Important point
Validation of a tax declared illegal may be done only if the grounds of illegality or invalidity are capable of being removed and are in fact removed and the tax thus made legal.

Headnote:(i) Finance Act, 2000—Sections 116 and 117—Finance Act, 2003—Section 158—Service Tax Rules, 1994 (as amended in 1997)—Rules 2(1)(d), (xii) and (xvii)—Imposition of service tax —Challenged—Goods transport operators as well as the clearing and forwarding agents went on an all India strike protesting against the imposition of service tax on them—Rule 2(1)(d), (xii) and (xvii) of Service Tax Rules 1994 were amended by imposing the tax in effect on customers of clearing and forwarding agents and goods transport operators—Imposition of service tax on customers was challenged by petitioners in Laghu Udyog Bharati case—During the pendency of writ petitions, notification No. 49/98 was issued exempting services provided by goods transport operators from the levy of service tax—Exemption granted on 2-6-1998 was prospective and no exemption had been granted with regard to the period from 16-7-1997 to 2-6-1998—Customs of clearing and forwarding agents continued to be liable to pay service tax—Striking down the Service Tax Rule 2(1)(d) (xii) and (xvii), this Court held that the person who is receiving the services cannot be made responsible for filing the return and paying the tax—Section 117 of the Finance Act, 2000 seeks to retrospectively validate the taxes earlier collected under the Service Tax Rules which the Supreme Court had directed to be refunded—Writ petitions filed challenging the validity of Sections 116 and 117 of the Finance Act, 2000 and Section 158 of the Finance Act, 2003—Whether by enacting Sections 116 and 117 of the Act of 2000 and Section 158 of the Act of 2003, the bases on which this Court struck down Rule 2(1)(d), (xii) and (xvii) of the Rules had been displaced or removed—(Yes)—A legislature is competent to remove infirmities retrospectively and make any imposition of tax declared invalid, valid—Whether levy of service tax on carriage of goods by transport operators was legislatively competent—Constitution of India—Entry 97, List I; Entry 56, List II.
       Held : There cannot be any doubt that the object of these sections is to nullify the effect of this Court’s decision in Laghu Udyog Bharati by retrospectively amending and validating provisions held to be illegal. It is a well settled principle that validation of a tax declared illegal may be done only if the grounds of illegality or invalidity are capable of being removed and are in fact removed and the tax thus made legal. (Para 19)
       As we read the decision in Laghu Udhyog Bharati, the basis was the patent conflict between Sections 65, 66, 68(1) and 71 of the Finance Act, 1994 as amended in 1997 on the one hand and Rules 2(1) (d) (xii) and (xvii) of the Service Tax Rules 1994 on the other. Each of these sections of the Finance Act 1994 as amended in 1997 proceeded on the basis that the tax was imposable on the person providing the service. All the other sections regarding the liability to furnish returns, assessments, penalties etc. flowed from that. It was because unamended Section 66 spoke of the liability to pay tax in respect of services “which are provided to any person by the person responsible for collecting the service tax” and Section 65(5) defined “assessee” as meaning “a person responsible for collecting the service tax”, that this Court held that clauses (xii) and (xvii) of Rule 2(1)(d) of the Service Tax Rules were illegal. As is apparent from Section 116 of the Finance Act, 2000, all the material portions of the two Sections which were found to be incompatible with the Service Tax Rules were themselves amended so that now in the body of the Act by virtue of the amendment to the word “assessee” in Section 65(5) and the amendment to Section 66(3), the liability to pay the tax is not on the person providing the taxable service but, as far as the service provided by clearing and forwarding agents and goods transport operators are concerned, on the person who pays for the services. As far as Section 68(1A) is concerned by virtue of the proviso added in 2003, the persons availing of the services of goods transport operators or clearing and forwarding agents have explicitly been made liable to pay the service tax. As we have said, Rule 2(1)(d) (xii) and (xvii) had been held to be illegal in Laghu Udhyog Bharati only because the charging provisions of the Act provided otherwise. Now that the charging section itself has been amended so as to make the provisions of the Act and the Rules compatible, the criticism of the earlier law upheld by this Court can no longer be availed of. There is thus no question of the Finance Act, 2000 overruling the decision of this Court in Laghu Udhyog Bharati as the law itself has been changed. A legislature is competent to remove infirmities retrospectively and make any imposition of tax declared invalid, valid. This has been the uniform approach of this Court. Such exercise in validation must of course also be legislatively competent and legally sustainable. Those issues are considered separately. On the first question, we hold that the law must be taken as having always been as is now brought about by the Finance Act, 2000. The statutory foundation for the decision in Laghu Udhyog Bharati has been replaced and the decision has thereby ceased to be relevant for the purposes of construing the present provisions (vide Ujagar Prints vs. Union of India [(1989) 3 SCC 488, 517 = AIR 1989 SC 516, 532]). Therefore subject to our decision on the question of the legislative competence of Parliament to enact the law, and assuming the amendments in 2003 to be legal for the time being, we reject the submission of the writ petitioners that by the amendments brought about by Sections 116 and 117 of the Finance Act 2000, the decision in Laghu Udhyog Bharati has been legislatively overruled. (Paras 20 to 22)
