Background
Service tax levy was introduced on Restaurants & Hotels as under:
• Services provided by air-conditioned restaurants with license to serve liquor, with effect from 01-05-2011, with an abatement of 70%.
• Short Term Accommodation Services provided by hotels, with effect from 01-05-2011, with an abatement of 50%.
The above services have been discussed earlier in this column in the August, 2011 and September, 2011 issues respectively of BCAJ and in particular, the dual taxation issues arising therefrom. The same are not repeated for the sake of brevity.
The above stated levies continued under negative list based taxation of services introduced with effect from 01-07-2012 also, with a few minor changes in the scope and rate of abatement. However, the scope of air-conditioned restaurant service was substantially expanded with effect from 01-04- 2013, withdrawing the condition of having license to serve liquor. Far reaching implications of this amendment also were discussed in the April, 2013 issue of BCAJ. With these facts in the background, discussed below is the recent Kerala High Court’s ruling wherein levy of service tax on restaurants and hotels has been held beyond the legislative competence of the Parliament. Considering that levy of tax on supply of food or drink whether by way of or as a part of service is a State subject, the levy by the Centre is held unconstitutional in a Single Member Bench’s decision.
Kerala High Court Ruling in Kerala Classified Hotels & Resorts Association & Others (2013) 31 STR 257 (KER)
The Petitioners through writ petitions challenged the validity of sub-clause (zzzzv) and (zzzzw) of clause 105 of section 65 of the Finance Act, 1994 (Act) and section 66 of the Act, as amended by the Finance Act 2011 relating to levy of service tax on taxable services referred there and for consequential reliefs. The relevant portion reads as under:
“(zzzzv) Services provided or to be provided to any person, by a restaurant, by whatever name called, having the facility of air-conditioning in any part of the establishment, at any time during the financial year, which has license to serve alcoholic beverages, in relation to serving of food or beverage, including alcoholic beverages or both, in its premises;
(zzzzw) Services provided or to be provided to any person, by a hotel, inn, guest house, club or camp-site, by whatever name called, for providing of accommodation for a continuous period of less than three months;”
Contentions of the Petitioner
The main contention urged by the petitioners was that the imposition of service tax in relation to serving of food or beverage including alcoholic beverages represents only sale of goods which transaction squarely falls under Entry 54 of List II (State List) of the 7th schedule to the Constitution of India and therefore within the exclusive competence of the State legislature. The service tax was originally introduced by Parliament in exercise of the residuary power under Entry 97 of List I. Though Entry 92 C has been introduced to List I of the 7th schedule which enables the Union to levy “taxes on services”, the said entry had not come into effect as it was not notified by the Government. Similarly the State legislature had enacted Kerala Tax on Luxuries Act, by which tax is levied for accommodation. By introducing service tax on the basis of sub-clauses (zzzzv) and (zzzzw) to clause 105 of section 65, the Parliament has encroached upon the legislative powers of the State under Entry 54 and 62 of List II.
Hence, the main contention of the petitioners was with reference to the legislative competence of Parliament to impose a tax on sale of goods/ luxuries which is absolutely the domain of the State legislation.
Contention of the Revenue
The respondents contended that the legislation has been brought in terms of Article 248 of the Constitution read with Entry 97 of List I of the 7th schedule. Therefore according to the respondent, on a perusal of judgments cited by them it is all the more clear that service tax can be imposed on the service involved during the sale of a product and so long as the Statute does not transgress upon any restriction contained in the Constitution, contentions regarding lack of legislative power cannot be sustained. It is further contended that the Sales Tax Act and the Kerala Tax on Luxuries Act are framed by the State Government. Service tax levied by the Government of India is not for serving alcoholic beverages and it is a tax on the services provided by restaurants and hotels. In that view of the matter, according to them, the challenge to the provisions aforesaid is absolutely baseless and seeks for dismissal of the writ petitions.
Questions for Consideration before the Court
The following questions arose for consideration by the Court:
Whether “taxes on the sale and purchase of goods” in Entry 54 of List II of the seventh schedule covers service in the light of the definition of “tax on sale and purchase of goods” under Article 366 (29A)(f) of the Constitution of India.
Whether the service provided in a hotel, inn, guest house, club etc. imposed with luxury tax under the State Act in terms of Entry 62 of List II can be separately assessed and imposed by the Union with service tax, invoking the residuary powers at Entry 97 of List I of the Constitution.
