SEZ Units are exempt from Compensation Cess on Imported Goods - Arguments disputing the accuracy of Maithan Alloys (Andhra HC) decision

[Somesh Jain]

The recent ruling by the Andhra Pradesh High Court in the case of MAITHAN ALLOYS LIMITED VERSUS UNION OF INDIA, OFFICE OF THE DEVELOPMENT COMMISSIONER APSEZ, THE DEVELOPMENT COMMISSIONER, COMMISSIONER OF CUSTOMS - 2024 (1) TMI 305 - ANDHRA PRADESH HIGH COURT has stirred a significant debate regarding the payment of Compensation Cess on imports by Special Economic Zone (SEZ) units. This article aims to delve into the intricacies of the case, analyze the arguments presented, and argues that the decision needs to be revisited to align it with the purpose and interpretation of the SEZ Act.

Overview of the Maithan Alloys Decision

The Andhra Pradesh High Court's decision in the Maithan Alloys held that SEZ units are liable to pay Compensation Cess on imported goods. The main observation of the Court’s finding are as under:

• Notification No.64/2017-Cus, dated 05.07.2017, exempts Integrated Goods and Services Tax (IGST) under Section 3(7) of the Customs Tariff Act, 1975. However, no specific exemption is provided for Compensation Cess under Section 3(9) of the same act.
• Section 7 of the SEZ Act only exempts certain cesses specified in the First Schedule. Notably, Compensation Cess is not included in this schedule, and no subsequent amendment has been made to incorporate it.
• Section 26(1)(a) of the SEZ Act grants exemption from "any duty of customs." However, it uses the term "duty" instead of the broader term "tax, duty, and cess" used in Section 7.
• A tax is generally levied to raise the revenue for the State and the same can be used for any public purpose. However, a cess though broadly a tax, it is a special kind of tax levied for some special purpose which will be levied as an increment to the existing tax.
• Further, in section 2(15) of the Customs Act, 1962 the term ‘duty’ is defined which means a duty of customs leviable under the said Act.  

These observations formed the basis of the court's conclusion that SEZ units are obligated to pay Compensation Cess on imported goods, despite the exemption of IGST.

While the court's interpretation of the law is grounded in the literal reading of the relevant provisions, with due respect, it overlooks the broader intent and scope of Section 26(1)(a) of the SEZ Act.

Section 26(1)(a) of the SEZ Act applies to all duties of customs leviable on import of goods.

The relevant extract of Section 26(1)(a) of the SEZ Act is as under:

“26. Exemptions, drawbacks and concessions to every Developer and entrepreneur.

(1) Subject to the provisions of sub-section (2), every Developer and the entrepreneur shall be entitled to the following exemptions, drawbacks and concessions, namely: -

(a) exemption from any duty of customs, under the Customs Act, 1962 or the Custom Tariff Act, 1975 or any other law for the time being in force, on goods imported into, or service provided in, a Special Economic Zone or a Unit, to carry on the authorised operations by the Developer or entrepreneur;

…”

Section 26(1)(a) grants exemption from any duty of customs, under the Customs Act, 1962 (52 of 1962) or the Customs Tariff Act, 1975 (51 of 1975) or any other law for the time being in force.

In Maithan Alloys (supra), the Court concluded that the above section grants exemption only to duties leviable under Customs Act, 1962 as under:

“a conjunctive study of Section 26(1)(a), 2(zd) of SEZ Act, 2005 and Section 2(15) of Customs Act, 1962 would pellucidly tell us that the phrase ‘duty of customs’ used in Section 26(1)(a) of SEZ Act only refers to duty leviable under Customs Act, 1962 but the said phrase does not include cess under GST Compensation Act.”

The above finding does not give effect to the express language of Section 26(1)(a) of the SEZ Act which provides “exemption from any duty of customs, under the Customs Act, 1962 or the Custom Tariff Act, 1975 or any other law for the time being in force.’ This exemption has been casted very widely. To restrict the said exemption to only duties of custom levied under the Customs Act, 1962 will make the words “or the Custom Tariff Act, 1975 or any other law for the time being in force” redundant. Thus, the term “duty of customs” cannot be construed so narrowly.

It is the understanding of the Government that IGST and Compensation Cess leviable on import of goods is a “duty of customs” levied under Section 3 of the Customs Tariff Act, 1975

At the time of introduction of GST, the Government issued Notification No. 15/2017-Integrated Tax (Rate), dated 30-6-2017 granting exemption from payment of IGST on import of goods and services under Section 6 of the IGST Act. However, the said notification was shortly rescinded vide Notification No. 17/2017-Integrated Tax (Rate), dated 5-7-2017. Thereafter, separate notifications were issued for:

• Exemption from payment of IGST on import of services under Section 6 of the IGST Act [Notification No. 18/2017-Integrated Tax (Rate), dated 5-7-2017], and
• Exemption from payment of IGST on import of goods under Section 25 of the Customs Act, 1962 [Notification No. 64/2017-Cus., dated 5-7-2017].

