Modvat credit allowed for inputs used to make exempt paper bags treated as intermediate product in package tea manufacture

Exempt paper bags used in manufacturing package tea were treated as an intermediate product, not the final commercial product, because the excisable package tea came into existence only after tea was placed in the bags. Rule 57C did not bar credit merely because the bags were exempt, since Rule 57D(2) protects Modvat credit on inputs used for an exempt intermediate stage in the course of manufacture of the final excisable product. Credit on inputs used to make the paper bags was therefore admissible.

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Issues: Whether paper bags used in the manufacture of package tea could be treated as an intermediate product so that Modvat credit on inputs used in making such paper bags was admissible despite the paper bags being exempt from duty.

Analysis: The package tea was the final excisable product and came into existence only after tea was put into the paper bags. Rule 57C denied credit where inputs were used in manufacture of an exempt final product, while Rule 57D(2) protected credit where an exempt intermediate product arose in the course of manufacture of the final product. On that basis, the paper bags were treated as a step in the manufacturing process and therefore as an intermediate product for the purpose of producing package tea.

Conclusion: The appellants were entitled to Modvat credit under Rule 57D(2).

Final Conclusion: Credit could not be denied merely because the paper bags themselves were exempt, since they were treated as an intermediate stage in the manufacture of package tea.

Ratio Decidendi: Where an exempt item is not the ultimate commercial product but only an intermediate stage in bringing into existence the final excisable product, Modvat credit on inputs used for that intermediate stage is not barred by the exemption.

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