Judgment relied upon by the Revenue for Consideration of Constitutionality of a statute
The judgment in State of M.P. vs. Rakesh Kohli, (2012) 6 SCC 312) = (2012-TIOL-44-SC-MISC) was relied upon by the respondent to highlight the principles to be kept in mind by courts while considering constitutionality of a statute and the Supreme Court held as under:
“32. While dealing with constitutional validity of a taxation law enacted by Parliament or State Legislature, the Court must have regard to the following principles:
(i) there is always presumption in favour of constitutionality of a law made by Parliament or a State Legislature,
(ii) no enactment can be struck down by just saying that it is arbitrary or unreasonable or irrational but some constitutional infirmity has to be found,
(iii) the Court is not concerned with the wisdom or unwisdom, the justice or injustice of the law as Parliament and State Legislatures are supposed to be alive to the needs of the people whom they represent and they are the best judge of the community by whose suffrage they come into existence,
(iv) hardship is not relevant in pronouncing on the constitutional validity of a fiscal statute or economic law, and
(v) in the field of taxation, the legislature enjoys greater latitude for classification.”
Similar views were expressed by the Supreme Court in Karnataka Bank Ltd. vs. State of A.P. [(2008) 2 SCC 254], Govt. of A.P. vs. P. Laxmi Devi [(2008) 4 SCC 720] and Greater Bombay Coop. Bank Ltd. vs. United Yarn Tex (P) Ltd. (2007) 6 SCC 236). There is no dispute regarding the proposition as held in the above judgments and hence the only enquiry is to find out whether the impugned legislation has trenched upon the legislative powers of the State Government, keeping in mind the limitations as held in the aforesaid judgments.
• Important and Relevant Judgments for consideration by the Court
- In Godfrey Phillips India Ltd. vs. State of U.P., (2005) 2 SCC 515) = (2005-TIOL-10-SC-LT-CB) the Supreme Court held as under:
“83. Hence on an application of general principles of interpretation, we would hold that the word “luxuries” in Entry 62 of List II means the activity of enjoyment of or indulgence in that which is costly or which is generally recognised as being beyond the necessary requirements of an average member of society and not articles of luxury.”
“93. Given the language of Entry 62 and the legislative history we hold that Entry 62 of List II does not permit the levy of tax on goods or articles. In our judgment, the word “luxuries” in the entry refers to activities of indulgence, enjoyment or pleasure. Inasmuch as none of the impugned statutes seek to tax any activity and admittedly seek to tax goods described as luxury goods, they must be and are declared to be legislatively incompetent. However, following the principles in Somaiya Organics (India) Ltd. vs. State of U.P. while striking down the impugned Acts we do not think it appropriate to allow any refund of taxes already paid under the impugned Acts. Bank guarantees if any furnished by the assessees will stand discharged.”
In T.N. Kalyana Mandapam Assn. vs. Union of India, (2004) 5 SCC 632) = (2004-TIOL-36-SC-ST) the Supreme Court was considering whether the imposition of service tax on the services rendered by the mandap-keepers was intra vires the Constitution, and held as under:
“44. In regard to the submission made on Article 366(29-A)(f), we are of the view that it does not provide to the contrary. It only permits the State to impose a tax on the supply of food and drink by whatever mode it may be made. It does not conceptually or otherwise include the supply of services within the definition of sale and purchase of goods. This is particularly apparent from the following phrase contained in the said sub-article “such transfer, delivery or supply of any goods shall be deemed to be a sale of those goods”. In other words, the operative words of the said sub-article are supply of goods and it is only supply of food and drinks and other articles for human consumption that is deemed to be a sale or purchase of goods.”
In K. Damodarasamy Naidu & Bros. vs. State of T.N., (2000) 1 SCC 521) = (2002-TIOL-884-SC-CT-CB) while considering the entitlement of the States to levy tax on the sale of food and drink a Constitutional Bench of the Supreme Court held as under:
“9. The provisions of sub-clause (f) of clause (29-A) of Article 366 need to be analysed. Sub-clause (f) permits the States to impose a tax on the supply of food and drink. The supply can be by way of a service or as part of a service or it can be in any other manner whatsoever. The supply or service can be for cash or deferred payment or other valuable consideration. The words of sub-clause (f) have found place in the Sales Tax Acts of most States and, as we have seen, they have been used in the said Tamil Nadu Act. The tax, therefore, is on the supply of food or drink and it is not of relevance that the supply is by way of a service or as part of a service. In our view, therefore, the price that the customer pays for the supply of food in a restaurant cannot be split up as suggested by learned counsel. The supply of food by the restaurant-owner to the customer though it may be a part of the service that he renders by providing good furniture, furnishing and fixtures, linen, crockery and cutlery, music, a dance floor and a floor show, is what is the subject of the levy. The patron of a fancy restaurant who orders a plate of cheese sandwiches whose price is shown to be Rs.50 on the bill of fare knows very well that the innate cost of the bread, butter, mustard and cheese in the plate is very much less, but he orders it all the same. He pays Rs. 50 for its supply and it is on Rs. 50 that the restaurant-owner must be taxed.”
