GST

Long Wait for GSTATs: July 2017 … and Counting. 

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GSTATs have been envisaged as the first appellate forum under GST laws. And yet, 7.5 years since implementation of GST, not a single GSTAT is functioning. Reason? Many. Some are easy to identify, others are tough to understand. Nonetheless, here is a small story of the ill-fated GSTATs since the implementation of GST laws in July 2017. 

Provision is Declared Unconstitutional 

CGST Act, 2017, as originally enacted, provided that the no. of technical members in GSTATs would exceed the no. of judicial members. Both the Union and States wanted to ensure their representation on GSTATs via technical members which led to each GSTAT accommodating at least 2 technical members, i.e., technical member (Centre) and technical member (State). But CGST Act, 2017 provided for only one judicial member on the Bench of GSTAT. The Madras High Court ruled that the strength of technical members in tribunals cannot exceed that of judicial members, as per the law laid down by the Supreme Court. The relevant provision – Section 109(9) as originally enacted – was struck down as unconstitutional. There was a simultaneous challenge on the ground of Article 14 wherein the petitioners argued that under CGST Act, 2017 advocates were not eligible to become members of GSTATs and it violated their fundamental right to equality. The High Court refused to accept this plea and requested the Union to reconsider the ineligibility of advocates. Making advocates ineligible to become members of GSTAT is rather strange since a similar disqualification does not exist for ITATs under the IT Act, 1961.     

No Appeal Against the Decision  

The Union didn’t appeal against the Madras High Court’s decision. Surprising, since the Union likes to defend all its decisions including its interpretation of tax statutes until the last possible forum. Or perhaps in this instance the Union decided it was prudent to agree with the High Court’s decision. Or it wanted to use the High Court’s decision as a shield to defend the delay in operationalizing GSTATs. Irrespective, the Union’s decision to not file an appeal against the High Court’s decision meant it had to explore options to operationalize the GSTATs. During 2019-2021, the GST Council did discuss the options and feasibility of GSTATs in various States and the required no. of Benches, but the discussions didn’t prove to be immediately fruitful. One possible option of breaking the logjam was by amending the respective provision of CGST Act, 2017. 

Provisions are Amended 

The Finance Act, 2023 amended the provisions relating to composition of GSTATs. Below are the relevant provisions before amendment and post-amendment respectively: 

Pre-Amendment

Section 109(3):

The National Bench of the Appellate Tribunal shall be situated at New Delhi which shall be presided over by the President and shall consist of one Technical Member (Centre) and one Technical Member (State). 

Section 109(9): 

Each State Bench and Area Benches of the Appellate Tribunal shall consist of a Judicial Member, one Technical Member (Centre) and one Technical Member (State) and the State Government may designate the seniormost Judicial Member in a State as the State President. 

Post-Amendment 

Section 109(3): 

The Government shall, by notification, constitute a Principal Bench of the Appellate Tribunal at New Delhi which shall consist of the President, a Judicial Member, a Technical Member (Centre) and a Technical Member (State). 

Section 109(4): 

On request of the State, the Government may, by notification, constitute such number of State Benches at such places and with such jurisdiction, as may be recommended by the Council, which shall consist of two Judicial Members, a Technical Member (Centre) and a Technical Member (State). 

In summary, the amendments via the Finance Act, 2023 have ensured that the no. of judicial members are equal to technical members, if not more. This is because the President of GSTAT is usually the senior most judicial member. The balance of judicial and technical members needed to be met on two fronts: ensuring balance of representation between the Union and States inter-se needs and the balance between judicial and technical side to avoid executive domination. Now that the initial hurdle to constitute GSTATs was officially removed via Finance Act, 2023, one would have expected speedy and decisive steps towards constitution of GSTATs. But that wasn’t the case.  

Benches, Chairperson, Website … and Other Puny Steps 

Since the provisions relating to GSTATs have been amended, the Union has taken multiple – but tiny – steps towards operationalizing the GSTATs. With each step, the tax community has raised its hopes for quick operationalization of GSTATs. But each step seems a step too far. 

In May 2024, the Minister of Finance administered oath to the first President of GSTAT, New Delhi. Since GSTATs are not yet operational and do not hear cases, I’m not sure what the President of GSTAT does to earn his salary.  

In July 2024, in another step forward, the Ministry of Finance notified various Benches of GSTATs, with the Principal Bench in New Delhi. 

Recently, the tax community was rejoicing at GSTATs having a dedicated website. It is hard for me to understand the joy of having a functional website for an institution that itself isn’t functional. And the purpose of having a website is difficult to comprehend due to a recent report in January 2025, mentioning that GSTATs will take another 6 months to begin their functioning. When the formalities for appointing personnel have not completed, IT infrastructure is yet uncertain, and real estate for GSTATs has not been finalized, even 6 months seem like an ambitious target. Especially due to the track record of the Union and States on this aspect of GST.  

