While GST simplified many facets of Indirect tax regime, there have been few areas where the long pending issue like GST applicability on ocean freight on import of goods transactions still unanswered.
The Honorable Supreme Court has given big relief on the same by upholding the decision of Honorable Gujarat High Court in UOI & Others vs M/s Mohit Minerals Pvt. Ltd. And others [Civil Appeal No. 1390 of 2022] and held that since the Indian importer is liable to pay IGST on the ‘composite supply’, comprising of supply of goods and supply of services of transportation, insurance, etc. in a CIF (Cost Insurance Freight) contract, a separate levy on the Indian importer for the ‘supply of services’ by the shipping line would be in violation of the CGST Act. In other words, there is a dual levy of IGST as the same has already suffered tax as part of the value of goods.
Further, the Honorable Supreme Court also upheld that the recommendations of the GST Council are not binding on the Union and States and commented on covering the scope, power and limitations of the GST Council which may have draconian impact on structure of GST and its operations.
The judgment is analysed covering following aspects:
- Overview
- Key submission by the petitioner i.e., UOI
- Key submission by the respondents i.e., assessees
- Key observation by the Honorable Supreme Court
- Key Conclusions by the Honorable Supreme Court
- Way forward and questions to ponder
Overview
The bone of contention is whether an Indian importer can be subject to the levy of IGST on the component of ocean freight paid by the foreign seller to a foreign shipping line, on a reverse charge mechanism (‘RCM’) basis under GST regime.
In the case of a CIF (‘Cost, Insurance, Freight) contract, the freight invoice is issued by the foreign shipping line to the foreign exporter, without the involvement of the importer. Ocean freight is paid by the importer only when goods are imported under a ‘Free-on-Board’ (‘FOB’) contract. The respondent filed a writ petition before the Gujarat High Court challenging
Notification 8/2017 and Notification 10/2017. The respondent alleges that the impugned notifications create an element of double taxation, as ocean freight is included in the value of goods for the purpose of customs duty which the importer is liable to pay. The respondent does not dispute the liability of integrated tax on supply of service of transportation when it imports goods on an FOB basis. The levy of the integrated tax does not, according to the Union of India, impose an additional cost on importers as the cost paid on inward transportation of goods and import freight services is available to them as ITC.
The Division Bench of the Gujarat High Court held that the impugned notifications are unconstitutional for exceeding the powers conferred by the IGST Act and the CGST Act. The Union of India (UOI) is in appeal against a judgment of a Division Bench of the
Gujarat High Court which allowed a petition instituted by the respondents under Article 226 for challenging the constitutionality of two notifications of the Central Government.
Key submissions by the Petitioner
The petitioner i.e., UOI made submissions covering following points:
- Constitutional Architecture of IGST
- Charging Section
- Concept of Reverse Charge
- Inter-state supply and Place of Supply
- Time of Supply
- Composite Supply
- Extra-territoriality
- Service recipient
- Applicability of Section 5(4) of the IGST Act
- Parliamentary legislation v. Excessive delegation
- GST Council recommendations- Cooperative federalism and collaborative
- Federalism
Key submission by the respondents
The respondents made the following submissions:
- The High Court has held that that the notifications under challenge were ultra vires. The Government has not urged that any of these findings are incorrect and has only contended that Section 5(1) of the IGST Act satisfies all ingredients of a valid tax law;
- Imposition of IGST on ocean freight will lead to double taxation;
- Tax can be levied outside the territory of India by way of primary legislation. For instance, under Sections 6 and 7 of the Territorial Waters, Continental Shelf, Exclusive Economic Zone and Other Maritime Zones Act 1976, a legal fiction is created by which India has the power to levy tax in the Exclusive Economic Zone and Continental Shelf. Pursuant to this fiction, notifications levying customs duty on supplies made to oil drilling rigs in the Continental Shelf have been issued. In the absence of a primary legislation or statutory provision to this effect, notifications cannot impose duties on activities occurring outside India.;
- Sections 5(3) and 5(4) of the IGST Act are merely machinery provisions for collection of tax, and not the charging provision.;
