Supreme Court clarifies Input Tax Credit eligibility under Tamil Nadu VAT Act for Inter-State sales: TVS Motor Company Ltd. vs. The State of Tamil Nadu (2018) INSC 901 (12 October 2018)

LEGAL ISSUE: Whether Section 19(5)(c) of the Tamil Nadu Value Added Tax Act, 2006 and Rule 10(9)(a) of the Tamil Nadu Value Added Tax Rules, 2007 are unconstitutional and violate the Central Sales Tax Act.

CASE TYPE: Tax Law – Value Added Tax

Case Name: M/s. TVS Motor Company Ltd. vs. The State of Tamil Nadu and Others

Judgment Date: 12 October 2018

Can a state deny input tax credit (ITC) on inter-state sales if the sale is not to a registered dealer? The Supreme Court of India addressed this question in a recent judgment, clarifying the scope of Section 19(5)(c) of the Tamil Nadu Value Added Tax Act, 2006 (TNVAT Act) and Rule 10(9)(a) of the Tamil Nadu Value Added Tax Rules, 2007 (Rules). The Court examined whether these provisions, which restrict ITC on certain inter-state sales, are constitutionally valid and consistent with the Central Sales Tax Act, 1956 (CST Act). The judgment was delivered by a bench comprising Justices A.K. Sikri and Ashok Bhushan, with Justice A.K. Sikri authoring the opinion.

Case Background

The appellants, registered dealers under the TNVAT Act, challenged the validity of Section 19(5)(c) of the TNVAT Act and Rule 10(9)(a) of the Rules. These provisions deny Input Tax Credit (ITC) on goods sold in the course of inter-state trade to unregistered dealers. The appellants argued that these provisions contradict the purpose of VAT, which is to avoid the cascading effect of taxes, and violate Articles 14, 19(1)(g), 256, and 301 of the Constitution of India, as well as the CST Act.

The dispute arose after the appellants received show cause notices from the Revenue in 2013, proposing to reverse the ITC claimed by them. The Revenue contended that the appellants had not filed the necessary Form C declarations for availing concessional tax rates on inter-state sales. The appellants argued that the denial of ITC on inter-state sales to unregistered dealers was discriminatory and against the principles of a uniform taxation structure.

Timeline

Course of Proceedings

The appellants, aggrieved by the show cause notices, filed writ petitions before the High Court of Judicature at Madras, challenging the constitutional validity of Section 19(5)(c) of the TNVAT Act and Rule 10(9)(a) of the Rules. The High Court dismissed these petitions, upholding the validity of the provisions. The High Court allowed the assessees to submit their responses to the Show Cause Notices and/or challenge the orders passed negativing their request for ITC, in accordance with the TNVAT Act and Rules framed thereunder. Subsequently, the High Court dismissed another writ petition (W.P. No. 29393 of 2017) relying on its previous decision. The appellants then appealed to the Supreme Court of India.

Legal Framework

The key legal provisions considered by the Supreme Court were:

• Section 3 of the Central Sales Tax Act, 1956: Defines when a sale or purchase of goods is considered to take place in the course of inter-state trade or commerce.
  
  “A sale or purchase of goods shall be deemed to take place in the course of inter -State trade or commerce if the sale or purchase – (a) occasions the movement of goods from one State to another; or (b) is effected by a transfer of documents of title to the goods during their movement from one State to another.”
• Section 6 of the Central Sales Tax Act, 1956: Establishes the liability to tax on inter-state sales.
  
  “Subject to the other provisions contained in this Act every dealer shall, with effect from such date as the Central Government may, by notification in the Official Gazette, appoint, not being earlier than thirty days from the date of such notification, be liable to pay tax under this Act on all sales [of goods other than electrical energy) effected by him in the course of inter-State trade or commerce during any year on and from the date so notified.”
• Section 8 of the Central Sales Tax Act, 1956: Specifies the rates of tax on sales in the course of inter-state trade or commerce.
  
  “(1) Every dealer, who in the course of inter-State trade or commence, sells to a registered dealer other than the Government goods of the description referred to in sub-section (3), shall be liable to pay tax under this Act, which shall be three per cent, of his turnover or at the rate applicable to the sale or purchase of such goods inside the appropriate State under the Sales Tax law of that State whichever is lower:
  
  (2) The tax payable by any dealer on his turnover in so far as the turnover or any part thereof relates to the sale of goods in the course of inter-State trade or service not falling within sub-section (1), shall be at the rate applicable to the sale or purchase of such goods inside the appropriate State under the sales tax law of that State;”
• Section 19 of the Tamil Nadu Value Added Tax Act, 2006: Deals with input tax credit.
  