Constitutional Courts are Impatient  

Since GSTATs, ideally the first appellate forum for GST-related disputes, are not functioning, the burden has shifted to constitutional courts. High Courts and the Supreme Court end up hearing matters that typically should not have received attention beyond GSTATs. Supreme Court has recognized the effect of not having GSTATs and has recently raised the following query in one of its orders:

We would like to first know at the earliest why the Goods and Services Tax Appellate Tribunal has not been made functional till this date.  

The Union is supposed to reply to the above query in three weeks, but do not expect any fireworks and new revelations. 

Supreme Court’s question was prompted after it noted that the petitioner had the remedy to file an appeal under CGST Act, 2017 but had to approach the High Court via writ petition due to GSTATs not functioning. Many such cases that did not deserve or should not have been heard by High Courts and Supreme Court are currently in limbo because these constitutional courts do not have the advantage of GSTATs judgments and fact finding.   

Previously, the Allahabad High Court also tried to make the Union act quickly. But, despite the High Court’s eagerness to constitute GSTATs in the State of UP, there wasn’t much headway. 

Additionally, GSTATs are necessary to ensure harmony in interpretation and coherence in jurisprudence which has, for a long time, been at the mercy of AARs and AAARs. Both are intended to be interpretive bodies, not dispute resolution bodies but their several sub-par interpretations have caused tremendous confusion on various matters.

To conclude, I cannot say for sure when GSTATs will start functioning, but it is imperative that they do. And they function efficiently. A reform such as GST cannot be truly called a bold or a transformative reform until the accompanying rule of law infrastructure is operational. And GSTATs are a vital cog of that infrastructure. Until then, GST has certainly transformed the landscape of indirect tax in India. But, the promise of fair and speedy resolution of disputes remains a distant and unfulfilled promise.  

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. 

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.   

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.  

Single Administrative Interface under GST: Identifying Two Rough Patches  

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GST is a dual nationwide tax implying that both the Union and States concurrently levy it on supply of goods or services. While a single indirect tax jointly administered by the Union and States is supposed to augur well for ease of doing business and improve other economic efficiencies, it also requires demarcating administrative responsibilities to prevent the taxpayer from being subjected to proceedings by two different authorities. One such issue is demarcating and assigning tax base to tax authorities of the Union on one hand and the States/Union Territories on the other. GST laws anticipated overlap of tax administration in a dual tax such as GST and incorporated a specific provision – Section 6, CGST Act and Section 6 in SGST Act/UTGST Acts to prevent taxpayer harassment.  

Section 6, CGST Act, 2017 is pari materia with SGST and UTGST and provides for the following: 

First, officers appointed under SGST and UTGST Acts are authorized to be proper officers for purposes of CGST Act as well; 

Second, where a proper officer issues an order under CGST Act he shall also issue an order under the SGST or UTGST Act under intimation to the jurisdictional officer of State tax or UT tax. 

Third, where a proper officer under the SGST Act or UTGST Act has initiated any proceedings on a subject matter, no proceedings shall be initiated by the proper officer under CGST Act on the same subject matter. 

Finally, any proceedings for rectification, appeal, and revision, wherever applicable, of any order passed by an officer under CGST Act shall not lie before an officer appointed under the SGST Act or UTGST Act.        

While the cross empowerment of officials is a sound policy encoded in Section 6, there are two dominant uncertainties that prevail in the interpretation and implementation of the impugned provision: first, is the meaning and scope of the term ‘intelligence-based’ enforcement action’; second, is the implication of the term ‘proceedings on the subject matter’. The former term is not used in Section 6 but is proving to be crucial in allocation of tax administrative responsibilities. I will discuss the uncertainties that revolve around both phrases.   

Intelligence-Based Enforcement Action 

The 9th GST Council meeting discussed the issue of cross empowerment of tax officials under GST. There was detailed discussion on the issue of allocation of tax base as per turnover of the taxpayer, powers relating to audits, and issues relating to administration of IGST. In so far as is relevant to the current discussion, the GST Council agreed that:

Of the total number of taxpayers below Rs. 1.5 crore turnover, all administrative control over 90% of the taxpayers shall vest with the State tax administration and 10% with the Central tax administration; 

In respect of the total number of taxpayers above Rs. 1.5 crore turnover, all administrative control shall be divided equally in the ratio of 5O% each for the Central and the State tax administration; (para 28)

In view of the same, the CBIC issue a Circular reiterating the same as well as prescribing broad guidelines for computing turnover of the taxpayers.  

Apart from the above division of tax base to smoothen administration of GST, there was another agreement reached in the GST Council, i.e., both the Union and State administrations shall have the power to take ‘intelligence-based enforcement action’ across the entire value chain. The import of the GST Council’s above decision was clarified via a letter issued on 05. 10. 2018. Two important things that were clarified through the letter were:

First, that irrespective of assignment of taxpayer base as per turnover, both the Union and State are empowered to initiate intelligence-based enforcement action on the entire tax base which includes entire process of investigation, issuance of SCN, recovery, appeal, etc. 