- Under Section 5(4) of the IGST Act, the Government cannot specify the person liable to pay service tax on a reverse charge basis.;
- Section 2(98) of the CGST Act defines ‘reverse charge’ as the liability to pay tax by the recipient of supply of goods or services or both instead of the supplier of such goods or services or both. In other words, only the recipient can be made liable to pay tax under reverse charge basis and the reverse charge cannot be disintegrated from the recipient of supply.;
- Section 5(3) clearly stipulates that (i) the tax shall be paid on a reverse charge basis and (ii) the tax is payable by the recipient.;
- There must be a taxable event in the CIF contract of the kind contemplated under the IGST Act. In case there is no such event, it cannot be created through delegated legislation by the GST Council. There is an absence of a statutory fiction by which a CIF contract can be split into a contract for supply of goods and services, and creating a second layer of fiction by which the shipper is rendering a service to the supplier of goods. Thus, the question of levy of tax by the GST Council does not arise.;
- The law recognises and maintains the integrity of a CIF contract under Section 2(30) read with Section 2(93), and Section 8. These sections maintain the integrity of a composite contract by providing that where the goods come with insurance and freight, the tax is imposed only on supply of goods.;
- GST laws contemplate only one recipient for one supply.;
- The last leg of Section 2(93) of the CGST Act does not create a separate category of recipient.;
- The taxable event for levy of GST is ‘supply’ of goods or service. In the absence of supply, no tax can be levied under IGST, CGST or SGST Act.;
- The CGST Act does not envisage a taxable supply without consideration, other than those specified in Schedule I. Entry 9(ii) of Notification 8/2017 imposes a tax on ocean freight in import of goods. Such a power however, has not been provided in the statute
- Para 4 of Notification 8/2017 determines the ‘value of service’ as 10% of the CIF value, which is contrary to Section 15(1) of the CGST Act which says ‘transaction value.;
- Notification 10/2017 cannot be sustained under Section 5(4) of the IGST Act Section 13(9) of the IGST Act is only relevant to determine the place of supply and not the recipient of supply. Whether the supply of service is an export of services under Section 2(6)(a) of the IGST Act or an import of services under Section 2(11), read with Section 7(4) of the IGST Act; or an inter-State supply of service, is not determined by Section 13(9).;
- Notification 10/2017 has been issued on the recommendation of the GST Council under Section 5(3) of the IGST Act and not under Article 279A of the Constitution.;
- If the GST Council intended to make a recommendation deeming the importer as recipient of supply, then the proper course of implementation would be to make an amendment in the IGST Act and seek Parliamentary approval;
- The objective of the tax or levy cannot validate an ultra vires levy.;
- The scheme of IGST Act does not envisage a person other than the supplier or the recipient as a person liable to pay tax.;
- In case of CIF contracts, the customer contracts for a supply of delivered goods at the port of destination. The contract for transportation of goods is entered into by the foreign exporter with the foreign shipper. Thus, the person liable to pay consideration to the foreign shipper is the foreign exporter. The importer of goods in India is not the person liable to pay the consideration, and is thus, not the ‘recipient’ of the service;
- The contract of the Indian importer with the foreign exporter is for supply of delivered goods. The service of transportation is a component of the supply of goods similar to raw material, manufacturing cost or employee cost of the supplier. To contend that the purchaser has received the supply of raw material or the services of an employee is illogical. Similarly, the argument that the Indian importer has received transportation services is irrational; and
- Serial No. 9(ii) of Notification 8/2017 read with Para 4 and Serial No. 10 of Notification No. 9 of 2017-Integrated Tax (Rate) dated 28 June 2019 describe the services as provided by a person located in a non-taxable territory to a person located in a non-taxable territory. These notifications recognise the exporter as the recipient of the service of ocean freight;
- The argument of the ASG that the IGST paid on goods at the time of import is a customs duty and not a tax, and thus, there is no dual levy of tax recovered on ocean freight from the exporter is erroneous.
