Analysis And Implications of Supreme Court Decision on Ocean Freight – The game is not over till the last ball is bowled
1. In cricket (especially T-20) it is said and often turns out to be true that the game is not over till the last ball is bowled. One can witness similar sentiment if one reads the 153-page decision of the Hon’ble Supreme Court in the case of Union of India & Anr v. Mohit Minerals Pvt. Ltd. (Civil Appeal No. 1390 of 2022) on the issue of levy of GST on ocean freight in the context of CIF imports. It is on the last ball that the Supreme Court turned in favour of the taxpayer and dismissed the appeal of the Revenue. However, undoubtedly reading the decision is a thrilling ride.
2. The Hon’ble Supreme Court dismissed the appeals filed by the Revenue challenging the decision of the Hon’ble Gujarat High Court wherein the High Court had declared the levy of IGST on the aspect of ocean freight in the case of CIF imports as unconstitutional. Supreme Court dealt with several important aspects of GST law and hence it is important to analyze the said decision as well as understand the implications that may follow in the future.
Background
3. The factual situation under consideration involves an Indian importer who imports goods from a foreign supplier on a ‘Cost-Insurance-Freight’ (CIF) basis. Owing to the CIF terms, the foreign supplier is required to bear the charges towards the insurance as well as freight involved in the transportation of goods till the customs station in India. The foreign supplier, therefore, engages a foreign shipping line to undertake the transportation of the goods. The said foreign shipping line issues an invoice in favour of the foreign supplier who undertakes to make the payment towards the freight cost.
4. Now Sec. 5(1) of the IGST Act, 2017 provides for the levy of tax on all inter-state supplies of goods or services or both. Further such levy shall be collected in such manner as may be prescribed and shall be paid by the taxable person. Further Section 7(4) of the IGST Act, 2017 provides that the supply of services imported into the territory of India shall be treated to be a supply of services in the course of inter-State trade or commerce.
5. Government in exercise of the powers granted by the Sec. 5(1) issued Notification No. 8/2017 – IT (Rate) dated 28.06.2017 which interalia at Sr. No. 9 provides that the service of transport of goods in a vessel including services provided or agreed to be provided by a person located in non-taxable territory to a person located in nontaxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India shall attract the GST @ 5%.
6. Sec. 5(3) of the said Act further grants power to the Government, on the recommendations of the Council, to specify by way of notification the categories of supply of goods or services or both the tax on which shall be paid on reverse charge basis by the recipient of such goods or services or both. Government in exercise of the powers granted by the said provisions issued Notification No. 10/2017 – IT (Rate) dated 28.06.2017 which interalia at Sr. No. 10 provides that the GST in respect of the services supplied by a person located in the nontaxable territory by way of transportation of goods by a vessel from a place outside India up to the customs station of clearance in India shall be payable by the importer as defined in Sec. 2(26) of the Customs Act 1962 who is located in the taxable territory.
7. Now the moot point of contention between the Revenue and the Taxpayer was concerned with the validity of the levy created by the aforementioned provisions of law (including the two notifications) (hereinafter referred to as ‘subject levy’). Hon’ble Gujarat High Court in its decision held on several grounds that the subject levy shall fail. The Revenue filed the appeals before the Hon’ble Supreme Court challenging the decision of the High Court. At this point, it may be stated that the Supreme Court while dealing with the appeal broadened the ambit of the challenge by looking at several other contentions (that were not present before the High Court) because the said contentions were raised by the Revenue in their appeal. With this background, we can now analyze the decision of the Supreme Court based on the rival contentions considered by it. We shall undertake the analysis by grouping several contentions into a few main contentions to enable better appreciation of the given decision.
Inter-play of Parliament, State Legislatures, Governments and the role of the GST Council
8. Revenue urged that under Article 279A of the Constitution the recommendations of the GST Council are binding on the legislature and the executive. It was, therefore, urged that since the recommendations are binding, the rule making power of the Government under the provisions of the IGST Act and CGST Act, exercisable on the ‘recommendations’ of the GST Council, are also very wide. Hence it was submitted that the validity of the notifications in question is required to be upheld.