Second, it added that:

If an officer of the Central tax authority initiates intelligence based enforcement action against a taxpayer administratively assigned to State tax authority, the officers of Central tax authority would not transfer the said case to its Sate tax counterpart and would themselves take the case to its logical conclusions. (para 4)  

The initial allocation of taxpayer base is thus subject to intelligence-based enforcement action, and once the latter is initiated by any authority it will retain the jurisdiction over that particular taxpayer and take the case to its logical conclusion.   

Reading both the above legal instruments alongside minutes of the 9th GST Council meeting clarify the division of taxpayer base amongst the State and Union tax officers, but the term ‘intelligence-based enforcement action’ adds a layer of uncertainty. To what extent and what action exactly amounts to such an ‘intelligence-based action’ remains unclear. The phrase indicates that the action is based on some information obtained by tax officers and not a random scrutiny of taxpayer. But, the scope and limit of the phrase needs a more precise understanding which is currently lacking. And the same will, hopefully, be available as the jurisprudence on the issue develops.  

‘Proceedings’ on Same ‘Subject-Matter’  

The other prong of uncertainty is if a taxpayer can be subjected to proceedings on the same subject matter by two different authorities – at the Union and State level. Section 6(2)(b) states:  

            … where a proper officer under the State Goods and Services Tax Act or the Union Territory Goods and Services Tax Act has initiated any proceedings on a subject matter, no proceedings shall be initiated by the proper officer under this Act on the same subject matter.  (emphasis added) 

While Section 6(2)(b) uses the phrases ‘proceedings’ and ‘subject matter’, they are not defined under GST laws. Courts in certain cases have attempted to unravel the meaning of the two terms ‘proceedings’ and ‘subject-matter’. The most prominent attempt was by the Allahabad High Court in GK Trading case where the petitioner’s contention was that once the Deputy Commissioner, Ghaziabad has conducted survey of its business premises and is investigating the matter pursuant to the survey, the issuance of summons by another authority – DGGSTI, Meerut – under Section 70 of CGST Act, 2017 is barred by Section 6(2)(b).

The Allahabad High Court relied on previous judicial decisions – largely unrelated to GST – to conclude that the term ‘inquiry’ used in Section 70, under which summons were issued and the term ‘proceedings’ used in Section 6(2)(b) had different meanings. The High Court noted that the term ‘inquiry’ under Section 70 was limited to requiring the presence of a person to produce evidence or documents and cannot be intermixed with steps that may ensue on conclusion of the inquiry. Noting that words ‘proceeding’ and ‘inquiry’ are not synonymous, the High Court held that: 

The word “proceedings” used in Section 6(2)(b) is qualified by the words “subject-matter” which indicates an adjudication process/ proceedings on the same cause of action and for the same dispute which may be proceedings relating to assessment, audit, demands and recovery, and offences and penalties etc. These proceedings are subsequent to inquiry under Section 70 of the Act. (para 17) 

The above observation implies that the power of inquiry under Section 70 – and issuance of summons – can be invoked against a taxpayer even if proceedings have been initiated by another tax authority, but the steps subsequent to inquiry cannot be taken if proceedings are underway. What is the point of inquiry if Section 6(2)(b) bars the inquiry authority to take steps subsequent to an inquiry? The answer is unclear, and the High Court does not delve into the issue, and rightly so. Nonetheless, the High Court’s strict interpretation of the relevant statutory provisions ensure that the bar under Section 6(2)(b) has been interpreted in a strict fashion, but the implications of the High Court’s interpretation will only become clear in due time.   

Conclusion 

On both the above discussed issues, single-interface GST administration is likely to remain in a state of flux. Given that ‘intelligence-based enforcement action’ is a phrase of uncertain scope and the words ‘proceedings’ and ‘subject-matter’ are not defined under the GST Acts, the tax officers are likely to interpret in differing manner and as per the facts of each case. While the Allahabad High Court has tried to demarcate the scope of latter, and to some extent succeeded, the meaning of the phrase ‘intelligence-based enforcement action’ remains even more elusive. And we are likely to witness some disputes over the same.     

Yin-Yang Nature of ITC and Supplier-Purchaser Obligations

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In a recent decision, the Kerala High Court upheld constitutionality of Section 16, CGST, 2017, specifically Section 16(2)(c) which restricts the ITC of a purchasing dealer (‘purchaser’) if the supplier has not remitted tax collected from the purchaser to the Government. The decision examines validity of the conditions to claim ITC under Section 16(2)(c) and Section 16(4). In this article, I examine the only the former by headlining two under-examined aspects of ITC: first, nature of ITC as a right/concession; second, the reliance of purchaser on supplier to claim ITC. Both aspects influence each other and in turn the success or otherwise of claims related to ITC. The issue relating to time limit for claiming ITC under Section 16(4) – though an influential part of the judgment – will be subject of a separate post.   

ITC: Right or a Concession? 

One of petitioner’s contention before the Kerala High Court was that ITC is a right of the purchaser and not a concession given by the Government. And since ITC is a property of the purchaser, denying the same for supplier’s default to remit tax is violative of purchaser’s right to property under Article 300A of the Constitution. The State countered the purchaser’s argument and argued that ITC is a concession granted by the State to avoid cascading effect of taxes, and the State can impose such restrictions as it deems fit to restrict taxpayer’s claim for ITC.