- IGST Act has no extra-territorial application as the Act extends to the whole of India. Under Section 2(109) of the CGST Act, taxable territory means the territory to which the Act applies. Further, GVK Industries (supra) states that Parliament may exercise its powers with respect to an extra-territorial aspect when it has a nexus with India. It does not however empower delegated legislation to exercise such power. Thus, the activity brought within the tax net by the impugned notifications is contrary to the IGST Act.;
- The ASG’s reliance on the nexus theory to justify the levy of GST on ocean freight, by equating it to the imposition of income tax on income accruing in India or customs duty imposed on goods imported into India- is erroneous. The ASG’s reliance on ‘aspect theory’ to justify the impugned levy is Erroneous. The aspect theory in India permits taxation of two different aspects or features of a transaction. For instance, in a catering contract, supply of food was subject to value added tax and the service aspect was subject to service tax. However, the aspect theory does not permit double taxation of the same amount or value.
- The GST Council which has been created by Article 279A of the Constitution is a recommendatory body, whose recommendations can be implemented by either amending the CGST Act or the IGST Act or by issuing a notification. However, notifications issued cannot be ultra vires the parent legislation.
Key observation by the Honorable Supreme Court
The Honorable Supreme Court observed that:
| Aspect | Observations |
| Constitutional Architecture of GST [Against the UOI] | The GST Council which is a constitutional body is entrusted with the duty to make recommendations on a wide range of areas concerning GST. The GST Council has plenary powers under Article 279A (4)(h) where it could make recommendations on ‘any other matter’ related to GST as the Council may decide. The GST Council has to arrive at its recommendations through harmonised deliberation between the federal units as provided in clause 6 of Article 279A. Unlike the other provisions of the Constitution which provide that recommendations shall be made to the President or the Governor, Article 279A states that the recommendations shall be made to the ‘Union and the States’. The recommendation of the GST Council made under Article 279A is non-qualified. That is, there is no explanation on the value of such a recommendation. Yet the notion that the recommendations of the GST Council transform into legislation in and of themselves under Article 246A would be farfetched. If the GST Council was intended to be a decision-making authority whose recommendations transform to legislation, such a qualification would have been included in Articles 246A or 279A. Neither does Article 279A begin with a non-obstante clause nor does Article 246A provide that the legislative power is ‘subject to’ Article 279A. (para 54) If the GST Council were intended to be a constitutional body whose recommendations transform into legislation without any intervening act, there would have been an express provision in Article 246A. Article 279A does not mandate tabling the recommendations in the legislature like the provisions in category 3, where the recommendations have to be mandatorily tabled in the legislature along with an explanatory note. Only the secondary legislation which is framed based on the recommendations of the Council under the provisions of the CGST Act79 and IGST Act80 is mandated to be tabled before the Houses of the Parliament. The use of the phrase ‘recommendations to the Union or States’ indicates that the GST Council is a recommendatory body aiding the Government in enacting legislation on GST. (para 56) In Manohar v. State of Maharashtra [(2012) 13 SCC 14], a two-judge Bench of this Court while interpreting Section 20(2) of the Right to Information Act 2005 observed that the phrase ‘recommendation’ must be interpreted in contradistinction to ‘direction’ or ‘mandate’. In numerous cases, this Court has reiterated that recommendations cannot create binding and enforceable rights, in contradistinction to a ‘direction’ or ‘mandate’. |
| Interpretation of ‘recommendation’ vis-à-vis the provisions of IGST Act and CGST Act [Against the UOI] | Merely because a few of the recommendations of the GST Council are binding on the Government under the provisions of the CGST Act and IGST Act, it cannot be argued that all of the GST Council’s recommendations are binding. As a matter of first principle, the provisions of the Constitution, which is the grundnorm of the nation, cannot be interpreted based on the provisions of a primary legislation. It is only the provisions of a primary legislation that can be interpreted with reference to the Constitution. The legislature amends the Constitution by exercising its constituent power and legislates by exercising its legislative power. The constituent power of the legislature is of a higher constitutional order as compared to its legislative power. Even if it is Parliament that has enacted laws making the recommendations of the GST Council binding on the Central Government for the purpose of notifying secondary legislations, it would not mean that all the recommendations of the Council made by virtue of its power under Article 279A have a binding force on the legislature. (Para 59) With this background and context, we shall now proceed to analyse the scheme of the GST legislation and whether the impugned levy, imposed on the recommendations of the GST Council, is valid and permissible under law. |
