Constitutionality of GST on royalties for mining leases

By Sudipta Bhattacharjee and Shashank Shekhar, Advaita Legal
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Payment of royalties to the relevant governments is a common feature across the entire spectrum of mining leases in India (and across the world), irrespective of the type of mineral.

Sudipta BhattacharjeePartnerAdvaita Legal
Sudipta Bhattacharjee
Advaita Legal

Since the expansion of the concept of taxable service under the erstwhile service tax regime (vide introduction of a negative list-based regime in 2012 and legislative amendments in 2016) and now under the goods and services tax (GST), there has been a constant tussle between tax authorities and mining lease holders as to whether the grant of mining lease by a government is a taxable service, thereby attracting service tax or GST.

The reason why this issue continues to bother the trade/industry is that the statutory liability for payment of tax on such government services, if at all, will fall on the recipient of such services (ie., the company receiving the mining lease) under what is known in Indian indirect tax law as a reverse charge mechanism. And most importantly, given the large amounts that are typically payable as royalty/dead rent, the service tax/GST exposure can be very high.

However, there are strong constitutional and legal arguments against the levy of GST/service tax on royalty paid to central government/state governments.

Royalty qualifies as tax: It is a settled position of law that royalty paid under a mining lease is in the nature of tax and thus GST/service tax cannot be imposed on royalty since a tax cannot be in the nature of a payment for services rendered by the government.

Shashank ShekharManaging associateAdvaita Legal
Shashank Shekhar
Managing associate
Advaita Legal

Judicial orders in this regard: On the issue of applicability of service tax on royalty after 1 April 2016, a batch of petitions were filed before Rajasthan High Court in the case of Udaipur Chambers of Commerce and Industry v Union of India (2018) where the court held royalties paid on assignment of right to use natural resources were a consideration and found no illegality on levy of service tax on royalties. However, the judgment of Rajasthan High Court has been challenged before the Supreme Court, which stayed the payment of service tax on royalties.

It is also worth noting the case, Goa Mining Association and Anr v Union of India and Ors (2017), where Bombay High Court at Goa stayed the imposition of service tax on royalties under section 9 of the Mines and Minerals (Regulation and Development) Act, 1957. A similar stay has come from Madras High Court too.

The power to levy tax on mineral rights vests solely with the state governments under entry 50 of list II (state list) under the Indian Constitution. It is noteworthy that entry 50, list II has not undergone any change because of GST i.e. legislative field to tax mineral rights still vests with the states.

Further, the power to tax mineral rights specifically flows from entry 50 list II. In such a situation, power to tax under entry 50 list II being more specific, resort cannot be had to entry 97 of list I and/or article 246A to levy service tax/GST on royalties paid for grant of right to mine vide mining leases.

The differences in the concept of fees for services and fees for license has been constitutionally recognized. Therefore, royalty payments ipso facto do not become fees for services as they are in the nature of license fees.

Favourable clarification for alcohol sector: The GST Council in its 27th meeting on 04 May 2018, approved that no GST was leviable on license fees and application fees apropos alcoholic liquor for human consumption and that the same would also apply mutatis mutandis (once the necessary changes are made) to the demands raised by service tax authorities in the pre-GST era. The same logic should apply regarding royalty payments too.

On the basis of the above discussion, assessees can clearly choose to litigate the levy GST/service tax on royalties for grant of mining rights under mining leases and other comparable arrangements.

While taxability of mineral rights under GST may be a revenue neutral exercise for many in the mining industry (since their output is liable to GST and hence the input GST on royalties may be available as credit) but not for players in the oil and gas sector. The oil and gas sector also operates in a similar constitutional and legislative setup as other minerals, except that the output of this sector is outside the purview of GST and thus the GST paid on royalties becomes a cost for them.

Sudipta Bhattacharjee is a partner (tax controversy management and contract documentation) at Advaita Legal and Shashank Shekhar is a managing associate.

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