SC upholds levy of Sales tax on processing / supplying of photographs

SC upholds levy of Sales tax on processing and supplying of photographs -reiterates power to levy tax retrospectively

Entry 25 of Schedule VI of Karnataka Sales Tax Act, 1957 (Entry 25) was inserted vide an amendment in July 1, 1989 thereby providing for levy of Sales tax for processing and supply of photographs, photo prints and photo negatives. The Hon’ble High Court of Karnataka in Keshoram Surindranath Photo – Bag (P) Ltd. and others Vs. Asstt. Commissioner of Commercial Taxes (LR), City Division, Bangalore and others [121 (2001) STC 175](Keshoram Case)declared the said Entry as unconstitutional on the ground that the contract of processing and supplying of photographs, photo frames and photo negatives was predominantly a service contract with negligible component of goods/material and, therefore, it was beyond the competence of State Legislature given in Entry 54 of List II of Schedule VII of the Constitution to impose Sales tax on such a contract.

The State of Karnataka challenged the said judgment before the Hon’ble Supreme Court wherein the Hon’ble Supreme Court dismissed the Special Leave Petition vide order dated April 02,2000 following its earlier judgment in the case of Rainbow Colour Lab and Another Vs. State of Madhya Pradesh and others [2002-TIOL-373-SC-CT] (“Rainbow Colour Lab Case”).

Thereafter, three Judges Bench of the Hon’ble Supreme Court had held another dimension vide ACC Ltd. Vs. Commissioner of Customs- Supreme Court [2002-TIOL-08-SC-CUS-LB] (ACC Ltd. Case), wherein the Hon’ble Supreme Court expressed its doubts about the correctness of the law laid down in Rainbow Colour Lab Case.

After the judgment in ACC Ltd. Case, a Circular instruction was issued by the Commissioner of Commercial Taxes to the Assessing Authorities to proceed with the assessments as per Entry 25. This became the subject matter of challenge before the High Court of Karnataka in the case of Golden Colour Labs and Studio and others Vs. the Commissioner of Commercial Taxes [ILR 2003 Kar 4883]. The Hon’ble High Court allowed the writ petition vide judgment dated July 30, 2003 holding that a provision once declared unconstitutional could not be brought to life by mere administrative instructions. However, at the same time, the Court observed that Entry 25 declared ultra vires the Constitution in Keshoram Case, cannot be revived automatically, unless there is re-enactment made by the State Legislature to that effect.

Resultantly, the State Government via an amendment dated January 29, 2004 re- introduced Entry 25 with a retrospective effect from July 1, 1989. Pro LAB and Ors (the Respondents)challenged before the Hon’ble High Court, the authority of the State Legislature to give a retrospective effect to Entry 25 as it violates Article 265 of the Constitution and also challenged the enactment of Entry 25 itself. The Hon’ble High Court declared the provision unconstitutional in 2005.Being aggrieved, the State of Karnataka(the Appellant)preferred an appeal before the Hon’ble Supreme Court.

The Larger Bench of the Hon’ble Supreme Court after considering plethora of judgments held as under:

• In Gannon Dunkerley and Co. and others Vs. State of Rajasthan and others [2002-TIOL-493-SC-CT-LB] which was decided on 17.11.1992, 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”;
• After the above judgment and a series of subsequent judgments, the Parliament amended the Constitution of India by the Constitution (46^thAmendment) Act, 1982. By this amendment, clause (29A) was inserted in Article 366 of the Constitution, providing for ‘tax on the sale or purchase of goods’;
• In Builders Association of India and others Vs. Union of India and others [2002-TIOL-602-SC-CT],the Constitution Bench specifically noted that the purport and object of the said amendment was to enlarge the scope of the expression ‘tax of sale for purchase of goods’. With this amendment, the States are empowered to make the Works contract divisible and tax ‘sale of goods’ component;
• In Larsen Toubro and another Vs. State of Karnataka and another [2013-TIOL-46-SC-CT-LB] (“Larsen Turbo Case”),it was held that by the 46^th 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;
• Thus, after insertion of clause 29A in Article 366 of the Constitution, 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;
• ‘Dominant Intention Test’for treating a contract as a Works contract is not applicable. In other words analysis of dominant intention behind a Works contract, namely, whether it was for sale of goods or for services, is rendered otiose or immaterial;
• By virtue of the Article 366(29A) of the Constitution, 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.
• Retrospective validity – In the case of State of U.P.[(1973) 1 SCC 216], it was observed that“a power to legislate includes a power to legislate prospectively as well as retrospectively. In this regard legislative power to impose tax also includes within itself the power to tax retrospectively.“

Therefore, the Hon’ble Supreme Court upheld the levy of Sales tax on processing and supplying of photographs and that too retrospectively.

Our Comments:The Larger bench of the Hon’ble CESTAT, Delhi in the case of Agrawal Colour Advance Photo System Vs. CCE, Bhopal [2011-TIOL-1208-CESTAT-DEL-LB] has held that, for the purpose of Section 67 of the Finance Act, 1994 (“the Finance Act”), the value of service in relation to photography would be the gross amount charged including cost of goods/material used and consumed in the course of rendering such service and the cost of unexposed film etc., would stand excluded in terms of Explanation to Section 67 of the Finance Act if sold separately to the client.

It was further held that the value of other goods and material, if sold separately would be excluded under Exemption Notification No.12/2003-ST dated June 20, 2003 and the term ‘sold’ appearing thereunder has to be interpreted using the definition of ‘sale’ in the Central Excise Act, 1944 and not as per the meaning of Deemed Sale under Article 366(29A)(b) of the Constitution.

However, the recent judgment of the Hon’ble Supreme Court has re-affirmed the position laid down in Larsen Turbo Case followed by landmark judgment of Five Judge Constitution Bench of the Hon’ble Supreme Court in the case of Kone Elevator India Private Limited Vs. State of Andhra Pradesh [2014-TIOL-57-SC-CT-CB], regarding inapplicability of ‘Dominant Intention Test’ in case of Works contract.

Consequent to the aforesaid decisions, Assessees or the Revenue should no longer be able to have recourse to the ‘Dominant Intention Test’ for determining the taxability of Works contract transactions. However, the question still prevails on applicability of ‘Dominant Intention Test’ fortransactions which do not get covered under Article 366(29A) of the Constitution.Accordingly, if a transaction doesn’t qualify as a Works contract, it would not be open for vivisection, making it imperative for the Assessee to closely examine the transactions in order to determine their true nature.

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