Other judgments considered by the Court were as follows:
- Assn. of Leasing & Financial Services Companies vs. UOI (2011) [2 SCC 352 = 2010–TIOL–87–SC–ST– LB.]
- All India Federation of Tax Practitioners vs. UOI (2007) [TIOL–149 –SC– ST]
- BSNL vs. UOI (2006) [TIOL–15–SC–CT–LB]
- Federation of Hotel & Restaurant Assn of India vs. UOI (2002) [TIOL- 699 –SC–MISC]
• Observations & Findings of the Court
On a consideration of the law laid down by the Supreme Court, I am of the view that:
Para 18
“There are two judgments which throw light on the subject matter in issue. Those are K. Damoda-rasamy Naidu (Supra) and T.N. Kalyana Mandapam Assn. (Supra). In fact, the effect of Article 366(29-A)(f) has been considered by the Supreme Court in Assn. of Leasing & Financial Service Companies (Supra) and other judgments referred above includ-ing BSNL (Supra) . But the factual situation with reference to the case on hand is available only in the cases referred above. But it could be seen that in T.N. Kalyana Mandapam Assn. (Supra) the question was with reference to services rendered by mandap-keepers which is not the situation here. Here the factual situation is almost similar to the statement of law as held by the Supreme Court in K. Damodarasamy Naidu (Supra).”
Para 19
Now, coming to Article 366(29-A)(f) of the Constitution of India one could see that a deeming provision has been incorporated by way of 46th amendment to the Constitution of India and the history of such a legislation has been clearly dealt with in the judgments cited above. The very purpose of incorporating the definition of tax on sale or purchase of goods in Article 366 was to empower the State Governments to impose tax on the supply, whether it is by way of or as a part of any service of goods either being food or any other article for human consumption or any drink either intoxicating or not intoxicating whether such supply or service is for cash, deferred payment or other valuable consideration. The words “and such transfer delivery or supply of goods” is deemed to be a sale of those goods by the person making the transfer. Therefore the incidence of tax is on the supply of any goods by way of or as part of any service. When food is supplied or alcoholic beverages are supplied as part of any service, such transfer is deemed to be a sale. Apparently, the transfer is during the course of a service and when the deeming provision permits the State Government to impose a tax on such transfer, there cannot be a different component of service which could be imposed with any service tax in exercise of the residuary power of the Central Government under Entry 97 of List I of the Constitution of India.
Para 20
Therefore, it can be seen from Article 366(29-A)(f) that service is also included in the sale of goods. If the constitution permits sale of goods during service as taxable, necessarily Entry 54 has to be read giving the meaning of sale of goods as stated in the Constitution. If read in that fashion, necessarily service forms part of sale of goods and State Government alone will have the legislative competence to enact the law imposing a tax on the service element forming part of sale of goods as well, which they have apparently imposed. I am supported to take this view in the light of the Constitution Bench judgment in K. Damodarasamy Naidu (Supra).
Para 21
Coming to the next question regarding the imposition of service tax in respect of hotel, inn, guest house, club or camp site etc., the contention of the petitioners is based on Entry 62 of List II. What exactly is the meaning of the expression ‘luxuries’ in Entry 62 of List II has been held by the Constitution Bench judgment of the Supreme Court in Godfrey Philips India Ltd. (Supra), wherein it is held that luxuries is an activity of enjoyment or indulgence which is costly or which is generally recognised as being beyond the necessary requirements of an average member of society. While giving the said meaning to Entry 62 and if we look at the sub-clause (zzzzw), the service tax is imposed on services provided in a hotel and other similar establishments when State Legislature had enacted the Kerala Tax on Luxuries Act by exercising their legislative power under Entry 62 of List II. When applying the dictum laid down in Godfrey Philips India Ltd. (supra) which gives an extended meaning to the word ‘luxuries’, I am of the view that the amendment now made to the service tax trenches upon the legislative function of the State under Entry 62 of List II.