| Do the impugned notifications suffer from excessive delegation? [Against the assessee] | Section 5(3) of the IGST Act provides the Government the power to specify categories of supply of goods or services or both on which tax shall be paid on a reverse charge basis by the recipient. The Government is to exercise this power on the recommendation of the GST Council. The Government in exercise of its power under Section 5(3) of the IGST Act issued the impugned Notification 10/2017 specifying the ‘categories of the supply’ which shall be subject to reverse charge. The notification, besides specifying the criteria, has also mentioned the corresponding recipient in those categories. As discussed above, the IGST Act and the CGST Act define reverse charge and prescribe the entity that is to be taxed for these purposes. Therefore, the stipulation of the recipient in each of the categories is only clarificatory. The Government by notification did not specify a taxable entity different from that which is prescribed in Section 5(3) of the IGST Act for the purposes of reverse charge. |
| Charging Section: taxable person, taxable rate and manner of determining value | Section 5(3) and Section 5(4) of the IGST Act are inextricably linked with Section 5(1) of the IGST Act which is the charging provision. They must be construed together in determining the vires of the taxation. In CIT v. B C Srinivas Setty [AIR 1981 SC 972], a three-judge Bench of this Court has held that the machinery provisions of an Act and the charging sections are inextricably linked. (para 90) |
| Taxable Person [Against the assessee] | The respondents have alleged that the importer cannot be validly termed as a taxable person. However, this argument has to fail on a close reading of the impugned notifications alongside Sections 2(107) and 24 of the CGST Act. Neither Section 2(107) nor Section 24 of the CGST Act qualify the imposition of reverse charge on a “recipient of service” and broadly impose it on “the persons who are required to pay tax under reverse charge”. Since the impugned notification 10/2017 identifies the importer as the recipient liable to pay tax on a reverse charge basis under Section 5(3) of the IGST Act, the argument of the failure to identify a specific person who is liable to pay tax does not stand. (para 91) The impugned notification 10/2017 clearly specifies a taxable person who is liable to pay a reverse charge that is envisaged in the statute. Thus, the impugned notifications cannot be invalidated for an alleged failure to identify a taxable person. |
| Taxable Value [Against the assessee] | The respondents have urged that the determination of the value of supply has to be specified only through rules, and not by notification. However, this would be an unduly restrictive interpretation. Parliament has provided the basic framework and delegated legislation provides necessary supplements to create a workable mechanism. Rule 31 of the CGST Rules 2017 specifically provides for a residual power to determine valuation in specific cases, using reasonable means that are consistent with the principles of Section 15 of the CGST Act. This is where the value of the supply of goods cannot be determined in accordance with Rules 27 to 30 of the CGST Rules 2017. Thus, the impugned notification 8/2017 cannot be struck down for excessive delegation when it prescribes 10 per cent of the CIF value as the mechanism for imposing tax on a reverse charge basis. |
| Taxable event: Is an ocean freight transaction for import of goods a valid category of supply of services under Section 5(3) of IGST Act? | The analysis of whether import of goods under CIF contracts constitutes a valid import of service has to be answered on two prongs: Whether classification of imports as a specific category of supply of shipping service is valid under Section 5(3) read with Section 5(1) of the IGST Act; and Whether the recipient of the imported goods is also a recipient of shipping services in CIF transactions under Section 5(3). |
| Do imported goods procured on a CIF basis constitute an inter-state supply or is it an extra-territorial tax [Against the assessee] | A Constitution Bench in GVK Industries (supra), considered the question whether Parliament is competent to enact legislation with regard to extra-territorial aspects of certain events. Answered the question in affirmative. The decision in GVK Industries (supra) clearly recognises the power of Parliament to legislate over events occurring extra-territorially. The only requirement imposed by the Court is that such an event must have a real connection to India. The impugned levy on the supply of transportation service by the shipping line to the foreign exporter to import goods into India has a two-fold connection: first, the destination of the goods is India and thus, a clear territorial nexus is established with the event occurring outside the territory; and second, the services are rendered for the benefit of the Indian importer. Thus, the transaction does have a nexus with the territory of India. (Para 108) As an alternative, the respondents submitted that though the levy may have a nexus with the Indian territory, the levy of tax extra-territorially must be provided by Parliament through statute and not by the Union Government through delegated legislation. We do not find any applicability of this submission to the facts at hand. As stated above, the IGST Act under Section 13(9) recognises the place of supply of services as the destination of goods when the supplier is located outside India. Since the destination of goods is India, the statute itself is broad enough to cover a taxable event that has extra-territorial aspects, which bears a nexus to India. |
