means apparatus, equipment, and machinery fixed to earth by foundation or structural support that are used for making outward supply of goods or services or both and includes such foundation and structural supports but excludes— 

  1. (i)  land, building or any other civil structures; 
  2. (ii)  telecommunication towers; and 
  3. (iii)  pipelines laid outside the factory premises. 

The Revenue’s argument was that the petitioner constructed an immovable property, i.e., a shopping mall on his own account and ITC in such a situation is blocked under Section 17(5)(d). The Orissa High Court read down Section 17(5)(d) and allowed the petitioner to claim ITC by reasoning that denial of ITC would lead to cascading effect of taxes. The High Court crucially did not examine if the shopping mall could be categorized in the exemption of ‘plant or machinery’. While the High Court’s judgment is not an exemplar of legal reasoning, it triggered a debate on the permissibility of petitioner’s ITC claim and the Supreme Court has clarified some issues through its judgment.  

Arguments 

Petitioners 

The Supreme Court, in the initial pages of the judgment, laments that the arguments in the case were repetitive and cajoles lawyers to make brevity their friend. (para 6) I will try and summarise the arguments from both sides by paying heed to the above suggestion.  

Petitioners argued that denial of ITC under Section 17(5)(d) amounted to treating unequals equally. Petitioners argued that renting/leasing of immovable property cannot be treated the same as sale of immovable property. There is no intelligible differentia since the transactions are different. Latter does not attract GST while the former is subject to GST. There is no break in chain in case of petitioners since both input and output are taxable under GST and blocking of ITC will lead to cascading effect of taxes and defeat a core objective of GST. It was further argued that the provision suffered from vagueness since the phrase ‘on its own account’ was not defined, and use of two different phrases – ‘plant or machinery’/ ‘plant and machinery’ – and their meanings were not sufficiently clarified by the legislature. 

A ‘three-pronged’ argument of the petitioner stated that claim of ITC could be allowed without reading down Section 17(5)(d). The three prongs were:  

First, clause (d) exempts ‘plant or machinery’ from blocked credit while the Explanation after Section 17(6) is applicable to ‘plant and machinery’. Thus, the Explanation is inapplicable to the clause (d). This point is further underlined by use of the phrase ‘plant or machinery’ in clause (c) indicating that the two phrases – ‘plant and machinery’/‘plant or machinery’ are different. Explanation to Section 17(6) effectively states that land, building and other civil structure cannot form ‘plant and machinery’; if the Explanation cannot be applied to clause (d) a building such as a shopping mall can be categorized as a ‘plant’ on which ITC is not blocked.  

Second, it was argued that malls, hotels, warehouses, etc. are plants under Section 17(d). Stressing on strict interpretation of statutes and need to avoid cascading effect of taxes, the petitioners specifically added that the term ‘plant’ should include buildings that are an ‘essential tool of the trade’ with which the business is carried on. But, if it is merely a ‘setting within which the business’ is carried on, then the building would not qualify as a plant.

Third, it was argued that supply of service under Section 7 of CGST Act, 2017 read with Clause 2 of Schedule II includes leasing and renting of any building including a commercial or residential complex. And ITC accumulated on construction of such property should be available against such service. This argument seems to address the issue of blocking of ITC under Section 17(5) indirectly and advocated for a seamless availability of ITC. But this argument side steps the fact that a transaction can amount to supply under Section 7, and yet ITC on it can be blocked under Section 17. 

The first argument though was the most crucial argument, as the latter part of this article will examine.  

The State

The State’s arguments oscillated from sublime to the ridiculous. The State argued that  classification of the petitioners with assessees who constructed immovable property and sold it was based on intelligible differentia. And the intelligible differentia was that both kinds of asssessees ‘created immovable property’. The State also mentioned that there was a break in the chain of tax, but this is not true for petitioner since renting of premises in the shopping mall was taxable. The petitioners were paying GST on their inputs and collecting GST on the output, i.e., renting of premises of shopping mall. The break in tax chain, as the petitioners rightly argued was only when an immovable property is sold after receiving a completion certificate as in such transactions output is not subject to GST. Further, State stressed that ITC is not a fundamental or a constitutional right and thus State has the discretion to limit the availability/block ITC. While ITC not being a right is now a well-established legal position, the State’s justification for blocking ITC in this case lacked an express and cogent reason.  