In deciding the true nature of ITC, and whether it is a right or a concession, the Kerala High Court gave an unambiguous conclusion that: 

The Input Tax Credit is in the nature of a benefit or concession extended to the dealer under the statutory scheme. Even if it is held to be an entitlement, this entitlement is subject to the restrictions as provided under the Scheme or the Statute. The claim to Input Tax Credit is not an absolute right, but it can be said that it is an entitlement subject to the conditions and restrictions as envisaged in Sections 16(2) to 16(4), Section 43, and Rules made thereunder. (para 71) (emphasis added)

The Kerala High Court cited a slew of precedents that aligned with its conclusion. The language here is noteworthy: the High Court is clearly leaning in favor of ITC being a concession and not a right, though it says it is not an ‘absolute right’. What does it mean? It can imply that either ITC is a limited right and can be subject to certain conditions by the State. Or that ITC is not a right but a concession. The latter seems more likely, but it is not clear. But does the distinction matter? If ITC is a taxpayer’s right, then it imposes a greater burden on the State before curtailing it. While conceptualizing ITC as a concession provides the State a comparatively wide leeway to impose conditions before allowing a taxpayer to claim ITC. If the policy decision of providing taxpayers of claiming ITC is a concession from inception, then even onerous restrictions on such claims are within the State’s remit. And a taxpayer needs to fulfil the conditions – onerous or otherwise – to successfully claim ITC since there is no vested right to claim ITC. The State has extended a concession on certain conditions and to avail the concession, the taxpayer needs to fulfil the prescribed conditions.  

In abstract, there are no easy answers if ITC is a concession or a right, though I’ve suggested elsewhere that if we bifurcate the stages of ITC: first stage involving claim of ITC and then the latter stage of utilizing ITC, there is room to suggest that ITC should be understood as one or the other depending on which stage is relevant to the case at hand. But a broad approach that ITC is a concession, irrespective of whether it is the stage of claiming of ITC or its utilization may not be the best way to answer this dilemma. The Kerala High Court does mention that GST laws contemplate four stages vis-à-vis ITC but didn’t co-relate it to the issue of nature of ITC. (para 11)  

Finally, it never was the purchaser’s claim that ITC is an absolute right. The purchaser’s claim was that if the conditions prescribed under the statutory provisions and rules have been fulfilled by the purchaser, then ITC transforms into its right, and denial of the same amounts to violation of right to property. By dismissing the argument by characterizing it as a claim for an absolute right, the Kerala High Court did not to do justice to the petitioner’s claim. Also, the core question before the High Court was whether the onerous conditions such as those prescribed under Section 16(2)(c) and Section 16(4), place all purchasers – bona fide and those colluding with suppliers – in a similar category and thereby violate Article 14 of the Constitution. The High Court’s analysis of the arguments relating to Article 14 was bereft of a comprehensive analysis as I elaborate in the section below.      

Purchaser’s Reliance on Supplier 

Section 16(2)(c) states that no person shall be entitled to claim ITC unless the tax charged in respect of such supply has been actually paid to the Government either in cash or utilization of ITC admissible in respect of such supply. This condition translates into the supplier filing their monthly return – GSTR-1 – indicating its outward supplies for the month. The information in the said return will auto-populate a return of the purchaser – GSTR-2A – which will indicate the inward supplies of the purchaser. The latter informs the purchaser’s claim for ITC. As is understandable, the purchaser is dependent on the supplier filing GSTR-1 accurately and in a timely fashion to enable it to claim ITC.

The purchaser’s argument was that GSTR-2A is a dynamic, read-only document, and is merely a facilitation document. And if certain purchases are not reflected in GSTR-2A, then it cannot be the basis of denial of ITC. The purchaser argued that if it possesses all the documents listed in Rule 36, CGST Rules, 2017, i.e., tax invoice, proof payment, actual receipt of goods then it should be presumed to have discharged the burden of genuineness of its ITC claim. Also, the purchaser cannot be burdened to ensure that the supplier has remitted the tax as it an impossible condition to fulfil for the purchaser. In the absence of purchaser lacking the resources to force a supplier to remit the tax, the doctrine of impossibility should be applicable. And since Section 16(2)(c) prescribes an impossible condition, it should be held as unconstitutional.  

The purchaser’s final argument vis-à-vis Section 16(2)(c) was that the provision treats bona fide purchasers similarly as purchasers that collude with suppliers to fraudulently claim ITC thereby being violative of Art 14. The purchaser’s claim was that denial of ITC to bona fide purchaser for supplier’s default in tax payment was arbitrary and irrational exercise of power. The purchaser also made an alternative argument that Section 16(2)(c) should restrict its ITC only if mala fide on its part was established. And that purchaser’s ITC should not be blocked if it has all the documentary evidence and by extension a prima facie proof of its bona fide intent and transaction.   