| Are importers service recipients under CIF contracts [Against the assessee] | The respondents are aggrieved by the fact that this categorization, coupled with impugned notification 10/2017, deems the importer of goods as the recipient of the service of shipping, irrespective of whether the import of goods was on the basis of a CIF or FOB contract. Section 2(98) of the CGST Act, which defines “reverse charge” reiterates that it means the “liability to pay tax by the recipient of supply of goods or services or both instead of the supplier…”. It cannot be construed to imply that any taxable person identified for payment of reverse charge would automatically become the recipient of such goods or service. The deeming fiction of treating the importer as a recipient must be found in the IGST Act. As it currently stands, Section 5(3) of the IGST Act enables the delegated legislation to create a deeming fiction on categories of supply of goods/services alone. (Para 115) The ineffectiveness of a tax collection mechanism under Section 24(iii) of the CGST Act cannot be argued to obfuscate the concept of a “recipient” of a good or service that is uniformly understood across the IGST Act, CGST Act and tax jurisprudence. (Para 116) The only question that falls for determination is whether the imports of goods on a CIF basis would also constitute import of shipping services, by way of deeming fiction. We have held that Section 5(3) of the IGST does not confer the powers on the Central Government to create a deeming fiction vis-à-vis who constitutes the recipient. Section 5(3) merely enables the Central Government to identify certain categories of goods and services, where the recipient of such services is subject to a reverse charge, as opposed to the usual mode of taxation where the supplier of the service is charged on a forward charge basis. However, Section 13(9) of the IGST Act read with Section 2(93)(c) of the CGST Act inherently create a deeming fiction of the importer of goods to be the recipient of shipping service. |
| Applicability of Section 5(4) of IGST Act [Against the assessee] | It is settled law that non-reference of the source of power may not vitiate its exercise and application in given facts and circumstances of a case. In Union of India v. Tulsi Ram Patel91, a Constitution Bench held that when a source of power legally exists, a non-reference or an incorrect reference during its exercise does not vitiate the action. (Para 127) It was contended by the respondents that instead of course correcting the input tax mechanism, the Union Government has chosen to tax the Indian importer on reverse charge. However, this Court is not in a position to adjudicate the desirability of a taxation scheme, as long as it is legally issued. Commenting on the efficacy of the tax intervention with the desired goals would be delving into the arena of policy. |
| Composite Supply and Issues of Double Taxation [Against the UOI] | We are unable to agree with the Union Government on this count. The aspect theory that the Union Government has relied on finds its place in various decisions of this Court, such as in Federation of Hotels & Restaurant Association of India v. Union of India and BSNL (supra). (Para 140) There is no doubt that different aspects of a transaction can be taxed through separate provisions. However, this Court in BSNL (supra) observed that the aspec theory does not allow the value of goods to be included in services and vice versa. In BSNL (supra), this Court dealt with the question of whether provision of telephone services involved a transfer of goods which would be amenable to sales tax. The Union of India cannot be heard to urge arguments of convenience – treating the two legs of the transaction as connected when it seeks to identify the Indian importer as a recipient of services while on the other hand, treating the two legs of the transaction as independent when it seeks to tide over the statutory provisions governing composite supply. In a CIF contract, the supply of goods is accompanied by the supply of services of transportation and insurance, the responsibility for which lies on the seller (the foreign exporter in this case). 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. To levy the IGST on the supply of the service component of the transaction would contradict the principle enshrined in Section 8 and be in violation of the scheme of the GST legislation. Based on this reason, we are of the opinion that while the impugned notifications are validly issued under Sections 5(3) and 5(4) of the IGST Act, it would be in violation of Section 8 of the CGST Act and the overall scheme of the GST legislation. As noted earlier, under Section 7(3) of the CGST Act, the Central Government has the power to notify an import of goods as an import of services and vice-versa. No such power can be noticed with respect to interpreting a composite supply of goods and services as two segregable supply of goods and supply of services. (Para 145) We are in agreement with the High Court to the extent that a tax on the supply of a service, which has already been included by the legislation as a tax on the composite supply of goods, cannot be allowed. |
Key Conclusions by the Honorable Supreme Court
Based on the discussion and observation, The Honorable Supreme Court have reached the following conclusion:
- The recommendations of the GST Council are not binding on the Union and States.
