Balaji Drug Agencies, Tumkur vs The Commissioner of Commercial Taxes, Bangalore

H.N. Nagamohan Das, J.-The petitioners in all the petitions and appellant in STA No. 68 of 2003 (hereinafter referred to as ''assessees'') are engaged in the business of wholesale trading of pharmaceutical and medicinal products. The assessees are registered dealers under the Karnataka Sales Tax Act, 1957 (the ''KST Act'' for short) and also under the Central Sales Tax Act, 1956 (the ''CST Act'' for short). The pharmaceutical business broadly consists of three stages of trade channel, that is, the manufacturers sell their products to the wholesalers and in turn the wholesalers sell to the retailers and the retailers sell to the consumers.

The Government with an object that no one shall exploit any other in the trade, brought the drugs and pharmaceuticals under Essential Commodities Act, 1955. The drug trade is further regulated in detail by the Drugs (Prices Control) Order, 1995 (for short ''Order 1995''). The manufacturer shall make an application in the prescribed forms to the Drug Authority prescribing his own price when he sells to the wholesaler, in turn the price at which the wholesaler has to sell to the retailer and the price (MRP) at which the retailer has to sell to the consumer. After approval from the Drug Authority, under Order 1995, the manufacturer circulates the price list to all the stockists/wholesalers and his retailers. Thus, the sale price of a drug is determined and controlled under the Order 1995, from the manufacturing point to its ultimate sale to the consumer exclusive of tax. Any contravention of this price fixation at different stages would be a serious economic offence.

The manufacturers who sell the drugs to the wholesalers are the first dealers and discharge the liability to tax on their sales. Some of the medicinal and pharmaceutical preparations such as life saving drugs are totally exempt from tax as per the notifications issued by the Government from time to time. The wholesaler is the second dealer and the retailer the subsequent dealer, are not liable to tax as it is a single point tax. The wholesaler who paid the sales tax on the purchases made is entitled to recoup from the retailer and the retailer from the consumer the prepaid tax and nothing more. Section 18 of the KST Act, 1957 prohibits excess collection of tax. Any contravention of Section 18 of the KST Act, 1957 attracts penalty under Section 18-A of the Act.

The ''Times of India'' newspaper in its Bangalore Edition dated 3-1-2002 under the caption "Massive Drug Purchase Fraud Exposed", reported that the wholesalers instead of charging the sales tax on their purchase price have been charging on the sale price and thereby pocket the extra money. Concerning the same issue, M/s. Murali Medicals, Bangarpet, a retailer in their letter dated 13-11-2001 addressed to then Her Excellency Governor of Karnataka, contended that according to KST Act and Rules, the wholesale dealers are not entitled to collect incidental charges in the name of tax and requested to take action against wholesale dealers. Based on these reports and complaints, the respondents/revenue investigated the matter and found that the wholesale dealers are collecting excess tax in the name of incidental charges. The Assessing Authority issued notices under Section 18-AA of the KST Act proposing to forfeit as penalty on the ground that the realisation of incidental charges purporting to be tax by the assessees, is in violation of Section 18 of the KST Act. The assessees filed their objections contending that the incidental charges realised by them includes recoupment of prepaid sales tax amount and the charges for services rendered by the assessees and appellant such as packing, freight, door delivery, return of goods, credit facility etc. The assessees further contended that there was no excess realisation of any tax and as such there is no contravention of Section 18 of the KST Act, 1957 and requested to drop further proceedings.

The Assessing Authority passed an order under Section 18-AA of KST Act, 1957, by holding that the assessees plea is not acceptable for the reasons as under:

"The incidental charges charged separately in the sale bills are not accounted separately in the ledger, but the same was merged in the sales of medicines. These incidental charges/handling charges are not verifiable from books of accounts and expenses incurred by the assessees in respect of incidental charge are also not verifiable. Therefore it was to be construed that the incidental charges or handling charges referred to and charged in the II Sales bills is nothing but prepaid tax recoupment".

The assessees being aggrieved by the order under Section 18-AA of the KST Act, 1957, passed by the Assessing Authority preferred appeals before the jurisdictional Joint Commissioner of Commercial Taxes (Appeals) and the same came to be dismissed by affirming the orders passed by the Assessing Authority. Thereafter the assessees preferred second appeals before the Karnataka Appellate Tribunal, Bangalore, assailing the orders passed by the First Appellate Authority and the Assessing Authority. A Division Bench of the Karnataka Appellate Tribunal felt that the matter under dispute involves substantial question of law having far-reaching consequences, referred to a Full Bench. Accordingly, a Full Bench was constituted under Section 7 of the Karnataka Appellate Tribunal Act, 1976 to deal with the reference. The Full Bench of the Karnataka Appellate Tribunal framed the following points for its consideration:

(i) Whether incidental charges equivalent to the ratio of taxes would amount to be deemed collection of taxes under the KST Act, 1957? or (ii) Incidental charges, handling charges and prepaid taxes which is at a definite percentage (equal to the ratio of taxes paid in earlier stages) and collected on the sale value of goods by the appellant in his level whether really include any post sale services?

