2024 (1) TMI 640 - AT - Service Tax

Royalty paid to Government for oil/natural gas extraction not liable to service tax under reverse charge mechanism

CESTAT Chennai held that royalty paid by appellant to Government for oil/natural gas extraction is not liable to service tax under reverse charge ... Levy of service tax - Royalty paid by appellant to Government - Demand under reverse charge mechanism Correctness of decision of the Hon’ble Supreme Court in the case of India Cements [1989 (10) TMI 53 - SUPREME COURT] wherein it was held that royalty is a tax was delivered by a seven member bench, whereas, Kesoram Industries judgement [2004 (1) TMI 71 - SUPREME COURT] was given by a five member bench and that the judgement of seven member bench is to be followed by five member bench. The five member bench of the Hon’ble Supreme Court in the case of State of West Bengal vs. Kesoram Industries Limited and Others, has clearly held that there was an error in the judgement which is attributable either to a stenographer’s devil or to sheer inadvertence. Whether Royalty is in the nature of tax and is not a consideration for services? - HELD THAT:- The issue as to whether royalty is a tax, was considered by the Hon’ble Supreme Court in the case of India Cement Ltd vs. State of Tamil Nadu [1989 (10) TMI 53 - SUPREME COURT] and held that royalty is a tax. The said decision is rendered by seven judges bench of the Hon’ble Supreme Court. Later, in the case of State of West Bengal vs Kesoram Industries Ltd & Ors. (decided on 15.1.2004) [2004 (1) TMI 71 - SUPREME COURT] the decision rendered in the case of India Cement Ltd was doubted. The Ld. Special Counsel appearing for department has relied on this judgment rendered by five judges bench decision to argue that royalty is not a tax - It is brought to our notice that the issue whether royalty by itself is a tax has now been referred to nine judges bench in the case of Mineral Area Development [2011 (3) TMI 1554 - SUPREME COURT]. In a recent decision, the Hon’ble Apex Court in the case of RAJNISH KUMAR RAI VERSUS UNION OF INDIA & ORS. [2023 (9) TMI 1421 - SUPREME COURT], held that judicial proprietary does not allow to ignore the decision laid by the Court even though referred to larger bench. The ‘royalty’, in the present case, even if in the nature of regulatory fee or license fee contain a part which is compensatory nature. It thus acquires a hybrid nature. When regulatory part of the fee can be kept outside the purview of ‘consideration’, the compensatory part of the fee would have an element of quid pro quo, so as to fall within the purview of ‘consideration’ for service. The question then is how to carve out the element of compensatory part from the royalty paid. The Finance Act, 1994 does not provide for a mechanism to levy service tax on an amount which has the characters of both regulatory fee, as well as compensatory fee. Whether the dominant part is regulatory or compensatory in nature? - HELD THAT:- The amount of Royalty to be paid is determined on the basis of the well head prices. The royalty to be paid differs periodically. In order to collect royalty, a method is provided by the Act. The payment on the basis of well head prices is a measure for collection of the royalty. The provisions contained in the ORD Act, 1948 read with P & NG Rules, 1959 enables us to draw a strong inference that royalty is more of a regulatory fee than compensatory. The amount of royalty to be paid though differs periodically, in our view the payment of royalty is a regulation of checking the over exploitation of the resources of our mother earth. Being dominantly in the nature of regulatory fee, royalty does not fit into the definition of consideration for services provided, as under the service tax law. The document is in the nature of ‘Lease’ and not ‘assignment of right to use’. Further, Rule 17 prohibits transfer of assignment. The said Rule would bring out that the underlying nature of the document issued by the Government to appellant is ‘lease’ and not ‘assignment’. A right created under a lease agreement is different from an ‘assignment’ of right to use’. Sl.No.61 of the Mega Exemption notification uses the words ‘assignment of right to use’ - there are no reason to hold that it is an assignment of right to use of oil/natural gas. The activity impugned in the SCN is the ‘assignment of right to use’ which is not so as per the document issued by Government of Tamil Nadu to the appellant. The department does not have a case, that the activity falls within lease and that the royalty