State’s defence of making the purchaser’s claim of ITC dependent on supplier’s payment of tax was as follows: the State argued that ITC ‘crosses State borders’. The supplier in originating State USES SGST/CGST credits of IGST collected from the purchaser and the latter will discharge output liability by claiming SGST/CGST credits of the IGST paid to the supplier. The originating State and the Union are under an obligation under Section 53, CGST Act, 2017 to transfer the CGST/SGST component utilized by the supplier and make it available to the destination State, since GST is a destination-based tax. The State’s claim was that if the supplier defaults in remitting the tax, but purchaser it allowed to claim ITC based on invoice, the originating State would have transferred tax to destination State without the former having received the tax. 

The purchaser raised some important and vital Constitutional arguments, but the Kerala High Court’s summary analysis was a complete endorsement and replication of the State’s argument and it concluded that: 

Considering the aforesaid scenario, without Section 16(2)(c) where the inter-state supplier’s supplier in the originating State defaults payment of tax (SGST+CGST collected) and the inter-state supplier is allowed to take credit based on their invoice, the originating State Government will have to transfer the amounts it never received in the tax period in a financial year to the destination States, causing loss to the tune of several crores in each tax period. (para 83)

The Kerala High Court added that: 

… this renders the whole GST laws and schemes unworkable. Therefore, as contended, the conditions cannot be said to be onerous or in violation of the Constitution, and Section 16(2)(c) is neither unconstitutional nor onerous on the taxpayer. (para 84)

The Kerala High Court dismissed the Constitution and fundamental rights-based arguments by agreeing to the State’s argument about administrative workability of the GST. But the High Court never seriously engaged with the argument if Section 16(2)(c) places a bona fide purchaser in the same category as a purchaser who colludes with a supplier to claim ITC fraudulently. The two categories of purchasers, prima facie, constitute two different categories. Neither was the ‘doctrine of impossibility’ squarely addressed by the High Court. How can a purchaser ensure that the supplier remits GST to the State? The purchaser can, ordinarily speaking, pay the tax to the supplier and ensure it has adequate proof of the payment. Persuading or forcing the supplier to remit the tax to the State in a timely and proper fashion isn’t or shouldn’t be the purchaser’ task. 

There is precedent – in pre-GST laws – that mandates payment of tax by the supplier before the purchaser can claim ITC. Legality apart, what is the policy driving enactment of such provisions? State wants to be secure about its revenue. State’s objective is to obtain tax from the supplier before it provides purchaser ITC on tax paid to the supplier. Documentary evidence of the supply of goods/services and payment of tax is insufficient to provide ITC. The reason is that, at times, the purchaser and supplier collude to make bogus transactions and claim ITC fraudulently. The fear or perhaps experience of allowing bogus ITC claims has resulted in making a statutory provision that places an onerous burden on the bona fide purchasers too. But the Courts have – until now – not engaged in a serious analysis if this similar treatment of all kinds of taxpayers violates Article 14 and whether it amounts to reasonable restriction under Article 19(6).    

Conclusion The Kerala High Court’s decision follows a burgeoning body of judicial precedents that have termed ITC as a concession and subject to statutory conditions. And yet Courts have not been able to cogently analyze as to why ITC cannot, under certain conditions, be termed as a right and not a concession. Neither have the Constitutional arguments based on Fundamental Rights been examined in any methodological fashion. While one may – and it seems to be increasingly the case – may become familiar with provisions imposing onerous demands on taxpayers to successfully claim ITC, it not a certificate of their constitutionality. Neither do the legality of such provisions provide them a stamp of good tax policy. Securing revenues for itself is certainly one of the goals of the State, but tax laws cannot and should not be so designed that they impose increasingly burdensome conditions on the taxpayers before they can claim ITC or similar such benefits under a tax statute.    

Powers of Arrest under GST: Unravelling the Phrase ‘Committed an Offence’

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CGST Act, 2017 provides the Commissioner power to arrest under specific circumstances. Section 69, CGST Act, 2017 states that: 

Where the Commissioner has reasons to believe that a person committed any offence specified in clause (a) or clause (b) or clause (c) or clause (d) of sub-section (1) of section 132 which is punishable under clause (i) or (ii) of sub-section (1), or sub-section (2) of the said section, he may, by order, authorise any officer or central tax to arrest such person. (emphasis added)   

There are several aspects of the power to arrest under GST that were and are under scrutiny of courts. For example, scope and meaning of the phrase ‘reason to believe’ remains open-ended even though the same phrase has a long standing presence under the IT Act, 1961. In this post, I will focus on judicial understanding of the phrase ‘committed an offence’ and its implication. Similar phrase and powers of arrest were provided in pre-GST laws as well, e.g., under Finance Act, 1994 which implemented service tax in India. Section 91, Finance Act, 1994 provided that: 

If the Commissioner of Central Excise has reason to believe that any person has committed any offencespecified in clause (i) or clause (ii) of section 89, he may, by general or special order, authorise any officer of Central Excise, not below the rank of Superintendent of Central Excise, to arrest such person. (emphasis added)     

The tenor and intent of both the above cited provisions is similar. The power to arrest has been entrusted to a relatively senior officer, who must have a ‘reason to believe’ that the person in question has ‘committed an offence’. Courts have made divergent observations on the meaning of the phrase ‘committed an offence’. Typically, a person is said to have committed an offence under a tax statute once the adjudication proceedings are completed and the quantum of tax evaded/not deposited is determined by the relevant tax authority after receiving a statement from the accused. In some cases, the tax officers have been found wanting in patience and have initiated arrests without completing the adjudication proceedings of establishing commission of an offence. Courts have made certain observations on the validity and permissibility of such a course of action.  

