Small scale exemption and Modvat credit apply to a registered ancillary unit when the duty-paid route is validly chosen.

Notification No. 175/86-C.E. extends small scale exemption to a registered small scale ancillary unit, because ancillary undertakings are treated as falling within the expression small scale industry. The Tribunal also treated the exemption as optional where the assessee chooses the duty-paid route, so duty paid on the final exempt goods could support Modvat credit and the assessee was not compelled to forgo credit merely because the final product was otherwise exempt. On that reasoning, the intermediate product was not subjected to duty.

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Issues: (i) Whether a registered small scale ancillary unit was entitled to the benefit of Notification No. 175/86-C.E. dated 01-03-1986. (ii) Whether the assessee could opt to pay duty on the final exempt goods and avail Modvat credit, and thereby avoid duty on the intermediate product.

Issue (i): Whether a registered small scale ancillary unit was entitled to the benefit of Notification No. 175/86-C.E. dated 01-03-1986.

Analysis: The exemption under Paragraph 4 of Notification No. 175/86-C.E. applied to a factory registered as a small scale industry. The Tribunal had earlier accepted that a small scale ancillary unit also falls within the expression small scale industry, relying on the Ministry of Industry clarification and the statutory recognition of ancillary and small scale undertakings in Section 11B of the Industries (Development and Regulation) Amendment Act, 1984.

Conclusion: The registered small scale ancillary unit was entitled to the exemption under Notification No. 175/86-C.E., and the Revenue's challenge failed.

Issue (ii): Whether the assessee could opt to pay duty on the final exempt goods and avail Modvat credit, and thereby avoid duty on the intermediate product.

Analysis: The Tribunal applied the principle that Modvat credit is available where duty is actually paid, even if the final product is otherwise exempt, and that exemption notifications are optional where the assessee chooses the duty-paid route. On that basis, the respondents were not bound to accept the exemption scheme if they elected to pay duty and take credit.

Conclusion: The assessee was entitled to pay duty on the final goods and avail Modvat credit, and duty was not payable on the intermediate product on the reasoning adopted below.

Final Conclusion: The exemption benefit was upheld in favour of the assessee, and the Modvat credit claim was also accepted, resulting in rejection of the Revenue's appeals and allowance of the cross objections.

Ratio Decidendi: A registered small scale ancillary unit qualifies as a small scale industry for exemption under Notification No. 175/86-C.E., and an assessee may opt for the duty-paid route with corresponding Modvat credit where the exemption is optional.

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