Having come to the aforesaid findings, these writ petitions are allowed as follows:
• It is declared that sub-clauses (zzzzv) and (zzzzw) to clause 105 of section 65 of the Finance Act 1994 as amended by the Finance Act 2011 is beyond the legislative competence of the Parliament as the sub-clauses are covered by Entry 54 and Entry 62 respectively of List II of the Seventh Schedule.
• That if any payments have been made by the petitioners on the basis of the impugned clauses, they are entitled to seek refund of the same.
Impact of Kerala High Court Ruling
• As per the Court order, the petitioners are entitled to seek refund of service tax. However, it may not be easy and feasible inasmuch as the restaurants merely collect service tax from the customers and pay to the Government. Hence, if the service tax collected (rightly or wrongly) is duly deposited with the Government, onus stands discharged under the law. Alternatively, the prospect of each customer filing for refund of tax is highly unlikely.
• Since the ruling is a consequence of a Writ Petition and there being presently no other conflicting High Court ruling, a view could be adopted (although debatable) to the effect that this ruling is applicable to restaurants across the country. However, the Government would without any doubt file an appeal before the Supreme Court against the High Court Order. Hence, it would appear that there is no finality on the issue.
• Whether the Kerala High Court ruling would apply under the negative list based taxation regime introduced with effect from 01-07-2012, is a matter which is being intensely debated.
It is interesting to note the following clarification issued in the context of Negative List regime of service tax:
• Extracts from Education Guide (TRU Circular dt. 20/6/12)
Para 6.9
Service portion in an activity wherein goods, being food or any other article of human consumption or any drink (whether or not intoxicating) is supplied in any manner as part of the activity. [Section 66E (i) of the Act]
Para 6.9.1
What are the activities covered in this declared list entry?
The following activities are illustration of activities covered in this entry –
• Supply of food or drinks in a restaurant;
• Supply of food and drinks by an outdoor caterer.
In terms of Article 366(29A) of the Constitution of India, supply of any goods being food or any other article of human consumption or any drink (whether or not intoxicating) in any manner as part of a service for cash, deferred payment or other valuable consideration is deemed to be a sale of such goods. Such a service therefore cannot be treated as service to the extent of the value of goods so supplied. The remaining portion however constitutes a service. It is a well settled position of law, declared by the Supreme Court in BSNL’s case [2006 (2) STR 161 (SC)], that such a contract involving service along with supply of such goods can be dissected into a contract of sale of goods and contract of provision of service. This declared list entry has been incorporated to capture this position of law in simple terms.
Based on the above, the Government could contend that what is being taxed is only the service component without encroaching upon the powers of the State Government under the Constitution. This aspect would have to be judicially tested.
The 46th amendment to the Constitution which introduced clause 29A to the Article 366 contained six transactions which were deemed to be a transaction of sale or purchase of goods. For example, tax on the transfer of property in goods involved in the execution of a works contract is one of the deemed sales transportation under this amendment.
After the judgment by the Kerala High Court, an old debate is likely to be revived. The question arises is that whether on similar grounds, the levy of service tax on a transaction of works contract where the buyer only intends to buy, say for example a constructed building and pay consideration on per square foot of constructed building could also be challenged? The buyer of the building has no interest in the services that the builder has used in construction of such building. Therefore, can the Central Government tax the services that are provided in a works contract when these transactions are deemed sales under the Constitution?
The clause 29A was introduced in Article 366 of the Constitution, as it was felt necessary to declare those transactions as deemed sale of goods which could otherwise lead to a dilemma in classification between sale of goods and/or services.
• Yet another question arising out of this situation is, shouldn’t there be a similar provision in the Constitution to declare the other portion of such transactions as the deemed/declared services as is done for sales tax/VAT, before the same could be brought under the tax net by the Centre?
There are no ready answers to the above posers. However, it appears that, there could to be a fresh round of litigations and resultant uncertainties.
Conclusion
To conclude, it would appear that the Kerala High Court does not resolve the larger burning issue of dual taxation of transactions by the Centre and the States whereby the increased burden is being felt by the end user/consumer. To put it in simple terms, an ideal scenario would be that in case of composite transactions, one component is taxed by the States and the other by the Centre in terms of clear statutory provisions. However, presently despite the fact that service tax is being levied on the service component (40%), the States continue to charge VAT on the 100% amount, resulting in dual taxation and increased burden on the end user/consumer.
It is expected that the GST regime would address this burning issue impacting businesses and end users. However, it is felt that the Government needs to urgently address this issue without waiting for the introduction of GST Regime whereby Empowered Committee of State Finance Ministers can have a dialogue with the Centre and States and arrive at an agreement for a consistent abatement regime across the country which can be adopted by the Centre as well as the States.