Pre-GST Interpretation 

There are two broad ways to interpret the above arrest-related provisions vis-à-vis commission of offence. First, the officer in question is in possession of credible material which provides it a ‘reason to believe’ that a taxpayer or other person has committed the offence(s) in question. In such a situation, the officer can authorise arrest of such person without completing the adjudication proceedings. Second, the officer’s reason to believe cannot – by itself – trigger powers of arrest, but the adjudication proceedings need to be completed to ascertain the amount of tax payable. The adjudication proceedings typically require issuance of a showcause notice to the taxpayer, and on receiving representation from the taxpayer the proceedings are completed by issuance of an order/assessment determining the tax payable by such person. Arrests can only happen once the adjudication proceedings have been completed and quantum of tax payable has been determined. The Delhi High Court – interpreting the relevant provisions of Finance Act, 1994 – in MakemyTrip case affirmed that the latter constituted the position of law and stated that authorities cannot without issuance of a showcause notice or enquiry or investigation arrest a person merely on the suspicion of evasion of service tax or failure to deposit the service tax collected. The High Court added: 

Therefore, while the prosecution for the purposes of determining the commission of an offence under Section 89 (1) (d)of the FA and adjudication proceedings for penalty under Section 83 A of the FA can go on simultaneously, both will have to be preceded by the adjudication for the purposes of determining the evasion of service tax. The Petitioners are, therefore, right that without any such determination, to straightaway conclude that the Petitioners had collected and not deposited service tax in excess of Rs. 50 lakhs and thereby had committed a cognizable offence would be putting the cart before the horse. This is all the more so because one consequence of such determination is the triggering of the power to arrest under Section 90 (1) of the FA. (para 78)

The only exceptions to the above rule as per the High Court was that if the taxpayer is a habitual offender, doesn’t file the tax returns on time and has a repeated history of defaults. The Supreme Court, in a short order, upheld and endorsed the Delhi High Court’s interpretation of the law. Various other courts, such as the Bombay High Court in ICICI Bank Ltd case, also took the view that adjudication proceedings should precede any coercive actions by tax officers.       

Courts in the above cases seem to be guided by at least two things: first, that the powers of arrest and recovery of tax are coercive actions and shouldn’t be resorted to in a whimsical fashion; second, establishing the ‘commission of an offence’ can only happen through adjudication proceedings and not based on opinion of the relevant officer, even if the opinion satisfies the threshold of ‘reason to believe’. Insisting on completion of adjudication proceedings also ensures that the ingredient of ‘commission of an offence’ prescribed in the provision is satisfied. Again, this is for the simple reason that an officer’s reason to believe that an offence has been committed is not the same as establishing that an offence has been committed in adjudication proceedings. The latter also provides the accused an opportunity to respond and make their representation instead of directly facing coercive action. 

Rapidly Swinging Pendulum under GST

Similar question has repeatedly arisen under GST, with no satisfactory answer one way or the other. While some High Courts have relied on the MakemyTrip case, others have suggested otherwise. The contradictory opinions can be highlighted by two cases. In Raj Punj case, the Rajasthan High Court deciding a case involving false invoices and fake ITC held that the petitioner’s contention that tax should be first determined under Sections 73 and 74 of CGST Act, 2017 does not have any force and the Department can proceed straightaway by issuing summons or if reasonable grounds are available by arresting the offender. (para 21) The High Court curiously added that determination of tax is not required if an offence is committed under Section 132, CGST Act, 2017. The observation is curious because Section 132(l), CGST Act, 2017 clearly links the penalty and imprisonment to the amount of tax evaded or amount of ITC wrongfully availed.  

The Madras High Court in M/s Jayachandran Alloys (P) Ltd case though had a different opinion. The High Court held that use of the word ‘commits’ in Section 132, CGST Act, 2017 made it clear that an act of committal of an offence had to be fixed before punishment was imposed. And that recovery of excess ITC claimed can only be initiated once it has been quantified by way of procedure set out in Sections 73 and 74 of the CGST Act, 2017. The High Court endorsed the approach and interpretation adopted in the MakemyTrip case and added that its view was similar in that an exception to the procedure of assessement is available in case of habitual offenders. 

