Sales Tax on sale portion in works contract - a peep into litigation history
IN Gannon Dunkerley-I, decided on 1.4.1958, the Supreme Court held that in a building contract which is one, entire and indivisible there is no sale of goods, and it is not within the competence of the Provisional Legislature under Entry 48 to impose a tax on the supply of materials used in the contract treating it as sale.
The Constitution Amended: After the above judgement and a series of subsequent judgements, the Parliament amended the Constitution of India by the Constitution (46th Amendment) Act, 1982, which received the assent of the President of India on 02.02.1983.
By this amendment, clause (29-A) was inserted in Article 366 of the Constitution, which reads as under:
29A "tax on the sale or purchase of goods" includes -
(a) a tax on the transfer, otherwise than in pursuance of a contract, of property in any goods for cash, deferred payment or other valuable consideration;
(b) a tax on the transfer of property in goods (whether as goods or in some other form) involved in the execution of a works contract;
(c) a tax on the delivery of goods on hire-purchase or any system of payment by instalments;
(d) a tax on the transfer of the right to use any goods for any purpose (whether or not for a specified period) for cash, deferred payment or other valuable consideration;
(e) a tax on the supply of goods by any unincorporated association or body of persons to a member thereof for cash, deferred payment or other valuable consideration;
(f) a tax on the supply, by way of or as part of any service or in any other manner whatsoever, of goods, being food or any other article for human consumption or any drink (whether or not intoxicating), where such supply or service, is for cash, deferred payment or other valuable consideration;
and such transfer, delivery or supply of any goods shall be deemed to be a sale of those goods by the person making the transfer, delivery or supply and a purchase of those goods by the person to whom such transfer, delivery or supply is made.
Constitution amendment challenged: Builders Association of India and others v. Union of India and others - 2002-TIOL-602-SC-CT. (Five Judges Bench decided on 31.3.1989): The constitution amendment was challenged in this case. In this judgment, the Constitution Bench specifically noted that the purport and object of the amendment was to enlarge the scope of the expression "tax of sale for purchase of goods" wherever it occurs in the Constitution so that it may include within its ambit any transfer, delivery or supply of goods that may take place under any of the transactions referred to in sub-clauses (a) to (f). With this amendment, the States are empowered to make the Works Contract divisible and tax "sale of goods" component. It clearly follows that the restricted meaning, which was assigned to the expression "sale of goods" in Gannon Dunkerley's case is undone by the amendment.
In Gannon Dunkerley -II, decided on 17.11.1992, the Supreme Court held, If the legal fiction introduced by Article 366(29-A)(b) is carried to its logical end it follows that even in a single and indivisible works contract there is a deemed sale of the goods which are involved in the execution of a works contract. Such a deemed sale has all the incidents of a sale of goods involved in the execution of a works contract where the contract is divisible into one for sale of goods and the other for supply of labour and services .
Dominant intention theory: Rainbow Colour Lab and Another v. State of Madhya Pradesh and others - : (Decided on 2.2.2000) A Division Bench of two judges held: Every contract, be it a service contract or otherwise, may involve the use of some material or the other in execution of the said contract- State is not empowered by the amended law to impose sales-tax on such incidental materials used in such contracts.The Amendment has not empowered the State to indulge in microscopic division of contracts involving the value of materials used incidentally in such contracts. What is pertinent to ascertain in this connection is what was the dominant intention of the contract .
Dominant intention irrelevant - ACC Ltd. v. Commissioner of Customs - - (three members Bench decided on 25.1.2001 ): Within one year of the above judgment, this issue again cropped up before the Supreme Court. This was actually a Customs case, but the Court had occasion to observe, "The Forty-sixth Amendment was made precisely with a view to empower the State to bifurcate the contract and to levy sales tax on the value of the material involved in the execution of the works contract, notwithstanding that the value may represent a small percentage of the amount paid for the execution of the works contract. Even if the dominant intention of the contract is the rendering of a service, which will amount to a works contract, after the Forty-sixth Amendment the State would now be empowered to levy sales tax on the material used in such contract. The conclusion arrived at in Rainbow Colour Lab case, in our opinion, runs counter to the express provision contained in Article 366 (29A) as also of the Constitution Bench decision of this Court in Builders' Association of India and Others vs. Union of India and Others - ."
Did ACC over-rule Rainbow? Were the comments about Rainbow obiter? In C .K. Jidheesh v. Union of India - : (Decided on 27.10.2005); a two member bench of the Supreme Court observed, "The observations relied upon are mere passing observations and do not overrule Rainbow Colour Lab's case."
So was the dominant intention theory back in business?
Bharat Sanchar Nigam Ltd. v. Union of India - : (Three member bench decided on 2.3.2006), held "Therefore when in 2005, C.K. Jidheesh v. Union of India held that the aforesaid observations in Associated Cement were merely obiter and that Rainbow Colour Lab was still good law, it was not correct."
So the dominant intention theory is buried again?
Larsen Toubro and another v. State of Karnataka and another - : (Three Member Bench decided on 26.9.2013): The issue came up before the Larger Bench of the Supreme Court again in this case. ‘Interpretation which is to beassigned to clause 29-A of Article 366' is stated with remarkable clarity by the three Judge Bench in the following words:
As a result of Clause 29A of Article 366, tax on the sale or purchase of goods may include a tax on the transfer in goods as goods or in a form other than goods involved in the execution of the works contract. It is open to the States to divide the works contract into two separate contracts by legal fiction: (i) contract for sale of goods involved in the works contract and (ii) for supply of labour and service. By the Forty-sixth Amendment, States have been empowered to bifurcate the contract and to levy sales tax on the value of the material in the execution of the works contract."
Kone Elevator India Pvt. Ltd. v. State of Tamil Nadu and Ors. - : (Constitution Bench of five judges decided on 6.5.2014). Legal position stands settled by the Constitution Bench in this case. The Court observed, Therefore, "the dominant nature test" or "overwhelming component test" or "the degree of labour and service test" are really not applicable. If the contract is a composite one which falls under the definition of works contracts as engrafted under clause (29A)(b) of Article 366 of the Constitution, the incidental part as regards labour and service pales into total insignificance for the purpose of determining the nature of the contract.
State of Karnataka v Pro Lab and Others - : Last Friday (30th January), yet another larger bench of the Supreme Court deciding the issue of levying sales tax on Processing and supplying of Photographs, held: "after insertion of clause 29-A in Article 366, the Works Contract which was indivisible one by legal fiction, altered into a contract, is permitted to be bifurcated into two: one for "sale of goods" and other for "services", thereby making goods component of the contract exigible to sales tax. While going into this exercise of divisibility, dominant intention behind such a contract, namely, whether it was for sale of goods or for services, is rendered otiose or immaterial. It follows, as a sequitur, that by virtue of clause 29-A of Article 366, the State Legislature is now empowered to segregate the goods part of the Works Contract and impose sales tax thereupon. Entry 54, List II of the Constitution of India empowers the State Legislature to enact a law taxing sale of goods. Sales tax, being a subject-matter into the State List, the State Legislature has the competency to legislate over the subject."
It all started in the Assessment Year 1949-50!