LEGAL ISSUE: Whether “Engineering Design & Drawings” imported for manufacturing Wind Turbine Generators (WTG) are subject to service tax as “Design Services”.
CASE TYPE: Service Tax Law
Case Name: Commissioner of Customs, Central Excise & Service Tax vs. M/s Suzlon Energy Ltd.
Judgment Date: April 10, 2023
Date of the Judgment: April 10, 2023
Citation: Civil Appeal Nos.11400-11401/2018
Judges: Justice M.R. Shah and Justice Krishna Murari
The Supreme Court of India recently addressed a crucial question regarding the taxability of imported engineering designs. The core issue was whether these designs, used in the manufacturing of wind turbine generators (WTG), should be classified as goods or services for the purpose of levying service tax. The court’s decision clarifies the distinction between the two, impacting how businesses are taxed on intellectual property imports. This case involved a dispute between the Commissioner of Customs, Central Excise & Service Tax and M/s Suzlon Energy Ltd., concerning the imposition of service tax on imported “Engineering Design & Drawings”. The judgment was authored by Justice M.R. Shah, with Justice Krishna Murari concurring.
Case Background
M/s Suzlon Energy Ltd. (referred to as “the respondent”), a company engaged in the manufacturing of Wind Turbine Generators (WTG), had entered into product development and purchase agreements with its sister companies located in Germany and the Netherlands. These agreements, effective from January 1, 2007, involved the import of “Engineering Design & Drawings” for various models of WTG. Suzlon classified these designs as “paper” under the Customs Tariff, claiming a ‘Nil’ rate of customs duty, and argued that they were “goods,” not “services,” thus not liable for service tax.
The tax authorities, specifically the Commissioner of Customs, Central Excise & Service Tax, Pune (referred to as “the appellant”), challenged this classification. They issued show cause notices to the respondent, demanding service tax on the value of these designs, classifying them as “Design Services” under the Finance Act, 1994. The department contended that the designs were a service provided by the sister companies, and therefore, service tax was applicable.
The Commissioner confirmed the tax demand, along with interest and penalties. Aggrieved, the respondent appealed to the Customs, Excise and Service Tax Appellate Tribunal (CESTAT). The CESTAT, relying on a previous decision, ruled in favor of the respondent, holding that the designs were “goods” and not “services,” and therefore not subject to service tax. The Revenue then appealed to the Supreme Court.
Timeline
| Date | Event |
|---|---|
| January 1, 2007 | Product development and purchase agreement between Suzlon and its sister company, M/s Suzlon Energy GmbH, Germany, becomes effective. |
| April 1, 2007 | Formal agreement signed between Suzlon and M/s Suzlon Energy GmbH. |
| June 2007 to September 2010 | Period during which the tax department alleges that Suzlon failed to pay service tax on imported engineering designs. |
| December 15, 2011 | The Commissioner of Customs, Central Excise and Service Tax, Pune, issues a show cause notice to Suzlon demanding service tax. |
| April 20, 2012 | Another show cause notice was issued for the period October 2010 to September 2011. |
| March 25, 2012 | The Commissioner confirms the service tax demand, along with interest and penalties. |
| May 2, 2018 | The CESTAT allows Suzlon’s appeal, ruling that the designs are ‘goods’ and not ‘services’. |
| April 10, 2023 | The Supreme Court sets aside the CESTAT order, ruling in favor of the Revenue, but remands the matter to CESTAT to consider other grounds. |
Course of Proceedings
The Commissioner of Customs, Central Excise and Service Tax, Pune, initiated proceedings by issuing show cause notices to M/s Suzlon Energy Ltd., demanding service tax for the period from June 2007 to September 2010 and subsequently for the period October 2010 to September 2011. The Commissioner, vide order-in-original dated 25.03.2012, confirmed the demands, classifying the imported designs as “design services” under Section 65(105)(zzzzd) of the Finance Act, 1994, and levied interest and penalties.
Aggrieved by the Commissioner’s order, M/s Suzlon Energy Ltd. appealed to the Customs, Excise and Service Tax Appellate Tribunal (CESTAT). The CESTAT allowed the appeals, relying on its earlier decision in Sojitz Corporation v. Commissioner of Service Tax, New Delhi, holding that the designs were “goods” and not “services.” The CESTAT also stated that the same activity cannot be taxed as both goods and services.
The Revenue, dissatisfied with the CESTAT’s decision, filed the present appeals before the Supreme Court.