  “(1) There shall be input tax credit of the amount of [tax paid] under this Act, by the registered dealer to the seller on his purchases of taxable goods specified in the First Schedule :
  
  (5) (c) No input tax credit shall be allowed on the purchase of goods sold as such or used in the manufacture of other good and sold in the course of inter-State trade or commerce failing under sub-section (2) of Section 3 of the Central Rules Act, 1956 (Central Act 74 of 1956).”
• Rule 10(9)(a) of the Tamil Nadu Value Added Tax Rules, 2007: States that input tax credit on inter-state sales is allowed only if Form C is filed.
  
  “Input tax credit on inter-state sales shall be allowed only if Form C prescribed in the Central Sales Tax (Registration and turnover) Rules, 1957 is filed.”

The Supreme Court also noted that the TNVAT Act was enacted under Entry 54 of List II of the Constitution, which allows states to levy taxes on the sale or purchase of goods within the state. The CST Act, on the other hand, governs inter-state sales, and the two acts must be interpreted harmoniously.

Arguments

Appellants’ Arguments:

• The appellants contended that Section 19(5)(c) of the TNVAT Act and Rule 10(9)(a) of the Rules are inconsistent with the objectives of the VAT system, which aims to eliminate the cascading effect of taxes by allowing ITC on all purchases. They argued that denying ITC on inter-state sales to unregistered dealers undermines this objective and hinders inter-state trade.
• They argued that the provisions were discriminatory and violated Articles 14, 19(1)(g), 246, and 301 of the Constitution of India, as the White Paper had promised set-off of ITC even against inter-state sales.
• It was also argued that the impugned provisions were “colourable legislation” that sought to override the supremacy of Entry 92A of List I of the Seventh Schedule of the Constitution.
• The appellants also argued that the term “rate applicable” in Section 8(2) of the CST Act should consider the effective rate after deductions under Section 3(3) of the TNVAT Act, and that Section 19(5)(c) was discriminatory in denying ITC.
• One of the appellants argued that since they were making supplies only to the Government, there was no reason to suspect tax evasion, and thus, ITC should not be denied.

Respondents’ Arguments:

• The respondents argued that the provisions were in line with the recommendations of the Empowered Committee of State Finance Ministers.
• They contended that the CST Act provides for different tax rates for sales to registered and unregistered dealers, and the denial of ITC for sales to unregistered dealers was justified to prevent tax evasion.
• The respondents argued that the State of Tamil Nadu had no mechanism to prevent tax evasion by unregistered dealers in other states, justifying the denial of ITC.
• They also pointed out that the Taxation Laws (Amendment) Act, 2007, amended the CST Act, and that prior to this amendment, inter-state sales under Section 8(2) of the CST Act had different tax calculation methods.

Issues Framed by the Supreme Court

The Supreme Court considered the following issues:

1. Whether Section 19(5)(c) of the TNVAT Act, 2006 and Rule 10(9)(a) of the TNVAT Rules, 2007 are ultra vires the provisions of the CST Act, 1956?
2. Whether the impugned provisions are in violation of Articles 14, 19(1)(g), and 301 of the Constitution of India?

Treatment of the Issue by the Court

The following table demonstrates as to how the Court decided the issues:

Authorities

The Supreme Court considered the following authorities:

Cases:

Legal Provisions:

• Central Sales Tax Act, 1956: Sections 3, 6, 8, and 9 were discussed to establish the framework for inter-state sales and taxation.
• Tamil Nadu Value Added Tax Act, 2006: Sections 2(23), 2(32), 19, and 38 were analyzed to understand the provisions related to input tax credit and the definition of a dealer.
• Tamil Nadu Value Added Tax Rules, 2007: Rule 10(9)(a) was examined concerning the requirement of Form C for availing ITC on inter-state sales.

Judgment

How each submission made by the Parties was treated by the Court?

How each authority was viewed by the Court?

• State of Madras vs. N.K. Nataraja Mudaliar [AIR 1969 SC 147]: The Court reiterated the principle that the provisions of Section 2(b) of the CST Act was upheld by the Constitution Bench.
• State of Tamil Nadu and Another vs. Sitalakshi Mills Ltd. and Others [(1974) 33 STC 200 (SC)]: The Court noted that this case reiterated the position in N.K. Nataraja Mudaliar.
• Gwalior Rayon Silk Manufacturing (Wvg.) Co., Ltd. vs. Assistant Commissioner of Sales Tax and others [(1974) 4 SCC 98]: The Court affirmed that the vires of Section 8(1) of the CST Act, which gives preferential treatment to sales to registered dealers, was upheld.
• Messrs Govind Saran Ganga Saran vs. Commissioner of Sales Tax and Others [1985 (Supp) SCC 205]: The Court used this case to highlight the essential components of a tax.
• Bolani Ores Ltd. vs. State of Orissa [(1974) 2 SCC 777]: The Court referred to this case in the context of the interpretation of statutes and incorporation by reference.
• D.S. Nakara and Others vs. Union of India [(1983) 1 SCC 305]: The Court referred to this case in the context of Article 14 of the Constitution and equality.
• Union of India and Others vs. N.S. Rathnam and Sons [(2015) 10 SCC 681]: The Court referred to this case in the context of permissible classification under Article 14.
• Jayam and Company vs. Assistant Commissioner and Another [(2016) 15 SCC 125]: The Court relied on this case as it fully covered the case against the appellants, particularly regarding the scheme of ITC under the TNVAT Act.
• ALD Automotive Pvt. Ltd. & Anr. v. The Commercial Tax Officer & Ors. (SLP (Civil) Nos.36112-36113 of 2013): The Court noted that the scheme of Section 19 of the TNVAT Act was discussed in detail in this case.