       The provisions relating to service tax in the Finance Act, 1994 make it clear under Section 64(3) that the Act applies only to taxable services. Taxable services has been defined, as we have already noted, in Section 65(41). Each of the clauses of that sub section refers to the different kinds of services provided. Most of the taxable services cannot be said to be in any way related to goods or passengers carried by road or waterways. (Para 29)
       It is clear therefore that Section 66 read with Section 65(41)(j) and (ma) Chapter V of the Finance Act 1994 do not seek to levy tax on goods or passengers. The subject matter of tax under those provisions of the Finance Act 1994 is not goods and passengers, but the service of transportation itself. It is a levy distinct from the levy envisaged under Entry 56. It may be that both the levies are to be measured on the same basis, but that does not make the levy the same. (Para 31)
       Since service Tax is not a levy on passengers and goods but on the event of service in connection with the carriage of goods, it is not therefore possible to hold that the Act in pith and substance is within the States exclusive power under Entry 56 of List II. What the Act ostensibly seeks to tax is what it, in substance, taxes. In the circumstances, the Act could not be termed to be a colourable piece of legislation. It is not the case of the petitioners that the Act is referable to any other entry apart from Entry 56 of List II. Therefore the negation of the petitioners submission perforce leads to the conclusion that the Act falls within the residuary power of Parliament under Entry 97 of List I. (Para 32)
       (ii) Constitution of India—Article 245; Entry 97, List I; Entry 56, List II —Service Tax—Legislative competence of Parliament to levy service tax—Parameters of two legislative entries—Principles for determining constitutionality of a statute—Legislative competence is to be determined with reference to the object of levy and not with reference to its incidence or machinery.
       Held : There is a distinction between the object of tax, the incidence of tax and the machinery for the collection of the tax. The distinction is important but is apt to be confused. Legislative competence is to be determined with reference to the object of the levy and not with reference to its incidence or machinery. There is a further distinction between the objects of taxation in our constitutional scheme. The object of tax may be an article or substance such as a tax on land and buildings under Entry 49 of List II, or a tax on animals and boats under Entry 58 List II or on a taxable event such as manufacture of goods under Entry 84 of List-I, import or export of goods under Entry 83 of List-I, entry of goods under Entry 52 of List II or sale of goods under Entry 54 List II to name a few. (Para 27)
       These principles may briefly be summarized thus:
        a) The substance of the impugned Act must be looked at to determine whether it is in pith and substance within a particular entry whatever its ancillary effect may be. (Prafulla Kumar Mukerjee vs. Bank of Commerce Ltd. & Ors. AIR 1947 PC 60, 65; A.S. Krishna Vs. State of Madras 1957 SCR 399; State of Rajasthan v. G. Chawla 1959 Supp. (1) SCR 904; Katra Education Society v. State of U.P. 1996(3) SCR 328; D.C. Johar & Sons (P) Ltd. v. STO Ernakulam 1971 (27) STC 120; Kanan Devan Hills Produce v. State of Kerala (1972) 2 SCC 218).
        b) Where the encroachment is ostensibly ancillary but in truth beyond the competence of the enacting authority, the statute will be a colourable piece of legislation and Constitutionally invalid (A.S. Krishna v. State of Madras (supra); A.B. Abdul Kadir v. State of Kerala (1976) 3 SCC 219, 232; Federation of Hotel & Restaurant v. Union of India (supra at p.651). If the statute is legislatively competent the enquiry into the motive which persuaded Parliament or the State legislature into passing the Act is irrelevant. (Dharam Dutt & Ors. v. Union of India & Ors. 2004(1) Scale 425).
        c) Apart from passing the test of legislative competency, the Act must be otherwise legally valid and would also have to pass the test of constitutionality in the sense that it cannot be in violation of the provisions of the constitution nor can it operate extraterritorially. (Para 28)
       (iii) Interpretation of Statutes—Taxing Entries in Constitution—Although generally a liberal interpretation must be given to taxing entries, this would not bring within its purview a tax on subject matter which a fair reading of the entry does not cover—If in substance, the statute is not referable to a field given to the State, the Court will not by any principle of interpretation allow a statute not covered by it to intrude upon this field—Constitution of India. (Para 23)