9. Hon’ble Supreme Court analyzed various Constitutional provisions to arrive at the following findings:
i. That Article 246A of the Constitution vests simultaneous power with the Parliament as well as State legislatures to frame laws related to the imposition of GST subject to the conferment of an exclusive domain to Parliament to levy the GST where the supply of goods or services takes place in the course of inter-state trade and commerce. The said ‘simultaneous power’ is distinct from ‘concurrent power’ that has been vested by Article 246 read with Article 254. The Court observed that Article 246 (which grants and distributes the power to make laws on various subjects between the Parliament and State legislature vide seventh schedule (List I, II & III)) is subject to the repugnancy clause under Article 254 to resolve the disputes if there is a conflict in the exercise of the powers between the State legislatures and the Parliament. Court further observed that special provisions for making GST laws as provided under Article 246A override both Article 246 as well as Article 254 and also do not have any repugnancy clause similar to Article 254. Further, the Court observed that the power granted vide Article 246A is without any qualification and is not made ‘subject to’ Article 279A (dealing with GST Council and recommendations) and neither Article 279A begin with a non-obstante clause. Hence the Court observed that the power under Article 246A can be exercised simultaneously by the State legislature and Parliament and none hold any ‘unilateral or exclusive’ legislative power.
ii. That the Parliament, as well as State legislatures, have simultaneous power to frame the laws related to the imposition of GST. The recommendations of the GST Council are made to the ‘Union and the States’ and not to the Parliament and the State legislatures. Hence only the recommendations where the Parliament, as well as State legislatures by virtue of making the provisions under the GST laws, have directed the Executive to be bound by it shall be considered to be binding to maintain a uniform system. For instance, Section 5 of the IGST Act provides that the taxable event, taxable rate and taxable value shall be notified by the government on the “recommendations of the Council”. Similarly, the power of the Central Government to exempt goods or services or both from levy of tax shall be exercised on the recommendations of the GST Council under Section 6 of the IGST Act. Section 22 provides that the Government may exercise its rule making power on the recommendations of the GST Council. The CGST Act also provides for similar provisions in Sections 9, 11 and 164. The Court, therefore, observed that only the recommendations notifying secondary legislation (such as Rules and Notification) shall be binding on the Executive (Union and the States).
iii. That the role of GST Council as a constitutional body under Article 279A shall be paramount to provide a ground for collaboration and contestation of ideas. The Court observed that the argument that if the recommendations of the GST Council are not binding, then the entire structure of GST would crumble does not hold water since GST Council has been formulated to enhance cooperative federalism and harmony between the States and the Centre. Hence the Court observed that the view of vesting simultaneous power with the Parliament as well as State legislatures to frame laws related to the imposition of GST would not crumble the entire structure of GST given the very important role of the GST Council.
10. At this stage, we can therefore observe that the Supreme Court has crafted a fine balance whereby the supremacy of the Parliament, as well as State Legislatures, have been upheld when it comes to primary legislation whereas the Government (Central as well as State) has been made bound by the recommendations of the GST Council in the matters of secondary legislation to give effect to the uniform taxation system. At the same time, the Court has also stressed a very important role to be played by the GST Council to ensure harmony and cooperation that can ensure that the structure of GST would not crumble. The Court, therefore, observed that the power to issue the notifications in question can be considered to be valid as it has been exercised in line with the aforesaid scheme of interpretation of the Constitutional provisions. It is with this perspective that the Supreme Court then dealt with the other contentions.
Extra-territoriality
11. Revenue urged that the subject levy is not extra-territorial and hence valid. Supreme Court observed that the subject levy cannot be declared invalid on the aspect of extra-territoriality on the twin grounds of (a) the destination of the goods is India and thus, a clear territorial nexus is established and (b) services are rendered for the benefit of the Indian importer. Hence it was held that the transaction in question does have a nexus with the territory of India.
Presence of a supply of service
12. Revenue urged that the subject transaction qualifies as an inter-state supply of services in view of Sec. 7(1)(b) of the CGST Act, 2017 (that includes the import of services for consideration as supply) read with Sec. 2(11) of the IGST Act, 2017 (that defines ‘import of services’) and hence are validly leviable to the tax. Supreme Court observed that the focus of GST is on the taxation of supply, as opposed to the creation of neat compartments between goods and services. The Court further observed that in the commercial reality of the times, the conceptual lines between goods and services wear thin. It also observed that Sec. 13(9) of the IGST Act, 2017 provides that the place of supply in case of transportation services of goods shall be the destination of the goods and the said provisions when read with Sec. 2(93)(c) of the CGST Act, 2017 providing that the recipient of supply shall be the person to whom service is rendered where no consideration is payable (since the freight amount is paid by the foreign supplier and not Indian importer), leads to the view that the law envisages a supply of separate transportation services and hence the subject levy cannot be declared as invalid on the ground of no supply.
Recipient of service
13. Many contentions were urged before the Supreme Court saying that an Indian importer cannot be considered to be a recipient of service since there is no privity of contract between the foreign shipping line and the Indian importer and that the foreign supplier is liable to pay the freight (consideration) towards the transportation service. It was hence urged that the Indian importer is not the recipient u/s 2(93) of the CGST Act, 2017 and hence cannot be made liable to pay the tax u/s 5(3) of the IGST Act, 2017 (pursuant to which the notification casting the liability has been issued) since the said Sec. 5(3) stipulates that only the ‘recipients’ can be made liable to pay the tax under the reverse charge mechanism.