(iii) Under the common parlance, is it acceptable to say that what is collected on sale price of goods by the appellant is only recoupment of prepaid taxes but, actually in excess of it?

(iv) Whether it is necessary to issue any instructions or directions to the Assessing Authority under facts and circumstances of the case?

(v) Whether the forfeiture orders are sustainable?

The Tribunal by a detailed order rejected the contention of assessees and held, that what has been collected in the guise of incidental charges is only the tax component in excess of taxes paid earlier and dismissed the appeals. Hence, these revision petitions, appeal and writ petitions.

Sri K.P. Kumar, learned Senior Counsel, Sri E.R. Indra Kumar and Sri Rabinathan, learned Counsels for assessees submit that the question of invoking provisions of Section 18-AA of the KST Act, will not arise when it is not established the contravention of Section 18 of the KST Act, 1957. It is contended that the assessees have not collected any amount as ''tax'' as borne out by the invoices as well as the affidavits filed by the retail buyers. It is submitted that, what is collected by the assessees as incidental charges represents recoupment of prepaid tax amount and charges for services rendered which are incidental to the transaction of sale. The retailers are totally aware of the nature of the collection of incidental charges as recoupment of prepaid tax amount and charges for services incidental to the transaction of sale and consequently there is no contravention of Section 18 of the KST Act, 1957. The assessees have not collected any excess tax amount or purporting to be tax. It is contended that the Tribunal committed an error in not considering the material on record which shows that the assessees have not collected any excess tax. The Tribunal has sought to impose its own understanding or misunderstanding for what parties, namely the assessees and their retailers have mutually understood the position to be. The Tribunal erred in adverting to the ''common parlance theory'', which cannot be applied to the issue arising for consideration. The Tribunal committed an error of law in holding, that in the stage of price fixation, the relevant details of investment and expenditure incurred are duly considered for fixing prices and which are formalised by the assent of the Drug Authorities. Reliance is placed on the following decisions.-

Commissioner of Sales Tax, Uttar Pradesh, Lucknow v M/s. Mool Chand Shyam Lal, AIR 1988 SC 1860;

Spencer and Company Limited v State of Mysore, (1970)26 STC 283 (Mys.);

Mather and Platt Limited v State of Maharashtra, (1983)53 STC 104 (Bom.);

Sutlej Cotton Mills Limited v Commissioner of Income-tax, West Bengal III, Calcutta, AIR 1991 SC 218;

Commissioner of Central Excise, Pondicherry v Acer India Limited, (2004)8 SCC 173.

8.Per contra, Sri Nagarajulu Naidu, learned Additional Government Advocate for the revenue justifies the order of the Tribunal. At the request of Government Advocate, we permitted Sri U.A. Vasantha Rao, Deputy Commissioner of Commercial Taxes (Vigilance), who investigated this case to clarify certain factual aspects. It is contended that the Drug Controller, the Medical Hospitals, the Manufacturing Companies, the Trade Associations and other persons involved in the trade understand incidental charges as nothing but tax component only. The letter correspondence, statements recorded, the invoices etc., on record clearly demonstrate that the incidental charges collected by assessees as only tax. The Order 1995, prescribes, the customers cannot be charged more than MRP + taxes. But, in reality, the customers have ended up paying MRP + taxes + post sale expenses. It is submitted that investigation reveals that incidental charges is nothing but sales tax recouped at sale value and none of these other elements attributable to freight, interest etc., do not find a place in the books of accounts of the wholesalers/distributors. It is contended that there is no single instance of any agreement existing between the seller and the buyer in the instant trade that they had agreed for freight, interest, packages etc., in the price of the product.

The revenue further contends that the profit and loss account of assessees reveals that the interest component paid was towards loans taken for business and is not relatable to delayed payments made by the retailers. The Order 1995, prohibits the wholesalers from charging anything extra on any post sale expenses components separately and distinctly other than local tax. Admittedly, the incidental charges includes prepaid tax component plus the post sale expenses and it amounts to contravention of the Order 1995. The people involved in the trade understand the term ''incidental charges'' as collection of prepaid tax. Thus, the assessees have recouped in excess of the prepaid tax. Such excess recoupment is in contravention of Section 18 of the KST Act, 1957. The revenue justifies the levy of penalty under Section 18-AA of the KST Act, 1957 and prayed for dismissal of the petitions and the appeal.

Heard arguments on both the sides. Perused the entire papers. The following question arise for our consideration.

"Whether the incidental charges collected by the assessees purport to be by way of tax at a rate exceeding the tax at which they are entitled to recoup?

Now under all sales tax laws, including the Karnataka Sales tax Act, the moment a dealer makes either purchases or sales which are subject to taxation, the obligation to pay the tax arises and tax liability is attracted. Section 5(3) of the Act, is the charging section. The sale of drugs and pharmaceuticals are single point taxable goods under the Act. The first seller of these goods is liable to pay single point tax on these items. The second and subsequent sellers of the same goods in the State are not liable to pay sales tax on the second or subsequent sales. The first seller of the goods can collect sales tax for those to whom he sells the goods.