The State further argued, unsuprisingly, that the phrase ‘plant or machinery’ should be interpreted to mean ‘plant and machinery’. As per the State, it was not uncommon to interpret ‘or’ to mean ‘and’. I’m terming this argument as unsurprising because this is not a novel argument in taxation matters and the State even had a few authorities to back this view. The State though did admit that the phrase ‘plant or machinery’ occurs only once in Chapters V and VI of the CGST Act, 2017 while the phrase ‘plant and machinery’ occurred ten times. The existence of both phrases in the CGST Act, 2017 proved crucial in the final view taken by the Supreme Court that both phrases have a different meaning. Finally, the State also cited ‘revenue loss’ as a reason for disallowing ITC. It was argued that the petitioner could claim ITC while renting/leasing the mall, but the mall would be sold after 5 or 6 years and on such sale no GST would be paid since GST is not payable on sale of immovable property sold after receiving a completion certificate. This would cause a loss to the exchequer. This again is a curious argument: if sale of immovable property does not attract GST as per the legal provisions, how can non-payment of GST in such cases cause a ‘loss’ to exchequer? Further, if blocking of ITC is done to prevent such a ‘loss’ then it defeats a central purpose of GST as a value-added tax.   

Despite the voluminous arguments, if one were to identify the core issue in the judgment, it would be whether ‘or’ can mean ‘and’ and further whether a shopping mall could be termed as a ‘plant’. Supreme Court said answered the former in negative and the latter is to be decided by the High Court based on facts of the case and by applying the ‘functionality test’ endorsed by the Supreme Court. 

Supreme Court’s conclusion is based on two pillars: first, reiteration and clear articulation of the elements of strict interpretation of statutes; second, reliance on a variety of judicial precedents to endorse the functionality test. 

First Pillar of the Judgment: Strict Interpretation of Tax Statutes  

To begin with, strict interpretation of tax statutes is a principle that is followed universally and adhered to in most jurisdictions including India. The principle can be summarized can be expressed in a thesis length and has various nuances. In the context of impugned judgment, the Supreme Court highlighted summarized the core principles as: a taxation statute must be interpreted with no additions or subtractions; a taxation statute cannot be interpreted on any assumption or presumption; in the fiscal arena it is not the function of the Court to compel the Parliament to go further and do more and there is nothing unjust if a taxpayer escapes the letter of law due to failure of the legislature to express itself clearly. (para 25) 

Second, while Courts in various judgments have stated that taxation statutes should be interpreted strictly, they have failed to apply the said principle in its true sense. But in the impugned judgment we see a correct application of the strict interpretation principle as evidenced in the following observations of the Supreme Court: 

The explanation to Section 17 defines “plant and machinery”. The explanation seeks to define the expression “plant and machinery” used in Chapter V and Chapter VI. In Chapter VI, the expression “plant and machinery” appears in several places, but the expression “plant or machinery” is found only in Section 17(5)(d). If the legislature intended to give the expression “plant or machinery” the same meaning as “plant and machinery” as defined in the explanation, the legislature would not have specifically used the expression “plant or machinery” in Section 17(5)(d). The legislature has made this distinction consciously. Therefore, the expression “plant and machinery” and “plant or machinery” cannot be given the same meaning. (para 44) 

The Supreme Court in making the above observations clarified that interpreting ‘plant or machinery’ to mean same as ‘plant and machinery’ would amount to doing violence to words in the statute and in interpreting tax statutes, the Courts cannot supply deficiencies in the statute. Dominant part of the reasoning for above conclusion was derived from adherence to strict interpretation, but also that the phrase ‘plant and machinery’ occurred ten times in Chapter V and VI of the CGST Act, 2017 while the phrase ‘plant or machinery’ occurred only once indicating that the legislature intended to use different phrases at different places. Also, the Supreme Court noted that even if use of ‘or’ was a mistake the legislature had ample time since the High Court’s judgment to intervene and correct the error, but it had not done so. Hence, the assumption should be that use of the phrase ‘plant or machinery’ was not a mistake. The bulk of the reasoning though did come from principles of strict interpretation. Both, Supreme Court’s summary of principles of strict interpretation of tax statutes and its application to Section 17(5)(d) read with Explanation to Section 17(6) are a perfect example of crisp articulation of a principle and its application.     