What is the reason for invoking arrest powers before completing adjudication proceedings? Various. First, the Supreme Court’s observations in Radheshyam Kejriwal case that criminal prosecution and adjudication proceedings can be launched simultaneously, and both are independent of each other. While the Supreme Court was right in noting that both proceedings are independent of each other, it did not specifically opine on the inter-relation of adjudication proceedings and arrest. Second, if there is reason to believe that a large amount of tax has been evaded, arrests are justified by tax officers by arguing that they are necessary for protection of revenue’s interest. Third, evidentiary or other reasons can be invoked as failure to arrest the suspects may lead to destruction of evidence of tax evasion. And various other reasons that can be clubbed under the broader umbrella of expediency and revenue’s interest. The exceptions will always be recognized – as in the MakemyTrip case – the question is the boundary and scope of such exceptions tends to be malleable and there is little that can be done to address the issue.     

Way Forward 

The Supreme Court is currently seized of the matter involving scope of the powers of arrest under GST. While I’m unaware of the precise grounds of appeal before the Supreme Court, the issues broadly involve the scope of powers of arrest, pre-conditions for invoking the powers of arrest, the exceptions, and possibility of the misuse of powers of arrest. The latter have been indirectly acknowledged and ‘Guidelines’ have been issued, exhorting officers not invoke powers of arrest in a routine and mechanical manner. And only make arrest where ‘palpable’ guilty mind is involved. There is empirical data – yet – that can establish the efficacy or otherwise of the guidelines. And Supreme Court may enunciate its own set of guidelines in its judgment. But, as the cliché goes, the proof pudding is in its eating. Powers of arrest are necessary to create the necessary deterrent effect: minimize and detect tax evasion. At the same time, frequent resort to coercive powers under a tax statute adversely affects business freedoms. The balancing act is tough to achieve. I’ve written elsewhereabout the uncertainty that bedevils this area of law, and I suspect little is going to change in the instantly. Supreme Court’s judgment may provide a guiding light, but one should temper one’s expectations and not hope for a magic wand that may, at once, resolve a tricky issue.    

Tax Treatment of Mandatory CSR: Alignment of CGST Act, 2017 and IT Act, 1961

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In this article, I elaborate on one of the several changes introduced by Finance Act, 2023 to CGST Act, 2017. Section 17, CGST Act, 2017 was amended via Finance Act, 2023 to clarify that the goods or services or both used to comply with mandatory CSR obligations, i.e., CSR obligations under Section 135, Companies Act, 2013, would not be eligible for Input Tax Credit (‘ITC’). The amendment sought to achieve two objectives: first, it clarified law on a point which attracted contradictory opinions by authorities for advance rulings (‘AARs’); second, it tried to ensure that the tax treatment of mandatory CSR activities under CGST Act, 2017 aligns with that of IT Act, 1961. I suggest that while the former objective may have been fulfilled, the latter remains questionable since the tax policy vis-à-vis mandatory CSR is itself confusing under IT Act, 1961.  

Confusion to Clarity: ITC on Mandatory CSR Activities

Section 16, CGST Act, 2017 states that a registered person shall be entitled to ITC charged on any supply of goods or services or both ‘which are used or intended to be used in the course or furtherance of his business’ and the said amount shall be credited to the electronic ledger of the person. As regards CSR, AARs were confronted with the question if CSR activities undertaken by a registered person should be understood ‘in the course of business’.   

In Re: M/s Dwarikesh Sugar Industries Limited the applicant wished to know if it can claim ITC on expenses incurred to fulfil its mandatory CSR obligations. AAR endorsed the interpretation adopted in a pre-GST case, i.e., Essel Propack case and noted that since the applicant was ‘compulsorily required to undertake CSR activities in order to run its business’, CSR activities should be treated as incurred ‘in the course of business.’ (para 12) AAR emphasised the compulsory nature of CSR and reasoned that it should not be equated with gift, since the latter had a voluntary element.

In Re: M/s Adama India Pvt Limited the applicant relied on Re: M/s Dwarikesh Sugar Industries Limited and Essel Propack case to support the contention that ITC on its mandatory CSR activities should not be blocked. Curiously, AAR did not examine scope of the term ‘business’ or ‘in the course of business’ used in CGST Act, 2017, but instead relied on the Companies (CSR Policy) Rules, 2014 which defined CSR activities undertaken by a company to not include activities undertaken in pursuance of the normal course of business. But the definition of CSR under these Rules has a different purpose and context. And reliance on Companies (CSR Policy) Rules, 2014 would be understandable if the term ‘business’ was not defined or was unclear under CGST Act, 2017. Section 2(17), CGST Act, 2017 contains an elaborate definition of business to which AAR paid no attention.  

In Re: M/s Adama India Pvt Limited, AAR also refused to refer to Essel Propack case reasoning that it was decided under pre-GST laws, but strangely it considered Companies (CSR Policy) Rules, 2014 as relevant to GST. While it may be reasonable to suggest that cases decided under pre-GST regime (in this case excise law regime) need not always be applicable in the GST regime; but, such a line of argument would only be persuasive if there was a marked difference in the applicable provisions in pre-GST and GST laws, which wasn’t the case as far the impugned issue was concerned. Even so, AAR should have examined the scope of ‘business’ under CGST Act, 2017 and the nature of mandatory CSR activities instead of referring to other legislative sources.   

