OCTOBER 09, 2019

By Dr G Gokul Kishore

TAX laws are drafted, sometimes, like water. Even if there is an obstruction, water finds its way. But the course of tax laws is interpreted and streamlined by the judiciary so that it does not flood and drown the taxpaying population. An epic battle by the tax administration got over recently when the Supreme Court held in favour of taxpayers. Let us discuss this judgment and its applicability to GST in this 58th Part.

Supply by club or association to members

Clubs and associations are generally formed by individuals having common objective. They may incorporate it or choose not to opt for a formal legal structure. The individuals forming the club are members and such club may supply goods (or services) to members. For providing the same, they may collect certain amount which will be to recover the expense of purchasing such goods. Both under English law and Indian jurisprudence, the issue of taxability of such supplies to members had seen pitched courtroom battles. The argument of taxman has always been that club and its members are distinct and, therefore, when a member pays for obtaining certain supply, the same is like sale in a typical mercantile transaction of sale and purchase and therefore, tax is payable. The clubs or associations have resisted such tax demands on the ground that members' club and its members are one and the same and one cannot sell goods to self and doctrine of mutuality is applicable.

A Constitution Bench of the Supreme Court in CTO v. Young Men's Indian Association [(1970) 1 SCC 462] had held that though club was a distinct legal entity, it was acting only as an agent of its members insofar as supply of food preparations were concerned and no sale was involved as element of transfer of property was absent. Subsequently also, Supreme Court had expressed similar views in landmark judgments. To overcome the same, 46th Amendment to the Constitution was brought whereby, through Article 366(29-A), certain transactions were deemed as sale thus providing the basis for levy of sales tax. Clause (e) of the said Article includes tax on supply of goods by any unincorporated association or body of persons to a member.

Doctrine of mutuality survives 46th Amendment

Armed with the above said amendment, tax department renewed its attempt to tax clubs and associations in respect of supply of goods to members. This was resisted by clubs arguing that there was no sale involved and the amount paid was only reimbursement of amount by members. In its order, accepting the argument of the club, the Tribunal held that the payment made by members was not treatable as 'consideration 'and that the supplier and recipient were same persons and there was no exchange of consideration. The High Court upheld the Tribunal's order and it stated that members were the real life and a club was only a superstructure and element of mutuality was important. In this case, the club was incorporated under the Companies Act and it paid sales tax when products were sold to guests who were non-members but tax was not paid when such goods were 'supplied' to members.

The issue reached Supreme Court and considering the questions involved, the matter was referred to Larger Bench. In its judgment delivered on 3rd October, 2019 State of Bengal v. Calcutta Club Ltd. - 2019-TIOL-449-SC-ST-LB , the Supreme Court has, in effect, upheld High Court order. One of the important questions referred was whether doctrine of mutuality is still applicable to incorporated clubs or any club after 46th Amendment to the Constitution and whether earlier Constitution Bench judgment in Young Men's Indian Association still holds the field even after 46th Amendment. Another question referred was whether the above said amendment by deeming fiction provides that provision of food and beverages by incorporated clubs to its permanent members constitute sale and liable to sales tax. The revenue department argued that the said amendment did away with requirement of mutuality and, therefore, post-amendment, sales tax was liable to be paid by such club on goods supplied to members.

This article is not intended to discuss this judgment in detail as we are more interested in take-aways for GST. One of the important observations of the Supreme Court was that the Statement of Objects and Reasons for 46th Amendment itself proceeded on incorrect reading of its judgment in Young Men's Association case as it assumed that supplies by incorporated clubs were always taxable and, therefore, clause (e) in Article 366(29-A) spoke about unincorporated clubs. It took note of Law Commission's recommendations to not amend the Constitution to tax members' clubs as it was of the view that there was no question of evasion in such transactions and a member took his own goods. The Court discussed the distinction between an incorporated company and incorporated club. It held that since the members perform the activities of the club for themselves, the fact that they incorporate a legal entity to do it for them makes no difference. According to it, essence of doctrine of mutuality is that there is no sale transaction between two persons as one person cannot sell goods to itself.

The Apex Court held that Young Men's Association judgment has not been done away with by the 46th Amendment and even after amendment, doctrine of mutuality is applicable to both incorporated and unincorporated clubs and sales tax on supply to members was not valid. As appeals on similar issue involving service tax were also clubbed with sales tax cases, the Supreme Court held that service tax was not applicable in respect of services provided to members by incorporated clubs. Probably, the respondents were all incorporated bodies and there arose no occasion for the Court to decide about unincorporated bodies in respect of service tax.

Applicability of the judgment to GST law

The term 'person', 'incorporated body' and 'unincorporated body' have been eloquently analysed in the above judgment. GST is applicable on taxable supplies made by a taxable person to another. There are two persons involved in a supply transaction - one is the supplier and another is the recipient. Therefore, GST law does not contemplate supply of goods or services to self. Therefore, at the outset, doctrine of mutuality is legislatively recognized in GST. The definition of 'person' in CGST Act includes incorporated bodies. It also takes within its ambit an association of persons or a body of individuals, whether incorporated or not, in India or outside India. Schedule-II to CGST Act treats supplies made by unincorporated association or body of persons to a member for cash, deferred payment or other valuable consideration [imported verbatim from clause (f) of Article 366(29-A) of the Constitution] as supply of goods.

The above provisions may, prima facie, indicate that GST law is iron-clad when it comes to taxing supplies made by clubs or associations to its members. The bodies may be incorporated or not and the same does not make any difference. Another addition to the armoury is deeming supplies by unincorporated bodies to members as supply of goods. The threshold is mutuality - two different persons are required for taxing a supply transaction. When 46th Amendment to the Constitution could not dilute the doctrine of mutuality, it is doubtful whether CGST Act has been successful in such attempt. The urge to overcome Apex Court judgments is patently obvious from the entry in Schedule-II to tax unincorporated bodies for supplies to members. It appears that unless, the definitions of 'supplier' and 'recipient of a supply' in CGST Act (and SGST Acts) are amended, one is back to the pole position - there cannot be supply to self despite such deeming fiction. It will be interesting to observe that by including unincorporated bodies in Schedule-II, the draftsmen were under the impression that incorporated bodies were and are always covered under the tax net. Now, with this judgment of Supreme Court, this assumption gets withered.

Another issue will be whether what members pay for enjoying their own goods is 'consideration' and whether there is actually quid pro quo between the club and its members when goods are supplied by the club. The club acts as an agent when it procures goods for members and the amount paid is merely reimbursement and not a consideration. Members being owners of club's property, there cannot be relinquishment of property by one set of members in favour of another.

While there may be several questions, our plea is to the GST Council to appreciate the spirit of this judgment and recommend appropriate amendments to the GST law. These amendments should expressly incorporate principle of mutuality and keep transactions of members' club vis-à-vis its members out of the tax net. The distinction between those bodies incorporated under law and others is artificial and the same should be done away with as substance over form should be recognized. If the law is not amended today, taxpayers will have to wait for several more years in uncertainty till applicability of this judgment to GST law is considered by the top court.

[To be continued…]

[The author is an Advocate. The views expressed are strictly personal.]

See Part 57