Second Pillar of the Judgment: Functionality Test 

Once the Supreme Court concluded that the phrase ‘plant or machinery’ is distinct from ‘plant and machinery’, it had to interpret meaning and scope of the former phrase since only the latter was defined under Explanation to Section 17(6). The Supreme Court clarified that the expression ‘immovable property other than plant or machinery’ used in Section 17 shows that a plant could be an immovable property. And in the absence of a definition of ‘plant’ in CGST Act, 2017 meaning of the word in commercial sense will have to be relied on. The Court cited a series of precedents where the word ‘plant’ had been interpreted and the ‘functionality test’ had been laid down. Clarifying the import of various precedents, the Supreme Court borrowed the language from previous judicial decisions and expressed the functionality test in following terms: 

 … if it is found on facts that a building has been so planned and constructed as to serve an assessee’s special technical requirements, it will qualify to be treated as a plant for the purposes of investment allowance. The word ‘plant’ used in a bracketed portion of Section 17(5)(d) cannot be given the restricted meaning provided in the definition of “plant and machinery”, which excludes land, buildings or any other civil structures … To give a plain interpretation to clause (d) of Section 17(5), the word “plant” will have to be interpreted by taking recourse to the functionality test. (para 52)

 While the functionality test expressed above provides broad guidelines, there is enough in the test to cause tremendous confusion and uncertainty once it is applied to varied fact situations. For example, the Supreme Court itself clarified that the Orissa High Court did not decide if the shopping mall of the petitioner was a ‘plant’ and the High Court needs to answer the question determine if ITC will be blocked. But even if the petitioner’s shopping mall is held to constitute a plant, it would not mean that all shopping malls will receive similar treatment. Because the Supreme Court clearly says: 

‘Each mall is different. Therefore, in each case, fact-finding enquiry is contemplated.’ (para 56)

The answer on applying the functionality test would depend on facts of each case and similar buildings can be labelled as a plant or not depending on factual variations. While the Supreme Court has clarified that the functionality test is the appropriate framework to determine the eligibility for ITC in the impugned case and other similar cases, the application of it has been left to the High Court for now. Only once several such cases are decided, will be know if coherence is emerging in the interpretation and application of the functionality test. But since the functionality test is highly fact sensitive, we should expect varied answers depending on the underlying fact situation.  

Finally, the Supreme Court helpfully did clarify the import and ratio of the precedents on this issue mostly notably Anand Theatres judgment. In Anand Theatres case, the issue was whether a building which is used for running a hotel or a cinema theatre can be considered as a tool for business and thus a plant for purpose of allowing depreciation under the IT Act, 1961. The Court answered in the negative, but a later decision in Karnataka Power Corporations judgment limited the decision in Anand Theatres case to only cinemas and hotels. The Supreme Court in the impugned judgment also made it amply clear that Anand Theatres case was only applicable for hotels and cinema theatres and could not be used to determine if shopping malls, warehouses, or any other building amounts to a plant.  In clarifying so, the legal position that emerges is that hotels and cinema theatres are not plants while other buildings are a plant or not needs to be determined by applying the functionality test. This was a welcome clarification since there was confusion as to which decision is relevant and applicable in the context of deciding if a building is a plant or not while applying the functionality test.         