paid is rent. This is because, if so, the liability to discharge service tax would be on the government (being the service provider). The demand raised is indeed on the basis of Sl.No.61 of the exemption notification. Para 15 of the SCN also would show that the demand has been raised on the basis that the royalty which is paid periodically is not exempted from service tax. The argument put forward by the Ld. Counsel that the liability is derived on the basis of an exemption notification and not charging provision is not without substance. The demand of service tax cannot sustain and requires to be set aside - Appeal allowed. Issues Involved:1. Whether the demand of service tax on the royalty paid by the appellant to the Government is sustainable.2. Whether royalty is in the nature of tax or consideration for services.3. Whether the grant of mining lease by the State Government is a service of assignment of right to use natural resources.4. Whether the taxable event for the levy of service tax occurred prior to the introduction of the levy.5. Whether the Central Government is empowered to levy tax on mineral rights.Summary:Issue 1: Demand of Service Tax on RoyaltyThe main issue for analysis is whether the demand of service tax on the royalty paid by the appellant to the Government is sustainable. The appellant argued that royalty is in the nature of tax and not a consideration for services. The Hon'ble Supreme Court in the case of India Cements Ltd vs. State of Tamil Nadu (1990 AIR 85) held that royalty is a tax. This decision was rendered by a seven-judge bench. Later, in the case of State of West Bengal vs. Kesoram Industries Ltd & Ors. (AIR 2005 S.C. 1646), the decision in India Cements Ltd was doubted by a five-judge bench. The issue of whether royalty is a tax has now been referred to a nine-judge bench in the case of Mineral Area Development (2011) 4 SCC 450. The Tribunal followed the decision of the seven-judge bench in India Cements Ltd to hold that royalty is a tax.Issue 2: Nature of RoyaltyThe appellant contended that royalty is a statutory payment and not a consideration for services. The Ld. Counsel argued that the royalty paid is a regulatory fee and not a consideration for services. The Tribunal found that even if royalty is a regulatory fee, it contains a part that is compensatory in nature, which falls within the purview of 'consideration' for service. However, the Finance Act, 1994 does not provide a mechanism to levy service tax on an amount that has the characteristics of both regulatory fee and compensatory fee. The Tribunal concluded that royalty is dominantly a regulatory fee and does not fit into the definition of consideration for services.Issue 3: Grant of Mining LeaseThe Tribunal examined whether the grant of mining lease by the State Government is a service of assignment of right to use natural resources. The document issued by the Government of Tamil Nadu was found to be a mining lease and not an assignment of right to use. The Tribunal held that the activity impugned in the SCN is the 'assignment of right to use,' which is not so as per the document issued by the Government to the appellant. The Tribunal concluded that the activity is likely to fall under 'Renting of Immovable Property Services,' where the liability to pay service tax is on the government.Issue 4: Taxable EventThe appellant argued that the taxable event for the levy of service tax occurred prior to the introduction of the levy on 01.04.2016. The Tribunal found that the mining leases were granted by the State of Tamil Nadu to the appellant on 06.08.2009, which is before the introduction of the levy. The Tribunal held that if the taxable event has occurred prior to the introduction of the levy, no service tax can be levied merely because payment was made subsequent to the introduction of the levy.Issue 5: Central Government's Power to Levy TaxThe appellant contended that taxation of mineral rights is the imminent domain of the State Government, and the Central Government cannot levy tax on the royalty payments made to the State Government. The Tribunal noted that the Hon'ble Supreme Court in the case of Kesoram Industries clarified that royalty is not a tax. However, the Tribunal followed the decision in India Cements Ltd, which held that royalty is a tax, and concluded that the demand of service tax on royalty is not sustainable.Conclusion:The Tribunal set aside the demand of service tax on royalty, holding that royalty is a tax and not a consideration for services. The appeal was allowed with consequential reliefs.