By TIOL News Service

NEW DELHI, AUGUST 12, 2016: THE Petitioners challenge the constitutional validity of Section 65 (105) (zzzzv) of the FA, 1994 whereby the provision to any person by a restaurant, by having the facility of air-conditioning in any part of its establishment serving food or beverage, including alcoholic beverages or both, in its premises has been made amenable to service tax.

Also challenged is the constitutional validity of Section 65 (105) (zzzzw) of the FA whereby the provision by a hotel, inn, guest house, club or camp-site by whatever name called to any provision, accommodation for a continuous period of less than three months has been made amenable to service tax.

The additional prayers are for a declaration that Section 66 E (i) of the FA to the extent it seeks to constitute a service portion in an activity of supply of food or other articles as “declared service" to be bad in law. Inasmuch as the Petitioners seek a declaration that Rule 2C of the Service Tax (Determination of Value) Rules, 2006 is invalid.

An array of submissions were made by both sides.

Legislative History

The High Court,at the outset, observed that by the 46 th Amendment Act, the expression "tax on the sale or purchase of goods" was inserted in Article 366 by a new clause (29A) to neutralize or modify the ruling of the apex court in Gannon Dunkerley (where it was held that where there is a contract involving sale of material and provision of labour which could not be separated, it would not fall within the definition of sale of goods since there was no supply of materials) and Northern India Caterers (India) Ltd. (where it is held that service of meals whether in a hotel or restaurant does not constitute a sale of food for the purpose of levy of sales tax but must be regarded as the rendering of a service in the satisfaction of a human need or ministering to the bodily want of human beings).

Nevertheless, the High Court added -

36. Importantly, in para 13 of the SOR for the 46th Amendment to the Constitution it was observed that the "proposed amendments would help in the augmentation of the State revenues to a considerable extent." The focus was on ensuring that State sales tax was leviable on the portion of supply of food and drinks even where it was as a part of a composite catering contract. The focus at that stage was not on capturing any portion of that composite contract for the purpose of levy of service tax. This was 1982 and service tax was not thought of till a decade later. Therefore, it is difficult to imagine that Parliament had in 1982 at the time of the 46th Amendment consciously decided that no portion of the composite contract of a catering contract would be amenable to levy of Union service tax.

Validity of Section 65 (105) (zzzzv) of the FA

As regards the validity of Section 65 (105) (zzzzv) of the FA which provides for levy of service tax on provision of service by air-conditioned restaurants having license to serve liquor, the High Court observed –

+ What is essential in proceeding to examine the challenge in the present case is to determine whether the composite catering contract is capable of being segregated into the portion pertaining to supply of goods and the portion pertaining to the service provided.

+ The subject matter of “transfer, delivery or supply” are the “goods", which in this case would be food or any other article fit for consumption whether or not intoxicated. The key expression is not just “supply" but “supply of goods". It is arguable that the expression “supply of goods" connotes that the dominant nature of the transaction is the transfer, delivery or supply of goods and the provision of service is only incidental to such transfer, delivery or supply.

+ Even if some part of the composite transaction involves the rendering of service, there should be no difficulty in recognizing the power of the Union to bring to tax that portion.

+ The Parliament has made the legal position explicit by inserting Section 66 E (i) of the FA read as it were with Section 65 (22) and 65 (44) of the FA. It states that the "service portion in an activity wherein goods, being food or any other article of human consumption or any drink (whether or not intoxicating) is supplied in any manner as a part of the activity” is a 'declared' service. The legislative carving out of the service portion of the composite contract of supply of food and drinks has sound constitutional basis. Even if this is viewed as Parliament deploying a legal fiction, it is legally permissible.

+ Thus it is not possible to accept the contention of the Petitioners that Parliament lacks the legislative competence to enact Section 65 (105) (zzzzv) of the FA with a view to bringing the service component of the composite contract of supply of food and drinks by an air-conditioned restaurant within the service tax net.

Challenge to Rule 2C of the 2006 Rules

+ What Rule 2C does is to enable the assessing authority to put a definite value to the service portion of the composite contract of supply of goods and services in an air-conditioned restaurant. Correspondingly there is an abatement for that portion which pertains to the supply of goods in the form of food and drink which would be amenable to sales tax or value added tax.

+ Such grant of abatement has the approval by the Supreme Court in Association of Leasing & Financial Service Companies v. Union of India wherein the abatement was 90% and the standard rate of service tax was applied on @ 10% of the cost of the leasing transaction which approximately represented the service element.

+ It also requires to be kept in mind that the ready reckoner formula is useful where an assessee does not maintain accounts in a manner that will enable the assessing authority to clearly discern the value of the service portion of the composite contract.