Meaning of ‘On Own Account’ Lacks Proper Reasoning 

A notable flaw of the judgment, which in my opinion, should be scrutinized in future decisions is the Supreme Court’s explanation of the meaning of ‘own account’. It interpreted the phrase in following terms: 

Construction is said to be on a taxable person’s “own account” when (i) it is made for his personal use and not for service or (ii) it is to be used by the person constructing as a setting in which business is carried out. However, construction cannot said to be on a taxable person’s “own account” if it is intended to be sold or given on lease or license. (para 32)

The flaw in the above opinion is that it comes from ‘nowhere’. The latter element of ‘own account’ was the petitioner’s understanding of the phrase. But, in the Supreme Court in reaching this conclusion does not cite any authority or how or why does it agree with this interpretation of the phrase. The paragraphs that precede and succeed the above conclusion are focused on Supreme Court’s analysis that clause (c) and (d) of Section 17(5) are distinct and occupy different territories and its view about meaning of ‘own account’ seems to hang in air with no discernible reason to support it. One could argue that the Supreme Court’s interpretation is a commercial understanding of the phrase, but I doubt if adopting commercial meaning of the phrase can be done without stating reasons for subscribing to it. 

Also, the petitioner’s had argued that ‘on own account’ should be restricted to scenarios when a building is used as a setting for carrying out the business, not when it a tool for the business. Supreme Court seems to have endorsed the distinction based on the above cited paragraph. Again, this distinction works well in abstract but applying it to the facts of each case and distinguishing between what is ‘setting for a business’ and what is merely a ‘tool for business’ may not be obvious in each case. 

Implications and Way Forward 

The implications of the impugned judgment are various. To begin with, the phrase ‘plant or machinery’ does not mean the same as ‘plant and machinery’. A clear and unambiguous application of the doctrine of strict interpretation of tax statutes signals and reiterates the need to adopt this doctrine while interpreting provisions of tax law. At the same time, while the Supreme Court has not inaugurated a new test, it has unambiguously thrown its weight behind a well-established test, i.e., functionality test to determine if a plant or fixture in question is a plant. And judicial decisions that have applied the functionality test in the pre-GST and IT Act, 1961 indicate that uniform answers are unlikely as the query is fact specific and so are the answers. Thus, in the foreseeable future as courts adjudicate on this issue, we should expect varied answers and not a classical coherent and uniform jurisprudence on this issue.  

Much Ado About Demo Vehicles: Ambiguity on ITC Clarified

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The CBIC recently issued a Circular clarifying availability of ITC in respect of demo vehicles. The Circular, as I briefly mentioned elsewhere, seems like an exercise in law making rather than a mere interpretation of law. But I will keep that view aside for the purpose of this article. In this article, I focus on the ambiguity that emerged on ITC availability for demo vehicles, due to divergent views of AARs/AAARs, the relevant statutory provisions, and then describe how the recent CBIC Circular clarifies the law. I conclude that the confusion regarding availability of ITC on demo vehicles was avoidable if AARs/AAARs had adopted a more rigorous interpretive approach. However, going forward it may be prudent to align with the CBIC’s view expressed in its latest circular in the interest of taxpayers. 

ITC is Blocked, but there are Exceptions 

Section 17(5)(a), CGST Act, 2017 states that: ITC shall not be available in respect of motor vehicles for transportation of persons having approved seating capacity of not more than thirteen persons (including the driver), except when they are used for making the following taxable supplies, namely –  

(A)  further supply of such motor vehicles; or 

(B)  transportation of passengers; or 

(C)  imparting training on driving such motor vehicles; 

The policy rationale behind blocking ITC for motor vehicles of the above description is unclear and so is the reason for exceptions incorporated in the provision. And while the CBIC in its Circular and AAR/AAARs in some of their rulings have said that they are trying to decipher the ‘intent of law’, the phrase has been used erroneously. Neither the CBIC nor AAR/AAARs have referred to any legislative debates or other legislative instruments to decipher legislative intent behind the above provision. The phrase ‘intent of law’ has been used to merely describe the process of statutory interpretation. In fact, I would argue that the attempt to decipher legislative intent in the above instances is nothing except but second guessing legislative policy. It is best to understand the attempts by AAR/AAARs and CBIC as an attempt to clarify the meaning of the above provision through a process of interpretation. And nothing more.  