The assessees in these cases are second sellers who have paid to the first seller the price of the goods plus single point sales tax. The second sellers are entitled to reimburse themselves, the sales tax which the first seller have collected from them. This reimbursement is called recoupment of tax. This recoupment of tax by the second seller will take place when they sell the goods to the retailers.

Section 18 of the Act, prohibits an assessee from collecting any amount by way of tax or purporting to be by way of tax at a rate exceeding at which he is liable to pay under the provisions of the Act. If an assessee contravenes Section 18 of the Act, he is liable for penalty under Section 18-A of the Act. Further, under Section 18-AA of the Act, liability is imposed on the assessee to pay the excess tax collected, to the Government and in default to pay interest on the same. It further provides for refund of the excess tax to the person who paid.

The assessees admitted that at the time of sale of goods to the retailers they collected incidental charges. It is further admitted that the incidental charges includes the recoupment of sales tax component plus the charges for services rendered by them as, packing, freight, door delivery, return of goods, credit facility, etc. On the other hand, it is the contention of the Revenue that in the name of incidental charges the assessees collected excess tax and thus there is contravention of Section 18 of the Act. It is the contention of the Revenue that the assessees collected incidental charges purporting to be by way of tax at a rate exceeding the sales tax component. The word ''purporting'' means intending to seem. This implies that though it is a case of not being strictly collecting excess tax, one may still intend it to appear as if it is collecting excess tax. The word ''purporting'' is wider than the word ''done'' or ''intended to be done''. Therefore, though the assessee has not collected certain amounts as tax, but still if it is intended, then it amounts to collection of tax. Keeping this meaning of the word ''purporting'' used in Section 18 of the Act, we have to examine the case on hand.

Admittedly, the assessees collected incidental charges from the retailers at the time of the second sale of goods. It is further, admitted that these incidental charges include recoupment of prepaid sales tax and the charges for services rendered by the assessees. This leads us to the questions.-

(1) Why the assessees have not shown in their bills separately and distinctly the prepaid tax and the post sale expenses?

(2) Why the assessees collected the post sale expenses on percentage basis from all the retailers irrespective of the fact whether such post sale services are availed by them or not?

(3) Why if the rate of tax varies the incidental charges also varies?

(4) Why when the rate of tax is nil then the incidental charges are also nil?

(5) Why the incidental charges have been collected on the basic sale value?

(6) If there is an understanding between the assessees and the retailers on the question of incidental charges, why no such agreements are forthcoming?

(7) Why the Account Books of assessees do not reflect the incidental charges?

In the absence of satisfactory and acceptable answers to these questions from the assessees, it is difficult for us to accept the contention of assessees that they have not collected excess sales tax from the retailers and they collected post sale service charges as incidental charges.

At the instance of assessees some retailers filed affidavits before Enquiry Officer stating that they have understood the word incidental charges as prepaid tax component plus post sales service charges. The Revenue also recorded the statements of some retailers to the effect that they have understood the word incidental charges as tax component only. Therefore, the divergent statements of retailers need not be considered for the purpose of resolving the controversy between the parties. Then there is other independent material on record which will throw light on the issue in controversy between the parties. The documentary evidence on record demonstrates that the Drugs Controller, the Hospitals, Trade Associations and the manufacturing Companies understood that the term ''incidental charges'' as nothing but sales tax only. The people involved in trade thus understood the term incidental charges as collection of prepaid tax only.

Under Order 1995, the Drug Authorities prescribes the price at which the manufacturer has to sell to the wholesaler, the wholesaler to the retailer and the retailer to the consumer. The object is to regulate equitable distribution and making available the drug at a fair price for the benefit of the ultimate consumer. The Order 1995 further specifies that the manufacturer shall circulate the price list approved by the Drug Authorities among wholesaler/dealer and the retailer and they shall display the same on a conspicuous part of the premises where they carry on business. It further specifies that no person shall sell any drug exceeding the price specified in the price list plus local taxes if any payable. Any contravention of any of the provisions of Order 1995 shall be punished in accordance with the provisions of Essential Commodities Act, 1955. Therefore, the assessees before us are entitled to sell the drug to the retailers at the price specified under the price list plus local taxes if any payable. The assessees admittedly by clubbing the sales tax component and post sale services under the head incidental charges have sold the drug to the retailers. By this method the assessees represented to Drug Controller that they are only recouping the prepaid tax from the retailer. Before the sales tax authorities the assessees represented that they are collecting prepaid sales tax plus post sale service charges from the retailer under one head called ''incidental charges''. The assessees represented to the retailers the incidental charges as recoupment of prepaid sales tax only. By this method the assesseess in the name of incidental charges collected purporting to be by way of tax at a rate exceeding the rate at which they paid to the manufacturer.

For the reasons stated above, we answer the question framed by us in affirmative and against the assessees. Accordingly, we reject the petitions.

The parties to bear their own costs.