+ It hardly needs emphasis that when during the course of assessment proceedings an assessee is able to demonstrate, on the basis of the accounts and records maintained by it for that purpose, that the value of the service component is different from that obtained by applying Rule 2C the assessing authority would be obliged to consider such submission and give a decision thereon. With the machinery provision for the levy and determination of service tax on the service portion clearly being spelt out in the Rules themselves, the legal requisites highlighted in Govind Saran Ganga Saran v. CST stand satisfied.

+ For all the aforementioned reasons, the Court upholds the constitutional validity of Section 65 (105) (zzzzv) and Section 66 E (i) of the FA read with Section 65 (22) and 65 (44) thereof and Rule 2 C of the 2006 Rules.

Challenge to the validity of Section 65 (105) (zzzzw) of the FA – ST on short-term accommodation provided in a hotel.

+ Contention of the Petitioners is that levy of tax on ‘luxuries' as contemplated under Article 246 read with Entry 62 of List II (State List) of the Constitution entirely covers the field and therefore, Parliament lacks the legislative competence to levy such service tax.

+ Under Section 2 (i) of the Delhi Tax Luxuries Act, 1996 ('DTL Act'), the expression "luxury provided in a hotel" is defined to mean "accommodation and other services provided in a hotel, the rate or charges for which including the charges for air-conditioning, telephone, radio, music, extra beds and the like, is five hundred rupees per room per day or more; but does not include the supply of food, drinks or other services which is separately charged for."

+ The expression "hotel" has been defined in Section 2 (g) of the DTL Act to include "a residential accommodation, a lodging house, an inn, a club, a resort, a farm house, a public house or a building or a part of a building where a residential accommodation is provided by way of a business."

+ Turning to Section 65 (105) (zzzzw) of the FA it contemplates a service provided "to any person by a hotel, inn, guest house, club or camp-site by whatever name called, for providing of accommodation for a continuous period of less than three months." When the above definition is placed alongside the above extracted provisions of the DTL Act, it is difficult to discern any real difference in the subject matter of the two levies.

+ In other words, what is defined under the DTL Act of 1996 is an identical service of providing accommodation in a hotel. The only additional pre-fix in the FA is the hyphenated word "short-term" in Section 65 (105) (zzzzw) followed by the expression "for a period of less than three months". However, such provision of short-term accommodation of less than three months is by no means exempt from luxury tax under the DTL Act. The very same taxable event of providing service by way of accommodation in a hotel etc. is the subject matter of both levies viz., luxury tax under the DTL Act and service tax under the FA.

+ Consequently Section 65 (105) (zzzzw) of the FA fails the foremost test of constitutionality of a Union tax. Here the DTL Act which provides for levy of luxury tax on provision of the service of accommodation in a hotel etc. is traceable to Entry 62 of List II and the State is therefore competent to levy and collect luxury tax on such taxable event.

+ While seeking to explain the exemption granted to rooms with a tariff of less than Rs. 1000 per day, reference is made (by respondent) to the threshold limits fixed in the luxuries tax legislation of the States like for e.g., Maharashtra and Delhi. It is, therefore, plain that there is not merely an overlap of luxury tax and service tax as far as accommodation provided in hotels is concerned. It is in fact the same levy but by different statutes: one enacted by the State and the other by the Union. This is indeed an instance of encroachment by the Union into a field that is completely covered by a State legislation.

+ Significantly, the 2006 Rules do not provide the machinery for levy and collection of tax on accommodation. Even the rebate provided on the basis of the room tariff is not engrafted into the 2006 Rules. While Rule 2C provides the basis for determining the value of services for the purposes of Section 65 (105) (zzzzv), there is no corresponding provision for determining the value of the service in the case of Section 65 (105) (zzzzw) of the FA.

+ The exemption from service tax on the provision of accommodation for a room having a declared tariff of less than Rs.1,000/- per day or equivalent is by Notification No. 12/2012 dated 17th March 2012. This is not provided in the Act or the Rules.

+ Court is satisfied that the provision of short-term accommodation in hotels etc. envisaged in Section 65 (105) (zzzzw) of the FA read with Section 65 (44) of the FA is a taxable event that is entirely covered by the term 'luxuries' in Entry 62 of List II of the Seventh Schedule to the Constitution and, therefore, outside the legislative competence of Parliament.

Conclusions :

++ Constitutional validity of Section 65 (105) (zzzzv) read with Section 66E (i), Section 65 (22) of the Finance Act, 1994 as well as Rule 2C of the Service Tax (Determination of Value) Rules, 2006 is upheld;

++ Section 65 (105) (zzzzw) of the Finance Act, 1994 pertaining to levy of service tax on the provision of short-term accommodation and the corresponding instructions/circulars seeking to operationalize the levy are unconstitutional and invalid.

The writ petition was disposed of.

(See 2016-TIOL-1730-HC-DEL-ST)