Royalty is Not a Tax but a Contractual Payment

By: Admin
February 05, 2025
Categories: Important Pronouncements
4 Min Read

Overview

The Hon’ble Chhattisgarh High Court, in the case of Mahesh Sharma v. Union of India [WPT No. 151 of 2024], reaffirmed that royalty is not a tax but a contractual payment. This judgment aligns with the Supreme Court’s decision in Mineral Area Development Authority v. Steel Authority of India [Civil Application Nos. 4056-4064 of 1999], which distinguished royalty from taxes.

Case Background

Mr. Mahesh Sharma, the petitioner, challenged a Show Cause Notice (SCN) issued by the Revenue Department. The notice demanded service tax of ₹36,000, including Swachh Bharat Cess and Krishi Kalyan Cess.

The SCN was issued under Section 73(1) of the Finance Act, 1994, in conjunction with Section 174 of the CGST Act, 2017. Additionally, the petitioner received a notice summoning him for a personal hearing.

Mr. Sharma argued that royalty constitutes a tax. He contended that levying service tax on it amounted to taxing a tax, which he claimed violated the Finance Act.

Legal Issue

The primary issue before the court was whether royalty payments should be classified as a tax and, therefore, be exempt from service tax.

Court’s Decision

1. Royalty is a Contractual Payment

The court relied on the Supreme Court’s judgment in Mineral Area Development Authority v. Steel Authority of India to clarify that royalty is a contractual consideration. It is paid by a lessee to a lessor for specific rights, such as mining. The method of collection may resemble tax recovery, but that does not make it a tax.

2. No Tax-on-Tax Violation

The court rejected the argument that imposing service tax on royalty amounted to taxing a tax. It reiterated that royalty does not meet the legal definition of a tax and, therefore, can be subject to service tax unless exempted.

3. Procedural Outcome

Since the deadline for responding to the SCN had already expired, the court disposed of the writ petition. However, it directed the petitioner to appear before the relevant authority for a proper hearing on August 28, 2024.

Key Precedent Cited

The court heavily relied on Mineral Area Development Authority v. Steel Authority of India, which overturned the earlier decision in India Cement Ltd. v. State of Tamil Nadu [(1990) 1 SCC 12]. The Supreme Court concluded:

• Royalty is not a tax but a contractual consideration.
• It does not share the essential characteristics of a tax.

Our Comments

This ruling reinforces the legal distinction between taxes and contractual payments. Consequently:

• Service tax may be levied on royalty payments unless explicitly exempted.
• The judgment upholds the contractual nature of royalties, ensuring clarity in taxation matters.

This decision is crucial for industries dependent on mining or natural resource extraction. It provides clarity regarding taxation obligations related to royalty payments.

Stay Informed

Understanding legal precedents is essential for compliance. Stay updated on significant legal pronouncements to navigate tax and contractual obligations effectively.