In Re: M/s Polycab Wires Private Limited, Kerala AAR held that goods distributed by the applicant for free – and shown as CSR expenses – were not eligible for ITC under Section 17(5)(h), CGST Act, 2017. While AAR did not state it expressly, it seemed to equate the applicant’s free distribution of goods – as part of its CSR Activities – to gift or free samples. While for the latter, ITC is expressly blocked under Section 17(5)(h), CGST Act, 2017, it was an error to equate gifts and free samples with goods distributed under the CSR initiative. The applicant distributed goods at the request of Kerala State Electricity Board and thus, it was not entirely out of the applicant’s volition nor was it a compulsory CSR activity under Companies Act, 2013. AAR avoided the tough question on how to best classify the impugned CSR activity.

Thus, as is evident, AARs were struggling to adopt convincing reasoning and were arriving at different conclusions regarding eligibility of taxable persons to claim ITC on their CSR activities. Nor were they meaningfully distinguishing between mandatory and voluntary CSR activities.  

Ostensibly, to clear the confusion caused by contradictory advance rulings, Section 139, Finance Act, 2023 introduced the following clause to Section 17(5), CGST Act, 2017:

(fa) goods or services or both received by a taxable person, which are used or intended to be used for activities relating to his obligations under corporate social responsibility referred to in section 135 of the Companies Act,2013; 

Section 17(5), CGST Act, 2017 enumerates the situations in which ITC is blocked, and the insertion of above clause in Section 17(5), CGST Act, 2017 means that goods or services or both used to fulfil mandatory CSR obligations will not be eligible for ITC.. And to this extent, the law on ITC vis-à-vis mandatory CSR activities is sufficiently clear post the enactment of Finance Act, 2023. 

Clarity to Confusion: Mandatory CSR under IT Act, 1961

Blocking ITC for mandatory CSR via Section 17(5)(fa), CGST Act, 2017 superficially aligns with the tax treatment of mandatory CSR under IT Act, 1961. Section 37, IT Act, 1961 states that any expenditure – not being an expenditure of the nature described in Sections 30 to 36 – laid out or expended wholly and exclusively for the purpose of business or professions shall be allowed in computing the income chargeable under the head ‘Profits and gains of business or profession’. Section 37, IT Act, 1961 is a residual provision and allows an assessee to claim expenditure if some of the expenditure does not meet the requirements under specific heads, from Sections 30 to 36 of IT Act, 1961. The primary requirement under Section 37, IT Act, 1961 being that the expenditure should be for the purpose of business or profession. However, Explanation 2 to Section 37 clarifies that:

For the removal of doubts, it is hereby declared that for the purposes of sub-section (1), any expenditure incurred by an assessee on the activities relating to corporate social responsibility referred to in section 135 of the Companies Act, 2013 (18 of 2013) shall not be deemed to be an expenditure incurred by the assessee for the purposes of the business or profession. 

The above Explanation to Section 37 expressly disallows an assessee from claiming deductions on expenses incurred in fulfiling mandatory CSR obligations. 

However, the confusion on mandatory CSR expenses and IT Act, 1961 is two-fold: first, if mandatory CSR expenses satisfy the requirements of Sections 30 to 36, an assessee can claim deductions. This implies that there is no across the board bar on claiming mandatory CSR expenses under the IT Act, 1961 but the prohibition is only under Section 37 resulting in an uneven tax treatment of mandatory CSR IT Act, 1961; second, Section 80G states that an assessee cannot claim deductions if the mandatory CSR money is contributed to the Clean Ganga Fund or the Swach Bharat Kosh Fund. There is no express prohibition against mandatory CSR money contributions to any other fund listed under Section 80G creating a confusion about the objective of partial disallowance for only two funds.   

Conclusion

It is evident that the State does not view mandatory CSR activities as integral to or in the course or furtherance of business for tax purposes. The introduction of Section 17(5)(fa), CGST Act, 2017 reinforces the deeming fiction previously incorporated under Explanation 2, Section 37, IT Act, 1961. As far as these two provisions are concerned, mandatory CSR is not treated as an activity in the course or furtherance of business. The issue is partial bar against mandatory CSR expenses under IT Act, 1961. The limited scope of bar under both provisions – Section 80G and Section 37 only – raises the question as to why mandatory CSR is treated as business expense under other provisions. Reflection of a confused tax policy as far as IT Act, 1961 is concerned. 

Finally, the reasons for denying tax benefits for mandatory CSR activities seem to be rooted in the State’s conception of CSR activities as a backstop to its own welfare measures. And since the denial of tax benefits is limited only to mandatory CSR activities, there is room to suggest that the State does not wish to ‘subsidise’ only some CSR activities, as tax benefits are not denied to voluntary CSR activities. ITC is not blocked for voluntary CSR activity neither is deduction of expenses barred – even partially – for voluntary CSR. Creating a ‘two-track’ tax policy vis-à-vis CSR expenses.      

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