Legal Framework
The core of this case revolves around the interpretation of “design services” under the Finance Act, 1994. The relevant sections are:
- Section 65(35b) of the Finance Act, 1994: Defines “design services” as including “services provided in relation to designing of furniture, consumer products, industrial products, packages, logos, graphics, websites and corporate identity designing and production of three dimensional models.”
- Section 65(105)(zzzzd) of the Finance Act, 1994: Defines “taxable service” as “any service provided or to be provided, to any person, by any other person in relation to design services, but does not include service provided by-(i) an interior decorator referred to in sub- clause (q); and (ii) a fashion designer in relation to fashion designing referred to in sub-clause (zv):”
These definitions were crucial in determining whether the imported engineering designs fell under the ambit of taxable “design services.” The Finance Act, 1994, provides the framework for levying service tax in India, and the interpretation of these sections is vital to understanding the tax implications for businesses.
Arguments
The Revenue, represented by the Additional Solicitor General of India, argued that the “Engineering Design & Drawings” imported by Suzlon were indeed “design services” and therefore subject to service tax. Their arguments can be summarized as follows:
- Intellectual Property in Media: The Revenue contended that merely because intellectual property is put in a media, it does not automatically become “goods.” The classification depends on whether the parties intended a sale of goods or a provision of service.
- Distinction between Sale and Service: Relying on the Supreme Court’s decision in BSNL v. Union of India [(2006) 3 SCC 1], the Revenue argued that a set of tailor-made drawings is different from the preparation of drawings under a contract of service for a specific customer. The intention of the contracting parties is crucial.
- Composite Contracts: The Revenue argued that contracts can be divisible, indivisible, or composite, involving both the sale of goods and the rendition of services. The intention of the contracting parties is key in determining the nature of the contract.
M/s Suzlon Energy Ltd., represented by their senior counsel, argued that the imported designs were “goods” and not “services,” and therefore not liable for service tax. Their arguments can be summarized as follows:
- Sale of Goods: Suzlon argued that the supply of goods as per customer specifications is considered a sale of goods. They relied on Hindustan Shipyard Ltd. v. State of A.P. [(2000) 6 SCC 579], which held that if the thing to be delivered has an individual existence before delivery as the sole property of the deliverer, then it is a sale.
- Designs as Goods: Citing Associated Cement Companies Ltd. v. Commissioner of Customs [(2001) 4 SCC 593], Suzlon contended that any media containing drawings or designs should be regarded as goods under the Customs Act.
- Intellectual Property as Goods: Relying on Tata Consultancy Services v. State of A.P. [(2005) 1 SCC 308], Suzlon argued that intellectual property, once put on a media and marketed, becomes “goods.”
- No Service Tax on Sale of Goods: Suzlon argued that the intent of service tax legislation is not to levy tax on the sale of goods. They contended that a transfer of goods for a price cannot be subject to service tax.
- Aspect Theory: While acknowledging that different aspects of a transaction can be taxed separately, Suzlon argued that the aspect theory does not allow the value of goods to be included in services and vice versa, based on BSNL (supra).
The innovativeness of the arguments lies in the Revenue’s emphasis on the intention of the contracting parties and the distinction between the sale of goods and the provision of services, particularly in the context of intellectual property. Suzlon’s arguments innovatively combine the understanding of the term ‘goods’ under the Customs Act and Sales Tax Act to argue that the designs are goods and not services.
| Main Submission | Revenue’s Sub-Submissions | Suzlon’s Sub-Submissions |
|---|---|---|
| Classification of Imported Designs |
|
|
| Taxability |
|
|
| Reliance on Authorities |
|
|
Issues Framed by the Supreme Court
The primary issue framed by the Supreme Court was:
- Whether the activity of import of “Engineering Design & Drawings” from the sister companies by the noticee during the period under dispute i.e., June, 2007 to September, 2010 is classifiable under taxable category “design services” under section 65(35b) read with Section 65(105) (zzzzd) of the Finance Act, 1994.
