AUGUST 07, 2024

By Karan Sachdev, Advocate & Somesh Jain, Advocate

TAXATION of mining royalty has long been a complex and contentious issue. In this article, the authors discuss the current litigation surrounding the imposition of service tax and GST on mining royalties paid to the states, as well as the impact of the recent Supreme Court judgment in Mineral Area Development Authority v. Steel Authority of India 2024-TIOL-65-SC-MISC-CB and the pending decision on whether this judgment will apply prospectively. While much has been written on the subject, this article aims to shed light on some important aspects that have not yet been thoroughly debated.

In India Cement Ltd. v. State of Tamil Nadu- 2002-TIOL-2785-SC-MISC-CB, a seven-judge bench of the Supreme Court held that royalty is a tax, and that state legislatures lack the competence to levy taxes (under Entry 50, List II) on mineral rights because the subject matter is covered by the Mines and Minerals (Development and Regulation) Act, 1957. Relying on this decision, assessees have challenged the imposition of service tax and GST on mining royalty, arguing that it is a tax rather than a consideration for a service. These challenges are currently pending before the Supreme Court and various High Courts, with the Supreme Court having granted a stay on the levy of both service tax³ and GST⁴.

In a recent ruling by a nine-judge bench in Mineral Area Development Authority, the Supreme Court overruled the long-standing judgment in India Cement Ltd. and held that states have the legislative competence to tax mineral-bearing land under both Entries 49 and 50 of List II of the Seventh Schedule of the Constitution. The judgment was based on the premise that royalty is not a tax but compensation for rights and privileges enjoyed by the grantee under a leasing contract. However, the Supreme Court is yet to determine whether this judgment will apply prospectively or retrospectively.

The Mineral Area Development Authority case has significantly impacted the taxation landscape for mineral resources. Although the decision primarily concerns the state's power to tax mines and minerals, its implications for service tax and GST on mining royalty are profound.

Scope of Challenge Following the Nine-Judge Bench Judgment

The Supreme Court has ruled that mining is a lease arrangement for utilizing the benefits arising from land. The state's levy of cess/tax on extracted minerals is upheld not only under Entry 50 of List II but also under Entry 49, List I. As a result, challenges based solely on the premise that mining royalty is a tax are unlikely to succeed. However, the authors believe this does not mark the end of the road for this issue.

It is important to note that the challenge to the imposition of service tax on renting immovable property is currently pending before the Supreme Court. This challenge is partly based on the premise that the tax infringes on the state's power under Entry 49, List II ⁵. The authors believe that the outcome of the Mineral Area Development Authority case does not affect the challenge to the levy of service tax on renting immovable property. It is, therefore, possible to argue that taxing minerals (benefit arising from land) is covered by the state's taxing power under Entry 49, List II, and that no service tax could have been imposed under the residuary entry.

However, the situation is different for Goods and Services Tax imposed under Article 246A of the Constitution. The interplay between the Seventh Schedule and Article 246A will require a more nuanced approach.

What if the Mineral Area Development Authority Decision is held to apply prospectively?

It is well established that judges do not make law but rather discover or find the true law. Thus, when the court interprets a particular provision, it effectively declares that the law has always been as per its decision, and that it was never otherwise. The prospective application of a judgment by the court must, therefore, be expressly stated.⁶

The doctrine of prospective overruling was first applied by Justice Subba Rao in the case of I.C. Golak Nath (1967) 2 SCR 762 by invoking Article 142 of the Constitution, which empowers the Supreme Court to pass any decree or order necessary for doing complete justice in any case or matter pending before it. The reason for prospective overruling is that in cases where the courts radically change the past law that held the field for a substantial period, the retrospective application of such law may have consequences that cannot justly be ignored and erased by a new judicial declaration.

The present case is a suitable example for intervention by the Supreme Court to hold that this decision applies prospectively. If the Supreme Court rules that the decision in India Cement Ltd. is prospectively overruled, then for the past period, the law laid down by the India Cement Ltd. case will hold the field. It is also pertinent to note the decision in State of West Bengal v. Kesoram Industries Ltd. (2004) 10 SCC 201, where a Constitution Bench held that the decision in India Cement stemmed from an inadvertent error and clarified that royalty is not a tax. However, it is settled law that a bench of lesser strength cannot decide contrary to the decision of a larger bench. Moreover, the Court in Mineral Area Development Authority did not approve the reasoning of Kesoram Industries Ltd. that there was a typographical error in the India Cement Ltd. case but noted that there is an apparent divergence on the point of law between India Cements Ltd. and Kesoram Industries regarding whether or not royalty is a tax.

Therefore, if the nine-judge bench overrules the decision in India Cement Ltd. prospectively, it can be argued that for the past periods, mining royalty will be treated as a tax, and accordingly, in the absence of any consideration, service tax/GST will not be payable on mining royalty.

A different scenario will arise if the nine-judge bench simply rules that the past dues (pertaining to state levies on mining royalty) should not be recovered and says nothing about the prospective overruling of the point of law decided in the India Cement Ltd. case. Another possibility is that the nine-judge bench directs the payment of only the tax amount without interest and penalty, in a staggered manner, to balance the equities of the case. These are possible scenarios as the Supreme Court has complete discretion regarding the direction to be passed under Article 142 of the Constitution. In such a case, the argument that royalty is a tax for the past period will lose its force.

Thus, the service tax/GST impact of the judgment will depend to a large extent on the nature of the prospective ruling pronounced by the Supreme Court.

In case the Supreme Court decides against the prospective application of the judgment, would it be possible to argue that for service tax/GST purposes the judgment should be applied prospectively? The authors hold a contrarian view here that it might indeed be possible to do so-not least because the Union themselves, before the nine-judge bench, took a position that the judgment should apply prospectively.

Way Forward

The mining industry is now confronted with a complex tax scenario. The interplay between the Mineral Area Development case, the India Cements principle, and the GST/Service Tax law creates a challenging environment for tax compliance, both for the past and the future. Mining companies should closely monitor the evolving legal landscape and seek expert advice to navigate these complexities.

[The views expressed are strictly personal.]

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³ Udaipur Chamber of Commerce & Industry v. Union of India, 2021 (2) TMI 1219 - SC ORDER

⁴ Lakhwinder Singh v. Union of India, 2021-TIOL-266-SC-GST

⁵ Union of India v. UTV News, 2018-TIOL-124-SC-ST

⁶ Saurabh Chaudri (Dr.) v. Union of India, (2004) 5 SCC 618