The above exercise shows that, as per the Government, IGST levied under sub-section (7) of section 3 of the Customs Tariff Act, 1975 (51 of 1975) read with section 5 of the Integrated Goods and Services Tax Act, 2017 is a duty of customs.

Further, various notifications are issued granting exemption to Compesnation Cess on import of goods in exercise of powers under Section 25 of the Customs Act, 1962 (such as Notification No. 78/2017-Cus., dated 13-10-2017, Notification No. 79/2017-Cus., dated 13-10-2017, etc.). This reinforces the understanding of the government that Compensation Cess levied on import of goods is a duty of customs.

The taxable event determines the nature of tax/duty/cess. The purpose for which the cess is levied is irrelevant.

The Andhra Pradesh High Court relied on the decision of UNION OF INDIA & ANR. VERSUS MOHIT MINERAL PVT. LTD. AND VICE-VERSA - 2018 (10) TMI 200 - SUPREME COURT, which held that Compensation Cess is levied under the powers granted under Article 246A of the Constitution relating to goods and services tax. However, the issue in Hind Energy (supra) the Court was not concerned with respect to levy of compensation cess on import of goods.

It is the taxable event which determines the nature of the tax/duty/cess. The aspect of taxable event was lucidly explained in the case of IN RE: THE BILL TO AMEND S. 20 OF THE SEA CUSTOMS ACT - 1963 (5) TMI 57 - SUPREME COURT. The Court explained that excise duty is a tax on manufacture of goods whereas sales tax is a tax on event/act of sale. Similarly, customs duty is a tax on import or export of goods. The relevant extract of the said decision is as under:

“32. This will show that the taxable event in the case of duties of excise is the manufacture of goods and the duty is not directly on the goods but on the manufacture thereof. We may in this connection contrast sales tax which is also imposed with reference to goods sold, where the taxable event is the act of sale. Therefore, though both excise duty and sales-tax are levied with reference to goods, the two are very different imposts; in one case the imposition is on the act of manufacture or production while in the other it is on the act of sale. In neither case therefore can it be said that the excise duty or sales tax is a tax directly on the goods for in that event they will really become the same tax. It would thus appear that duties of excise partake of the nature of indirect taxes as known to standard works on - economics and are to be distinguished from direct taxes like taxes on property and income.

33. Similarly in the case of duties of customs including export duties though they are levied with reference to goods, the taxable event is either the import of goods within the customs barriers or their export outside the customs barriers. …”

Therefore, when the taxable event pertains to the supply of goods or services, the imposition results in GST. Conversely, when the taxable event concerns the import of goods, the imposition results in a duty of customs. Hence, Compensation Cess imposed on domestic supplies constitutes a tax on supply, specifically GST. However, when this Compensation Cess is imposed on imported goods, it takes on the nature of duty of customs (this is the understanding of the Government).

This concept becomes clear through a simple example of Education Cess. When Education Cess is imposed alongside service tax, it assumes the character of a tax on the provision of services. Similarly, when imposed alongside excise duty, it becomes a tax on the manufacturing of goods. In the context of income tax, it adopts the form of a tax on income, and when added to customs duty, it transforms into a tax on the import of goods.

The above concept has been explained by the Supreme Court in the case of M/S. GURUSWAMY & CO. ETC VERSUS STATE OF MYSORE & ORS - 1966 (9) TMI 143 - SUPREME COURT. The court held that the validity and nature of the cess is not to be judged by its name but in the same way as the validity of the tax to which it is an increment. The relevant extract of the said decision is as under:

“The word 'cess' is used in Ireland and is still in use in India although the word rate has replaced it in England. It means a tax and is generally used when the levy is for some special administrative expense which the name (health cess, education cess, road cess etc.) indicates. When levied as an increment to an existing tax, the name matters not for the validity of the cess must be judged of in the same way as the validity of the tax to which it is an increment.”

In Maithan Alloys (supra), the Andhra Pradesh High Court referenced the aforementioned excerpt; however, it primarily emphasized the initial segment concerning the purpose of cess imposition, while the latter part addressing the nature and legality of the cess has not been given due consideration in the court's findings.

Tax, duty or cess are interchangeable terms. 

