The Constitution provides exemption to the property of the Union from state taxes. Similarly, the property or income of the states is also exempt from Union taxation.
However, in practice, the interpretation of these provisions in Articles 285 and 289 is riddled with legal pitfalls. Therefore, a bench of the Supreme Court had referred the complexities, highlighted in Karya Palak, CPWD vs Rajasthan Taxation Board, to a larger bench.
This, despite the fact that the question had already been examined by nine-judge Constitution benches twice earlier. The Supreme Court, therefore, reviewed the law recently and secured the principles from further doubts.
The problem could arise in different situations. Can a state levy sales tax on goods sold by the collector of customs? Can a state impose sales tax on goods sold by the railways and sold to their catering department? In the present Rajasthan case, the state slapped several Union agencies with demands for sales tax.
In one typical case, the Central Public Works Department undertook the work of erection of barbed wire fencing along the India-Pakistan border.
In order to get the construction work done, CPWD awarded the works to various contractors. Under the terms of the contracts, it had agreed to supply materials to the contractors.
CPWD pleaded that it had bought the materials from various concerns and the transactions were subject to sales tax at that stage. Therefore, tax had already been paid once.
Moreover, the property so transferred, being the property of the Union, the state had no authority to impose tax on the property of the Union.
When CPWD moved the high court against the state demand, the court ruled that there was sale and the state could impose the levy because it was an indirect tax. Therefore, the Union agencies appealed to the Supreme Court, invoking the protection of Article 285.
The Supreme Court took the help of two earlier judgements to resolve the conflict in favour of the states. The rule applicable is that the exemption is available only to direct taxes.
Indirect taxes are not included in the prohibition. This has been laid down in a presidential reference in the Sea Customs Act. The court was dealing with Article 289 in that case. It specifically mentioned sales tax, central excise duty and customs duty as exempted categories.
The same principle will apply in the context of Article 285 because both the states and the Union are prohibited from taxing each other's agencies.
Later, the question reappeared in New Delhi Municipal Council vs State of Punjab. A nine-judge bench reiterated that the bar operated only against direct taxes.
Excise and customs are not taxes on property or income of the state or the Union; they are taxes on manufacture/production of goods and on import/export of goods. Therefore, the levy was valid, the Constitution bench held.
Earlier, some benches had given wrong answers. In the case of the railways, the court had held that the goods purchased by the railways for its catering department were liable to sales tax by the states.
This view held in State of Punjab vs Union of India, has now been held to be erroneous. In another case, Collector of Customs vs State of West Bengal, the court had applied the correct law and upheld the validity of the tax imposed by the state on the sale of goods sold by the collector of customs.
The latest judgement of the Supreme Court clarifies the position for both the states and the Union. There are no winners in the case. Both sides can tax each other, as illustrated in the above cases.
It needs only a bit of caution on the part of the law-makers and the revenue department. They should only make sure whether the tax is direct or indirect. If it is indirect, they can go ahead with the imposition of levy.
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