14. Supreme Court observed that Sec. 5(1) of the IGST Act, 2017 stipulates all the four critical elements of a valid levy. It provides for the levy of tax on inter-state supply. Sec. 7(4) of the IGST Act, 2017 states that the supply of services imported into the territory of India shall be treated to be a supply of services in the course of inter-State trade or commerce. Sec. 5(1) also provides that the tax can be collected from a ‘taxable person’. The term ‘taxable person’ has been defined u/s 2(107) of the CGST Act, 2017 to mean a person who is registered or liable to be registered u/s 22 or 24 of the said Act. Sec. 24(iii) mandates that a person who is liable to pay the tax under reverse charge is required to be registered. Sec. 24(xii) also grants power to notify the persons who shall be registered. Supreme Court also observed that the definition of ‘recipient’ under clause (c) to Sec. 2(93) includes a person to whom service is rendered where no consideration is payable. Sec. 5(1) also provides a maximum cap of 40% as regards the rate of tax. It also stipulates a mechanism for the determination of the value. Supreme Court also observed that the definitions u/s 2 are not sacrosanct as the said Section itself provides that the given definitions are subject to the context. Sec. 13(9) of the IGST Act, 2017 also provides that the place of supply in case of transportation services of goods shall be the destination of the goods. Reading all the aforesaid provisions, Supreme Court observed that as Sec. 5(1) and Sec. 5(3) are intrinsically linked they must be construed together, and hence the Indian importer can be considered as a recipient of service and hence can be made liable to pay the subject tax under the reverse charge mechanism.
15. It was also contended that if the Indian importer is treated as a recipient of the transportation services, then the situation will lead to the emergence of two recipient’s viz. (a) a foreign supplier who enters into a contract with the shipping line and (b) Indian importer by applying the aforesaid referred benefactor test. It was hence contended that if such an approach is followed then who will be able to avail the ITC and how shall the place of supply be determined in other fact situations. Hence it was argued that even on this ground the levy is to be considered invalid. The Supreme Court observed that in the given situation the issue of availment of ITC and determination of place of supply shall not arise since the other recipient is outside India (who will not avail any ITC) and the place of supply has been specifically provided. Hence it was observed that the subject levy cannot be declared invalid even on this ground.
Alternate power to notify the person liable to pay the tax
16. Revenue contended that if the Court finds that the Indian importer cannot be made liable to pay the tax under the reverse charge mechanism u/s 5(3) of the IGST Act, 2017 because such importer cannot be considered as ‘recipient’, still the subject levy is required to be upheld as the Government has alternative power u/s 5(4) of the IGST Act, 2017 to specify a registered person as the person liable to pay the tax in respect of supplies received from unregistered supplier (i.e. foreign shipping line). It was urged that once a power is available to grant or identify the taxable person, taxable event, rate and measure, non-reference of the source of power will not vitiate its exercise and application. Supreme Court observed that Sec. 5(4) employs the language “as the recipient”, in contradistinction to Section 5(3) which uses “by the recipient” and hence broadens the scope of ‘recipient’ u/s 2(93) to support the earlier observation that Indian importer can be considered as a recipient.
Consideration
17. It was also urged before the Supreme Court that there is no consideration paid separately by the Indian importer to the foreign shipping line and hence even on this ground the subject levy is invalid. Supreme Court referred to the definition of ‘consideration’ u/s 2(31)(a) of the CGST Act, 2017 to observe that the said definition includes even the payment made by any other person and hence observed that consideration paid by the foreign supplier (considered as ‘any other person’) is present in the given transaction. Supreme Court also observed that the measure of taxable value to be ten per cent of the CIF value is in accordance with Sec. 15(4) and Sec. 15(5) of the CGST Act, 2017 read with Rule 31 of the CGST Rules, 2017 that grants power to the Executive to prescribe the value of supply. Hence it was observed that the levy cannot be declared invalid on the said ground.
Policy aspects
18. It was urged that the purpose behind the subject levy was to create a level playing field between the Indian and foreign shipping lines. It was urged that since transport of imported goods by Indian shipping lines to India is not treated as export of service, the Indian shipping lines pay IGST on the same on a forward charge basis (with credit restrictions). On the other hand, on the same transportation service, the foreign shipping lines are not required to pay tax as they are not taxable persons in India. It was, therefore, urged that instead of course correcting the input tax mechanism (by way of allowing Indian shipping line to avail of the credit), the Union Government has chosen to tax the Indian importer on a reverse charge basis and hence it was urged that even on this ground the levy can be declared as invalid. The Court observed that it cannot adjudicate the desirability of a taxation scheme, as long as it is legally issued. It observed that commenting on the efficacy of the tax intervention with the desired goals would be delving into the arena of policy.
