By changing the characterisation in certain cases, the Model GST Law reverses the position making it mandatory for both businesses and tax authorities to unlearn the past and start afresh
Constitutionally, state governments are competent to impose taxes only on goods. They have, however, perpetually clamoured to expand their taxation powers much beyond. A number of judicial rulings annulled their attempts during the first few decades of Independent India. In various instances, such as supply of goods by clubs, etc, to its members, cases of works contracts, sale of food in restaurants, etc, the courts invalidated the claims of the state governments purporting to bring these transactions within their taxing fold. In a show of collective strength, however, the state governments in the 1980s were able to successfully obtain a reversal of this position. The Constitution was amended by inserting a new provision—Article 366(29A)—whereby supply of goods in such transactions was brought within the taxation domain of the states. Colloquially understood as instances of “deemed sales”, Article 366(29A) substantially changed the taxation landscape of the country.
In 1994, the Union government started imposing tax on services. Initially, the ambit of this tax covered activities which could clearly be described as services, such as insurance, stock-broking, etc. Disputes arose, however, when the Union government sought to expand this power to tax services. A majority of these disputes required the determination of the issue whether the transaction is one of “goods” or “services”. In short, it was a tussle between the Centre and the states over the right to tax. The state governments contested the claim of the Union government over taxing transactions in various cases such as those involving supply of SIM cards for providing telecom services, photography services, etc. The disputes were litigated right up to the Supreme Court which upheld the states’ rights in certain cases. As recently as 2014, a larger bench of the Supreme Court affirmed that the rights conferred upon the states under Article 366(29A) were wide enough to tax even building and turnkey contracts. In short, the said provision has led to extensive litigation, obviously all at the expense of the tax-payer. These disputes have also resulted in situations of double taxation such as software, the supply of which is subjected to tax both by the Union and state governments.
Article 366(29A) treats six kinds of supplies as deemed sales of goods, i.e., supply of goods (i) other than by way of sales (such as compulsory sales); (ii) in form of works-contracts; (iii) by way of hire-purchase, (iv) by way of transfer of right to use goods; (v) by an unincorporated association to its members; and (vi) as food or other items consumed in restaurants. It was expected that the concept of deemed sales would be a thing of the past in the Goods and Service Tax (GST) regime. The Constitution Amendment Bill introduced to usher GST, however, does not omit Article 366(29A). It is not known whether this failure to omit Article 366(29A) is by inadvertence or is intended. Nonetheless, continued retention of Article 366(29A) implies three kinds of taxable supplies; (a) supply of goods; (b) supply of services; and (c) deemed sales.
The Model GST Law unveiled recently carries rules of characterisation. Instead of the aforesaid three categories, it classifies all supplies as either of goods or services. Further, the Model GST Law treats certain kinds of deemed sales as supply of goods while changing the characterisation of other kinds of deemed sales as supply of services. For illustration, while the characterisation of the goods supplied by an unincorporated association to its members is retained, the supply of goods in form of works-contracts or by way of transfer of right to use goods or of food or other items consumed in restaurants is characterised as a supply of service under the Model GST law.
The aforesaid aspects have a wide variety of consequences. First and foremost, the change in characterisation of the supply from goods to service under the Model GST Law is susceptible to judicial challenge on the larger premise of it being contrary to the constitutional stipulations. The long-standing judicial history on the subject should keep one alive to the possibility that the Model GST Law can be struck down on this count by the judicial forums. Secondly, the supplies in form of deemed sales have been heavily litigated in the past and the nuances associated thereto have attained considerable clarity. By changing the characterisation, the Model GST Law reverses the position making it mandatory for both businesses and tax-authorities to unlearn the past and start afresh. This could have been easily avoided by preserving the invaluable lessons learnt in the past. Thirdly, the manner in which “service” has been defined both under the Constitutional Amendment Bill as also the Model GST Law creates more potential for disputes than ever. This is in account of the fact that different valuation rules, place of supply rules and most importantly, different tax rates have been proposed for goods vis-à-vis services.
It is also crucial to take note of the fact that both the Constitution Amendment Bill as also the Model GST Law define “services” as “anything other than goods”. Internationally, there is a concept of “out of scope supplies” which covers all those transactions which are not taxed under the VAT/GST supplies either as goods or services. For illustration, sale of immovable property is one such out of scope supply and it is also understood to be beyond the scope of GST in the proposed regime. However, there is not a single word either in the Constitution Amendment Bill or the Model GST Law which lays out this intended exclusion. One can only guess how the omission of stipulating the intent clearly will play out in the hands of trigger-happy tax-officials.
Since the move to GST is touted as the biggest ever tax-reform in independent India, one would have expected that the proposed law would clearly lay down certain overarching principles governing the levy of taxes. Ideally, goods should have been subject to same treatment as services under the GST regime. Since this is not so proposed, at least the distinction between goods and services could have been made firmly clear and in line with the constitutional stipulations to avoid unwarranted litigation. The Constitution Amendment Bill read in conjunction with the Model Law fails to carry home these ideals. These and other inconsistencies between them reflect poorly on the two drafts. One could have expected a meticulous exercise directed towards positively changing the tax-landscape of the country.
With inputs from Tarun Jain, principal, BMR Legal
The author is leader (indirect tax), BMR & Associates LLP