What weighed in the mind of the Court?

The Supreme Court’s decision was primarily influenced by the following considerations:

• Nature of ITC: The Court emphasized that ITC is a concession, not a right, and therefore, the legislature has the power to impose conditions for availing it.
• Prevention of Tax Evasion: The Court recognized that the denial of ITC on sales to unregistered dealers was a measure to prevent tax evasion, as the state has no mechanism to track such transactions.
• Reasonable Classification: The Court found that the classification between sales to registered and unregistered dealers was based on an intelligible differentia, with a rational nexus to the objective of preventing tax evasion.
• Specific Case of Sales to State Governments: The Court made an exception for sales made exclusively to other State Governments, recognizing that there was no possibility of tax evasion in such cases, and therefore, ITC should not be denied.

The Court noted that:

“Insofar sales to unregistered dealers are concerned, that too situated outside the State of Tamil Nadu, the State would not have any mechanism to find out the genuineness of these sales. In essence, the State is putting the condition that ITC would be admissible when Form ‘C’ is given, which can be given only in those cases where sale is to a registered dealer. Prescribing such a condition in order to ensure that there is no evasion, has a rationale purpose and objective.”

However, the court also stated:

“Having regard to the above, we are of the opinion that the provisions of Section 19(5)(c) are to be read down by construing that those dealers who are making sales exclusively to the other State Governments (i.e. outside the State of Tamil Nadu), the said States would be deemed as registered dealers for the purposes of availing benefits of ITC. Otherwise, in such a situation, it would be difficult to hold that test of reasonable classification is met in this limited context.”

The Court also observed:

“Thus, wherever the State Government buys, sells, supplies or distribute goods, it shall be deemed to be the dealer for the purposes of TNVAT Act. At the same time, TNVAT Act does not require registration by the State Government inasmuch as Section 38 which deals with registration of dealers explicitly provides, under sub-section (8) thereof, that this provision shall not apply to any State Government or Central Government. A conjoint reading of the aforesaid two provisions would show that when a sale is made to the State of Karnataka, it is made to a dealer but that dealer is under no obligation to get itself registered under the TNVAT Act. Because of this exemption, no State Government does that and since it is not a registered dealer, it would not be in a position to issue any Form C. But for that, the genuineness of sales made to a State Government cannot be doubted.”

Sentiment Analysis:

Fact:Law Ratio:

Logical Reasoning:

Key Takeaways

• Input Tax Credit (ITC) is a concession, not a right, and is subject to the conditions specified in the statute.
• Denial of ITC on inter-state sales to unregistered dealers is generally valid to prevent tax evasion.
• Sales made exclusively to other State Governments are an exception and will be treated as sales to registered dealers for ITC purposes.
• Dealers making sales to State Governments need to obtain a certificate from the purchasing State Government to avail ITC.

Directions

The Supreme Court directed that in cases where a dealer makes sales exclusively to other State Governments, the benefit of ITC would be allowed without insisting on the furnishing of Form ‘C’. However, to avail this benefit, a certificate from the State Government to whom the supplies are made must be obtained by the dealer claiming ITC and submitted to the VAT authorities.

Development of Law

The Supreme Court upheld the validity of Section 19(5)(c) of the TNVAT Act and Rule 10(9)(a) of the Rules, clarifying that the denial of ITC on inter-state sales to unregistered dealers is a valid measure to prevent tax evasion. However, the Court introduced a new interpretation by holding that for sales exclusively to other State Governments, the said States would be deemed as registered dealers for the purposes of availing ITC. This interpretation provides relief to dealers who supply goods to State Governments and ensures that there is no discrimination in such cases.

Conclusion

The Supreme Court’s judgment in TVS Motor Company Ltd. vs. The State of Tamil Nadu clarifies the scope of input tax credit under the TNVAT Act. While upholding the general validity of the provisions that deny ITC on inter-state sales to unregistered dealers, the Court made a significant exception for sales made exclusively to other State Governments. This ruling ensures that the principles of VAT are upheld while also protecting the revenue interests of the state. The judgment balances the need to prevent tax evasion with the need to facilitate inter-state trade and commerce.