Treatment of the Issue by the Court
| Issue | Court’s Treatment | Brief Reasons |
|---|---|---|
| Whether the activity of import of “Engineering Design & Drawings” is classifiable under taxable category “design services” | The court held that the activity is classifiable under “design services”. | The definition of “design services” is wide and inclusive, covering all design services. The fact that the designs were treated as ‘goods’ under the Customs Act does not exclude them from being classified as “design services” under the Finance Act, 1994. The court also stated that the same activity can be taxed as both ‘goods’ and ‘services’ as per aspect theory. |
Authorities
The Supreme Court considered the following authorities:
| Authority | Court | Legal Point | How the authority was used by the Court |
|---|---|---|---|
| BSNL v. Union of India [(2006) 3 SCC 1] | Supreme Court of India | Distinction between sale of goods and contract of service | The Court relied on this case to highlight the distinction between sale of goods and a contract of service, emphasizing the intention of the contracting parties. The court held that the same activity can be taxed as both goods and services. |
| Hindustan Shipyard Ltd. v. State of A.P. [(2000) 6 SCC 579] | Supreme Court of India | Definition of sale of goods | The Court considered this case to understand the concept of sale of goods, but distinguished it from the facts of the present case. |
| Associated Cement Companies Ltd. v. Commissioner of Customs [(2001) 4 SCC 593] | Supreme Court of India | Classification of designs as goods | The Court acknowledged that this case classified designs on a medium as goods under the Customs Act, but clarified that it doesn’t preclude the same from being classified as a service under the Finance Act, 1994. |
| Tata Consultancy Services v. State of A.P. [(2005) 1 SCC 308] | Supreme Court of India | Intellectual property as goods | The Court recognized this case’s view that intellectual property on a medium can be goods, but clarified that it does not prevent the same from being taxed as a service. |
| Section 65(35b) of the Finance Act, 1994 | Statute | Definition of “design services” | The Court used this definition to determine if the imported designs qualified as “design services”. |
| Section 65(105)(zzzzd) of the Finance Act, 1994 | Statute | Definition of “taxable service” | The Court used this definition to determine if the imported designs qualified as a “taxable service”. |
Judgment
The Supreme Court ruled in favor of the Revenue, holding that the imported “Engineering Design & Drawings” were indeed “design services” and subject to service tax. However, the Court remanded the matter back to the CESTAT to consider two other grounds raised by the respondent:
- Whether the services, if any, rendered by a foreign entity will fall within the purview of “design services”.
- Whether the department was justified in invoking the extended period of limitation.
The Court emphasized that the definition of “design services” under the Finance Act, 1994, is wide and inclusive, covering all design services. The Court also clarified that the same activity can be taxed as both goods and services, as per the aspect theory.
| Submission | Court’s Treatment |
|---|---|
| Revenue’s argument that intellectual property in media does not automatically become goods. | Accepted. The court held that merely putting intellectual property on a medium does not make it goods. |
| Revenue’s argument that the intention of the contracting parties is crucial in determining whether it is a sale or service. | Accepted. The court emphasized the intention of contracting parties. |
| Revenue’s argument that “Engineering Design & Drawings” are “design services.” | Accepted. The court ruled that the designs are “design services.” |
| Suzlon’s argument that supply of goods as per specifications is a sale of goods. | Acknowledged but distinguished. The court acknowledged this argument but held that the designs were also a service. |
| Suzlon’s argument that designs on a medium are goods. | Acknowledged but distinguished. The court acknowledged this argument but held that the designs were also a service. |
| Suzlon’s argument that intellectual property on media are goods. | Acknowledged but distinguished. The court acknowledged this argument but held that the designs were also a service. |
| Suzlon’s argument that service tax cannot be levied on the sale of goods. | Rejected. The court held that the same activity can be taxed as both goods and services. |
| Suzlon’s argument that aspect theory does not allow mixing value of goods and services. | Rejected. The court held that the same activity can be taxed as both goods and services. |
| Authority | Court’s View |
|---|---|
| BSNL v. Union of India [(2006) 3 SCC 1] | Cited and followed.* The court relied on this case to distinguish between sale of goods and contract of service and held that the same activity can be taxed as both goods and services. |
| Hindustan Shipyard Ltd. v. State of A.P. [(2000) 6 SCC 579] | Distinguished.* The court considered this case to understand the concept of sale of goods, but distinguished it from the facts of the present case. |
| Associated Cement Companies Ltd. v. Commissioner of Customs [(2001) 4 SCC 593] | Acknowledged but distinguished.* The court acknowledged that this case classified designs on a medium as goods under the Customs Act, but clarified that it doesn’t preclude the same from being classified as a service under the Finance Act, 1994. |
| Tata Consultancy Services v. State of A.P. [(2005) 1 SCC 308] | Acknowledged but distinguished.* The court recognized this case’s view that intellectual property on a medium can be goods, but clarified that it does not prevent the same from being taxed as a service. |
What weighed in the mind of the Court?