Judgment

Ruma Pal, J.—These writ petitions have been filed challenging the constitutional validity of Sections 116 and 117 of the Finance Act 2000 and Section 158 of the Finance Act, 2003 by which the decision of this Court in Laghu Udyog Bharati & Anr. Vs. Union of India & Ors. (1999) 6 SCC 418, striking down Rules 2(1)(d), (xii) and (xvii) of the Service Tax Rules, 1994 (as amended in 1997) was sought to be overcome.

2. The writ petitioners are the customers or clients of goods transport operators and forwarding and clearing agents. There are three main grounds on which they have based their challenge. They contend that the basis of the decision rendered in Laghu Udyog Bharati had not been removed or displaced by the impugned sections and could not therefore overrule, replace or override this Court’s decision. The second ground of challenge is that Parliament was legislatively incompetent to enact the law. It is stated that the imposition of the impugned levy encroaches upon the State Government’s power as defined in Entry 56 of List II of the Seventh Schedule to the Constitution which pertains to ‘Taxes on goods and passengers covered by road or on inland waterways’. The submission is that Parliament could not by resorting to the residuary Entry 97 of List 1 of the Seventh Schedule circumvent Entry 56 of List II and in the guise of levying service tax in fact levy a tax on the transport of goods. The constitutional validity of the imposition has also been challenged on the ground that it operated in discriminatory manner by singling out only the customers of goods transport operators and clearing and forwarding agents to pay tax whereas the recipients of other kinds of similar services were not subjected to such imposition.

3. Service tax was introduced for the first time under Chapter V of the Finance Act, 1994. Section 66 of the Act was the charging section and provided for the levy of service tax at the rate of five per cent of the value of the taxable services provided to any person by the person responsible for collecting the service tax. In other words, the levy was on the provider of the taxable services. “Taxable service” was defined in Section 65 to include only three services namely any service provided to an investor by a stock broker, to a subscriber by the telegraph authority and to a policy holder by an insurer carrying on general insurance business. Section 68 required every person providing taxable service to collect the service tax at specified rates. Section 69 of the Finance Act, 1994 provided for the registration of the persons responsible for collecting service tax. Sub-sections (2) and (5) indicated that it was the provider of the service who was responsible for collecting the tax and obliged to get registered. These Sections viz., 65, 66, 68 and 69 are pivotal to the present issue. They were amended thrice. The remaining sections of the 1994 Act substantially continued as originally enacted with minor changes. Under Section 70 of the Finance Act, 1994, every person responsible for collecting the service tax must furnish or cause to be furnished to the Central Excise Officer in the prescribed form and verified in the prescribed manner, a quarterly return. Sections 71, 72, 73 and 74 deal with the filing of returns, provisions for assessment, reopening of assessments and rectification of mistakes of assessment orders. Section 75 provides for payment of interest at the rate of one-half per cent for every month or part of a month by which the person responsible for collecting the service tax, delays in paying the tax to the credit of the Central Government. Section 76 deals with the imposition of penalty for failure to collect the service tax. Section 77 deals with the penalty for failure to furnish the prescribed return. Section 78 deals with the penalty for suppressing the value of taxable service and Section 79 for penalty for failure to comply with notices. No other section is required to be noted except

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2005 Supreme(SC) 500

Important pointValidation of a tax declared illegal may be done only if the grounds of illegality or invalidity are capable of being removed and are in fact removed and the tax thus made legal.

Cases Referred (21)

Important point
Validation of a tax declared illegal may be done only if the grounds of illegality or invalidity are capable of being removed and are in fact removed and the tax thus made legal.