Advance Rulings are Decidedly Ambiguous   

The advance rulings – of AAR and AAAR – on the issue can be broadly grouped into two categories: one category has allowed ITC on demo vehicles, while the other category has disallowed it. An overview of both categories of advance rulings is below. 

In one ruling the Madhya Pradesh AAAR expressed its agreement with the AAR and held that the sale of demo vehicle in the subsequent year when depreciation has been charged shall be treated as sale of a second hand vehicle. It negatived the appellant’s contention that there was no time limit for ‘further supply’ of the demo vehicles under sub-clause (A) and that ITC should be available on sale of demo vehicle. AAAR’s emphasis was on the fact that demo vehicles are capitalised by the car dealer and serve a particular purpose for a limited period. Thereafter, the dealer sells the demo car as a second hand car. AAAR refused to engage with the appellant’s argument that the demo vehicles were used for further supply of such motor vehicles, and its focus on depreciation and capitalisation almost nudged the appellant to claim depreciation on the tax component under IT Act, 1961 instead of claiming ITC under GST laws. 

In another ruling, the Haryana AAAR expressed a similar opinion as the Madhya Pradesh AAAR and noted that sale of a demo vehicle is akin to sale of a ‘second hand good’ which is different from a new vehicle and it cannot be said that ‘demo vehicle is for further supply of such vehicles’. Haryana AAAR expressed the apprehension that: 

If the contentions of the applicant is allowed then in that case all the motor vehicles, irrespective of the nature of Supply will be eligible for ITC across the industries. It will no longer be a restricted clause for Car Dealers , but will be an open-clause for all the trade and industry to avail the ITC on all the Vehicles purchased by them. 

As per the Haryana AAAR, the legislative intent was to allow ITC on motor vehicles only in limited conditions such as when there is further supply of such vehicles. However, a demo vehicle is put to different uses and then sold as a second hand good making it ineligible to claim ITC. 

At the same time, other AARs have held that ITC is available on demo cars. Goa AAR, simply held that demo cars are an indispensable tool for providing a trial run to the customers and are used in the course or furtherance of business. Thus, ITC is available on demo cars whenever they are sold. The Bengal AAR, delved a bit deeper into the provision and clarified that claim for ITC under Section 17(5)(a)(A) is not time barred nor is it barred on the ground that the outer supply was made at a lower price than the purchase price. Interpreting the provision in a pointed fashion, the AAR opined that: 

In our considered opinion, the word ‘such’ as used in the expression ‘further supply of such vehicles’ relates to the vehicle only that was purchased. It is a fact that the condition of a demo vehicle at the time of its further supply might have undergone some deterioration from the spick and span condition in which it was at the time of its purchase. But that does not detract from the reality that the vehicle when supplied by a car dealer has ceased to be such vehicle that was purchased. (para 4.11)

The Bengal AAR clarified an important interpretive point which seems to have bypassed other AARs: whether the outward supply should be of the demo vehicle or other similar vehicles? Bengal AAR’s view was that used of the word ‘such’ qualifies and clarifies that outward supply has to be of the vehicle purchased, i.e., the demo vehicle. And the demo vehicle may have deteriorated due to its use by the car dealer, but it does not detract from the intent and scope of the provision. Kerala AAR also took a similar view and held that the demo vehicles are purchased for further supply and sale after their use for a certain period of time. Thus, the sale of such demo vehicles satisfies the requirement of ‘further supply of such vehicles’ as prescribed under Section 17(5)(A) and ITC is available on demo vehicles.  

The denial of ITC on sale of demo vehicles was premised their sale being comparable to second hand goods, the fact that they were capitalised in books of the car dealer while allowance of ITC was based on the fact that demo vehicles were used for furtherance of business and there was no express restriction on ITC even if the demo vehicles were used by the dealer before being sold. Except for the Bengal AAR, no advance ruling provided clarity or attempted to provide it by interpreting if the phrase ‘supply of such motor vehicles’ included only the demo vehicle or other motor vehicles that were sold by using the demo vehicle. To its credit, only CBIC engaged with this crucial interpretive issue in its Circular. 