The Supreme Court’s decision was primarily influenced by the broad definition of “design services” under the Finance Act, 1994, and the principle that the same activity can be taxed as both goods and services. The Court emphasized that the intention of the contracting parties is crucial in determining the nature of the transaction. The court also emphasized that the mere classification of the designs as goods under the Customs Act does not preclude them from being classified as services under the Finance Act, 1994.
| Rank | Reason | Sentiment |
|---|---|---|
| 1 | Broad definition of “design services” under the Finance Act, 1994 | Legalistic |
| 2 | The same activity can be taxed as both goods and services. | Legalistic |
| 3 | Intention of the contracting parties is crucial. | Legalistic |
| 4 | Classification under Customs Act does not preclude classification under Finance Act. | Legalistic |
| Category | Percentage |
|---|---|
| Fact | 20% |
| Law | 80% |
The court’s reasoning was heavily based on legal interpretations and precedents, with a lesser emphasis on the specific facts of the case. This is reflected in the ratio of fact:law, which is 20:80.
The court’s reasoning can be summarized in the following flowchart:
The Supreme Court considered alternative interpretations, such as the argument that designs are solely “goods” and not “services”. However, the court rejected this interpretation, emphasizing the broad definition of “design services” and the principle that the same activity can be taxed under different heads.
The Court’s decision was based on the following reasons:
- The definition of “design services” under Section 65(35b) of the Finance Act, 1994 is wide and inclusive.
- The same activity can be taxed as both goods and services as per the aspect theory.
- The intention of the contracting parties is crucial in determining whether a transaction is a sale of goods or a provision of services.
- The classification of the designs as ‘goods’ under the Customs Act does not preclude them from being classified as ‘services’ under the Finance Act, 1994.
The court quoted the following from the judgement:
“As observed hereinabove, the definition of “design services” is very clear and it is wide enough to cover all “design services.”
“Even otherwise, as observed by this Court in the case of BSNL (supra) , there is a distinction between the sale of goods and a contract of service. What is relevant is the intention of the contracting parties and whether the contracting parties intend transfer of both goods and services, either separately or in an indivisible manner or in a composite manner.”
“Therefore, the view taken by the CESTAT that the same activity cannot be taxed as goods and services is absolutely erroneous.”
There was no minority opinion in this case.
The decision has significant implications for future cases involving the taxation of intellectual property, particularly in the context of imports. It clarifies that the same activity can be taxed as both goods and services, provided the contract is indivisible, and the aspect of services may attract service tax.
The court did not introduce any new doctrines or legal principles, but it reaffirmed the application of the aspect theory and the importance of the intention of the contracting parties.
Key Takeaways
The practical implications of this judgment are:
- Businesses importing designs and drawings need to carefully assess whether their transactions are subject to service tax, even if the designs are treated as goods under the Customs Act.
- The intention of the contracting parties is crucial in determining whether a transaction is a sale of goods or a provision of services.
- The same activity can be taxed as both goods and services, provided the contract is indivisible.
- Businesses need to ensure compliance with service tax regulations when importing designs and drawings.
The potential future impact of this judgment includes:
- A clearer understanding of the taxability of intellectual property imports.
- Increased scrutiny of transactions involving the import of designs and drawings.
- Potential for increased service tax revenue for the government.
Directions
The Supreme Court remitted the matter back to the CESTAT to consider the following two grounds raised by the respondent:
- Whether the services (if any) rendered by a foreign entity will or will not fall within the purview of “design services”.
- Whether the department was justified in invoking the extended period of limitation.
Development of Law
The ratio decidendi of this case is that the activity of importing “Engineering Design & Drawings” for the purpose of manufacturing Wind Turbine Generators (WTG) is classifiable under the taxable category of “design services” as defined under Section 65(35b) readwith Section 65(105)(zzzzd) of the Finance Act, 1994. The court clarified that the same activity can be taxed as both goods and services, and the classification of the designs as goods under the Customs Act does not preclude them from being classified as services under the Finance Act, 1994.
This decision clarifies the earlier legal position that the same activity cannot be taxed as both goods and services. The court reaffirmed the application of the aspect theory, which allows for the taxation of different aspects of a transaction separately.