Article 366(28) of the Constitution of India defines the term “taxation” as under:

“(28) “taxation” includes the imposition of any tax or impost, whether general or local or special, and “tax” shall be construed accordingly;”

The Supreme Court in the case of D.G. GHOSE & CO PVT. LTD. VERSUS STATE OF KERALA & ANR - 1979 (9) TMI 189 - SUPREME COURT, held that the word “tax” is used in its widest sense and includes all money raised by taxation. The relevant extract of the said decision is as under:

“5. The word “tax” in its widest sense includes all money raised by taxation. It therefore includes taxes levied by the Central and the State legislatures, and also those known as “rates”, or other charges, levied by local authorities under statutory powers. “Taxation” has therefore been defined in clause (28) of Article 366 of the Constitution to include “the imposition of any tax or impost, whether general or local or special”, and it has been directed that “tax” shall be “construed accordingly”.

Thus, nothing turns out on the use of specific word “tax” or “duty” or “cess” or “surcharge” or “rate”. All are compulsory impost and thus covered within the ambit of the term “taxation”.

The Andhra Pradesh High Court in the case of N. BALARAJU AND ORS. VERSUS THE HYDERABAD MUNICIPAL CORPORATION AND ORS. - 1959 (8) TMI 63 - ANDHRA PRADESH HIGH COURT, held that it is impossible to distinguish tax from cess or duty and that they did not convey different ideas:

“49. In Daulat Ram v. Lahore Municipality, AIR 1941 Lah 40 Din Mohammad, J., after referring to the definition of cess in Murray's Oxford Dictionary as a tax levied for a specific object, remarked that it was impossible to distinguish tax from cess or duty and that though the draftsmen had used three different terms in different parts of the Government of India Act, they did not convey different ideas thereby.”

The Andhra Pradesh High Court in the above case further held that words duty, cess and tax are interchangeable terms.

Thus, the finding of the High Court in Maithan Alloys (supra) that Section 7 of the SEZ Act uses the word “tax, duty and cess” whereas Section 26(1)(a) only uses the word “duty” seems overly restrictive and fails to consider the broader intent of the exemption.

Purposive Interpretation is required to be given to exemption to Section 26 of the SEZ Act.

In GOVERNMENT OF KERALA & ANR. VERSUS MOTHER SUPERIOR ADORATION CONVENT - 2021 (3) TMI 93 - SUPREME COURT, the Supreme Court acknowledged the existence of earlier decisions including COMMISSIONER OF CUSTOMS (IMPORT) , MUMBAI VERSUS M/S. DILIP KUMAR AND COMPANY & ORS. - 2018 (7) TMI 1826 - SUPREME COURT endorsing strict construction of exemption provisions. The Court, however, drew a distinction between a general exemption and a purposive exemption, and held that “there is another line of authority which states that even in tax statutes, an exemption provision should be liberally construed in accordance with the object sought to be achieved if such provision is to grant incentive for promoting economic growth or otherwise has some beneficial reason behind it”.

The purpose of the exemption granted under the SEZ Act is promotion of exports. The general principle of strict construction applicable to exemption notification will not apply to the interpretation of Section 26 of the SEZ Act. The provision has to be interpretated to give effect to the purpose for which the exemption has been granted.

Moreover, the interpretation that the exemption delineated in Section 26(1)(a) of the SEZ Act encompasses all customs duties, including IGST and compensation cess on imported goods, aligns with the language of the section without doing any violence to it.

Since, the exemption is operating from the Statute, no separate notification is necessitated.

The exemption from payment of any duty of customs is operating from the Statute itself. Further, Section 51 of the SEZ Act grants overriding effect to the provisions of the SEZ Act over any law for the time being in force.

Thus, no separate notification is needed under the laws where such duties, taxes or cesses are imposed. Furthermore, the notification providing exemption from IGST is unnecessary since the exemption is already conferred by Section 26(1)(a) of the SEZ Act.

Therefore, the observation that no notification has been issued to grant exemption to compensation cess appears to be inaccurate.

Conclusion

In conclusion, the recent ruling by the Andhra Pradesh High Court asserting that SEZ units are liable to pay Compensation Cess on imported goods has stirred debate regarding its implications. The court emphasized the absence of specific exemptions for Compensation Cess under Section 7 of the SEZ Act and highlighted the distinction between the term "duty" under Section 26 and "tax, duty, and cess" in Section 26(1)(a) of the Act.

However, this interpretation overlooks the broader scope of Section 26(1)(a), which grants exemption from any duty of customs. It also fails to consider the taxable event triggering the compensation cess, namely, the import of goods, which according to the understanding of the Government classifies it as a duty of customs.  

Therefore, while the court's decision raises some unintended lapses by the Government in drafting and implementation of the law; however, it does not fully capture the legislative intent behind the exemption provisions of the SEZ Act, warranting review of the legal position.