Composite supply
19. Having exhausted all plausible contentions, it was felt that the Supreme Court will reverse the decision of the High Court and uphold the subject levy. But as it is in cricket, the game is not over till the last ball is bowled. Revenue urged before the Supreme Court that there are two different transactions in question viz. (a) import of goods and (b) import of transportation services and hence it was urged that even if the import of goods is made liable to Customs duty as well as IGST on the value that includes freight, the second transaction of import of services can still be made liable to tax separately. Aspect theory was invoked to say that if the transaction has several aspects, they can be brought to tax separately even if the same results in some overlapping. Supreme Court observed that the said contention of Revenue is in contradiction to the contention urged by the Revenue in the context of the recipient of supply by way of going beyond the text of the contract to say that Indian importer is the recipient of supply of transportation services and now suggesting that the two contracts (i.e. one for import of goods and another for transportation services) can be brought to tax separately. Court also observed that aspect theory cannot be applied in the present facts as it is a settled law that the said theory does not allow the value of goods to be included in services and vice versa.
20. Supreme Court then observed that the concept of ‘composite supply’ as provided u/s 2(30) read with Sec. 8 of the CGST Act, 2017 was introduced to ensure that various elements of a transaction are not dissected and the levy is imposed on the bundle of supplies altogether based on the principal supply. The Court observed that in the case of CIF imports the supply of service of transportation by the foreign shipper forms a part of the bundle of supplies between the foreign exporter and the Indian importer, on which the IGST is payable under Section 5(1) of the IGST Act read with Section 20 of the IGST Act, Section 8 and Section 2(30) of the CGST Act and hence the separate levy of IGST on the service component of the transaction cannot be sustained. Hence it was only on this ground that the Supreme Court dismissed the appeals filed by the Revenue and upheld the decision of the High Court.
Implications
21. Manifold implications will arise owing to the given decision of the Supreme Court. Some implications can be immediate and some will be felt in times to come. In our view the following implications will arise:
Short term implications
i. The importers who have paid the subject levy can seek the refund of the same subject to unjust enrichment (i.e. refund cannot be sought if ITC has been availed and the burden has been passed). The aspect of limitation will have to be understood. The levy has been declared invalid not on account of violation of any Constitutional provisions but on account of the interpretation of the provisions of the law (composite supply).
ii. The given decision cannot apply to FOB contracts. The liability to pay the IGST on the ocean freight subsists as it is not a part of the composite supply made by the foreign supplier.
iii. The ITC claimed by the importers who have paid the subject levy is required to be treated as eligible since it is a settled proposition that Revenue cannot take the benefit of its own wrong.
iv. The Government must indicate their intention going forward (ideally to respect the decision and avoid tinkering with the law) to enable the taxpayers to determine the future course of action without any further uncertainties attached.
Long term implications
i. The Supreme Court has laid down a delicate and fine balance as regards the role of the Parliament, State legislatures, Executive as well as GST Council. The approach of inclusiveness in the GST Council will be important to preserve the fabric of harmony as has been the case till now.
ii. The manner of interpretation exercised by the Supreme Court by going beyond the express words in the Statute and looking at the design of the GST (a destination-based tax), history as well as the context can set the stage for the usage of such a manner of interpretation in resolving future disputes under GST.
iii. The observation as regards the nature of GST levy (supply based) coupled with the blurring of the conceptual lines between goods and services as opposed to neat compartmentalization as well as going beyond the express terms of the contract will have to be tested in different fact situations to further understand the true import of the said observations.
iv. The upholding of the concept of composite supply to avoid vivisection of transactions keeping in mind that GST is conceptually different from the erstwhile regime will become one of the important principles going forward. The issue however may arise in the context of situations where the import transaction on a CIF basis is of goods such as petroleum products. One will have to examine whether such transactions can fall within the concept of composite supply to apply the given decision.
v. The test of identifying the benefactor of a supply as a recipient will have to be used with much caution. It should not be applied for every transaction and must be reserved for only special circumstances (as was the situation before the Supreme Court). The said aspect will also be tested in times to come.
22. Based on the above analysis one can certainly say that the GST law has indeed moved forward. The given decision lays down certain fundamental principles that will further develop in different fact situations as the law progresses. As the famous jurist, Oliver Wendell Holmes Jr. had said that the life of the law has not been logic; it has been experience, reading the given decision is surely an experience with a logic of its own.
(Views are strictly personal)
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