- On a conjoint reading of Sections 2(11) and 13(9) of the IGST Act, read with Section 2(93) of the CGST Act, the import of goods by a CIF contract constitutes an “inter-state” supply which can be subject to IGST where the importer of such goods would be the recipient of shipping service
- The IGST Act and the CGST Act define reverse charge and prescribe the entity that is to be taxed for these purposes. The specification of the recipient – in this case the importer – by Notification 10/2017 is only clarificatory. The Government by notification did not specify a taxable person different from the recipient prescribed in Section 5(3) of the IGST Act for the purposes of reverse charge;
- Section 5(4) of the IGST Act enables the Central Government to specify a class of registered persons as the recipients, thereby conferring the power of creating a deeming fiction on the delegated legislation; The impugned levy imposed on the ‘service’ aspect of the transaction is in violation of the principle of ‘composite supply’ enshrined under Section 2(30) read with Section 8 of the CGST Act. Since the Indian importer is liable to pay IGST on the ‘composite supply’, comprising of supply of goods and supply of services of transportation, insurance, etc. in a CIF contract, a separate levy on the Indian importer for the ‘supply of services’ by the shipping line would be in violation of Section 8 of the CGST Act.
For the reasons stated above, the appeals are accordingly dismissed.
Way forward and Questions to ponder
- The UOI could file a petition to review the single judge judgment.
- Being multiple taxpayers were paying GST under RCM on the said transactions, the GST Council could consider to amend the CGST Act retrospectively to set aside the said Ruling.
- Whether any impact on GST applicability on FOB imports due to the said Ruling
- Importers who had not paid the tax on import of such Ocean Freight services would no longer be required to pay GST on such services in view of the said judgement.
- Indian importers (who had paid GST under RCM on Ocean Freight) should evaluate the possibility of filing refund claims for claiming the said amounts (to the extent not utilized as input credit).
- Litigations pending under erstwhile Service tax law may also have impact by the said Ruling on the said issue.
The Honorable Supreme Court rightly said that if such artificial division is allowed, then the Government will be able to tax not just ocean freight, but also insurance services and such levy on contracts on a CIF basis will lead to hardships for the Indian recipients.
About the Author – VINEET SUMAN DARDA
Vineet has over 17+ years of consulting experience in leadership role in Tax and Regulatory Stream [Indirect tax including GST (around 13 years in Big 4)] and working with leading players in diverse industry sectors. He has delivered successfully as part of Darda Advisors LLP on various approvals and disbursements under Central and State Policies including ongoing MEITY and other Ministries’ PLI Schemes and various cross border transactions including FTA issues. Vineet has conducted various sessions (Seminars and webinars) on various tax and regulatory topics (including GST) at Client’s place, Business Parks, and other forums (ASCI, FTCCI, JICA, KOTRA, EPC, ICAI, ICFAI, JITO, RGA and others).