CBIC Clarifies and Decodes ‘Intent of the Law’ 

CBIC has intervened to clarify the law on the point, since the rulings of various AARs and AAARs failed to provide any certainty and clarity. The Circular notes a few elemental points and clarifies a few crucial ones: 

First, the Circular notes a fairly obvious point: the intent of the law seems clear that based on the nature of outward supplies, ITC in respect of motor vehicles is blocked in several instances. 

Second, that sub-clauses (B) and (C) are inapplicable in situations involving sale of demo vehicles. And only clause (A) of the exception is relevant to determine if ITC can be claimed on sale of demo vehicles. Interpreting the expression ‘such motor vehicles’, the Circular states: 

… the usage of the words “such motor vehicles” instead of “said motor vehicle”, in sub-clause (A) of the clause (a) of section 17(5) of CGST Act, implies that the intention of the lawmakers was not only to exclude from the blockage of input tax credit, the motor vehicle which is itself further supplied, but also to exclude from the blockage of input tax credit, the motor vehicle which is being used for the purpose of further supply of similar type of motor vehicles. (Para 4.4) 

The Circular added that since demo vehicles are used by authorised dealers to provide trial runs to the customers, display features of the vehicle and help consumer purchase similar features, they can be considered by the dealer as being used for making ‘further supply of such vehicles’. Thus, ITC is available in respect of sale of demo vehicles. 

However, the Circular clarifies that when demo vehicles are used to transport employees/management, etc. ITC will be blocked. Equally, ITC will be blocked when the dealer merely uses the demo vehicle for advertising on behalf of the manufacturer and is not directly involved in the sale and purchase of the vehicles. Since in such cases, the invoice is issued by the manufacturer and sale of the vehicle is not made by the dealer on his own account. 

Finally, the Circular also clarified – what should have been obvious and a straightforward conclusion for AAR/AAARs – that capitalisation of demo vehicle in the books of the dealer does not affect the availability of ITC. Under Section 16 read with Section 17 of the CGST Act, 2017, ITC is available on both capital and non-capital goods as long as the goods are used in the course or furtherance of business. In clarifying the capitalisation aspect, CBIC through its Circular has effectively negated a line of inquiry adopted by certain AAR/AAARs that treated capitalisation of the demo vehicles as vital in determining if ITC is available on their sale. 

Conclusion 

The entire saga on availability of ITC on demo vehicles seems like much ado about nothing. The entire issue revolved around whether the demo vehicle can be included in the expression ‘further supply of such motor vehicles’, with the word ‘such’ being crucial. The Bengal AAR interpreted ‘such’ to only include the vehicle in question, while CBIC has adopted a comparatively wider approach and included vehicles purchased to make further supply of similar motor vehicles. Demo vehicles are now undoubtedly included in the expression. But, does this mean – an anxiety expressed by Haryana AAAR – that now ‘all vehicles’ purchased by a dealer could be included in the exception of sub-clause (A) and on all such vehicles ITC can be claimed? Unlikely. The proximate relationship of the purchased vehicle and further supply will need to be established to claim ITC, which can be easily done in case of demo vehicles. Establishing the same would be much tougher for ‘all other vehicles’ that a dealer may purchase. Thus, the anxiety of Haryana AAAR may turn out to be hollow. Or at least it should be unless AAR/AAARs decide to another unwanted twist to the issue.  

Finally, if the AAR/AAARs had kept the interpretive question narrow and focused on the words and expressions of Section 17(5)(a) that demanded an interpretation, we would have had better and perhaps coherent answers to the taxpayer’s queries. The tangents of sale of demo vehicles being akin to sale of second hand vehicles, and undue emphasis on capitalisation of the demo vehicles by AAR/AAARs prevented a more prudent answer from emerging through various advance rulings. Hopefully, we will witness better advance rulings going forward, at least on this issue which seems to have gained great clarity with the issuance of CBIC’s circular.  

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