MARCH 25, 2019

By Narendra Singhvi, Joint Partner, Lakshmikumaran & Sridharan

THE taxability of transactions involving use/supply of goods has always posed complex questions before Courts, given use/supply of such goods not being in nature of sales as understood in its classical sense. The complexity is greater in matter of composite transactions, given the distribution of taxation powers amongst the Union and State Governments in the federal structure of the Indian Constitution. This article deals with the issue of levy of Sales Tax on various goods used by hospitals in the course of medical treatments, albeit prior to the GST regime.

In State of Madras v. Gannon Dunkerley & Co, - 2002-TIOL-493-SC-CT-LB, Hon'ble Supreme Court was concerned with levy of Sales Tax on value of materials used and supplied in the execution of works contracts. The plea of States to uphold such levy was rejected by the Court, holding that in such contracts, neither there is a contract to sell the materials used in the construction, nor does property therein pass as movables. It held that the expression "sale of goods" as used in the entries in the Seventh Schedule to the Constitution has the same meaning as in the Sale of Goods Act, 1930, and that the Constitution might have given an inclusive definition of 'sale' in Entry 54 to cover such sales in such extended sense.

Apart from building contracts, certain other kinds of transactions were also held to be not liable to payment of Sales Tax, though involving supply of goods, such as compulsory or involuntary sales, supply of food/ drinks in the course of services etc. Similarly, transactions such as that of hire-purchase, transfer of right to use goods etc. also invited attention of the Government.

These issues were referred to the Law Commission of India, which, in its 61 st report in 1974, recommended certain amendments to the Constitution for valid levy of Sales Tax on such transactions. It resulted in passing of the 46th Constitutional Amendment by the Parliament in 1982 to insert the definition of "tax on the sale or purchase of goods" under Article 366(29A), covering such transactions. The validity of this amendment was upheld by Hon'ble Supreme Court in Builders Association of India v. Union of India, - 2002-TIOL-602-SC-CT-CB.

In Bharat Sanchar Nigam Limited v. Union of India, - 2006-TIOL-15-SC-CT-LB, Hon'ble Supreme Court, considering a dispute on levy of Sales Tax on mobile phone connections, held that the deeming fiction of Article 366(29A) will apply only to the transactions specified therein and not to other transactions. It was held that for levy of Sales Tax on transactions not covered under Article 366(29A), it must be proved that there is a sale in terms of the Sale of Goods Act, 1930. In the context of Gannon (supra), the Court held as under:

41…… The second respect in which Gannon Dunkerley has survived is with reference to the dominant nature test to be applied to a composite transaction not covered by Article 366(29A). Transactions which are mutant sales are limited to the clauses of Article 366(29A). All other transactions would have to qualify as sales within the meaning of Sales of Goods Act, 1930 for the purpose of levy of sales tax.

In the context of transactions not covered by Article 366(29A), the Court held as under:

42…… For example the clauses of Art. 366(29A) do not cover hospital services. Therefore, if during the treatment of a patient in a hospital, he or she is given a pill, can the sales tax authorities tax the transaction as a sale? Doctors, lawyers and other professionals render service in the course of which can it be said that there is a sale of goods when a doctor writes out and hands over a prescription or a lawyer drafts a document and delivers it to his/her client? Strictly speaking with the payment of fees, consideration does pass from the patient or client to the doctor or lawyer for the documents in both cases.

43. The reason why these services do not involve a sale for the purposes of Entry 54 of List II is, as we see it, for reasons ultimately attributable to the principles enunciated in Gannon Dunkerley's case, namely, if there is an instrument of contract which may be composite in form in any case other than the exceptions in Article 366(29-A), unless the transaction in truth represents two distinct and separate contracts and is discernible as such, then the State would not have the power to separate the agreement to sell from the agreement to render service, and impose tax on the sale. The test therefore for composite contracts other than those mentioned in Article 366 (29A) continues to be - did the parties have in mind or intend separate rights arising out of the sale of goods. If there was no such intention there is no sale even if the contract could be disintegrated. The test for deciding whether a contract falls into one category or the other is to as what is the substance of the contract. We will, for the want of a better phrase, call this the dominant nature test.

These observations of the Court proved to be food for thought for the Tax Departments as well as lawyers. While the legal services were left untouched, the Sales Tax Department demanded Sales Tax from hospitals on various medicines supplied, implants carried out, consumables used, surgical tools exclusively used in a particular procedure, in the course of medical treatment of patients.

Recently, a larger bench of Hon'ble Kerala High Court has rendered its decision in Sanjose Parish Hospital v. Commercial Tax Officer, 2019 (1) KLT 336 holding that there is no sale of such items by the hospitals. It held that except for the transactions specified in Article 366(29A), the dominant nature test applies, and in hospital services, the dominant intention is provision of medical care and treatment, to effectively cure the patient of his/her ailment and it is not the sale of drugs, implants or other consumables. That the service offered is one of medical treatment and the dispensation or administration of drugs or implants carried out in the course of surgical procedures and the consumables used in the course of any medical procedure would be an inseparable, indivisible part of the treatment rendered. The Court explained the principle beautifully as under:

21…… The principle is that mere passing of property in an article or commodity during the course of the performance of a contract or service, which is essentially one and indivisible, does not render it a transaction of sale, except in the case of the specific instances as available in clauses (b), (c) and (f) of Article 366(29A). The fiction extends to only the specific clauses as coming under Article 366 (29A) and stops there and does not extend beyond that or encompass any other composite transaction.

The Court further clarified that such levy of tax is not permissible, as the sale is effected in the course of a composite service or contract; not possible of bifurcation and isolation from the composite transaction, for effectuating a separate levy on the value of the sale effected.

Similar views have been expressed by Hon'ble High Courts of Allahabad, Punjab and Haryana and Jharkhand in their respective decisions in International Hospital Private Limited v. State of UP, - 2014-TIOL-551-HC-ALL-CT; Fortis Health Care Limited v. State of Punjab, - 2015-TIOL-466-HC-P&H-VAT; Tata Main Hospital v. State of Jharkhand, 2008 (2) JCR 174 (Jhr). The Special Leave Petition filed before Hon'ble Supreme Court against decision of Hon'ble Jharkhand High Court also stands dismissed. These decisions have set to rest, to some extent, the controversy looming over levy of Sales Tax on the hospitals on the above transactions. Disputes concerning levy of Sales Tax on similar transactions, however, are far from being settled and still require consideration of appropriate courts.

(The views expressed are strictly personal)