Levy of Service Tax on ocean freight service has been one of the most disputed issues for Trade and Industry. Unfortunately, the levy of Integrated Goods and Service Tax (IGST) on ocean freight service is equally contentious. In this article an endeavour has been made to analyse Hon’ble Gujarat High court (hereinafter “Court”) judgement in the case of the Mohit Minerals Limited vs Government of India (GOI), reported in  113 taxmann.com 436 (Gujarat).
CIF, FOB Import & Custom Duty valuation
International Commerce Terms (INCOTERMS) Cost, Insurance and Freight (CIF) & Free on Board (FOB) needs no introduction to the commercial world. CIF means the seller or shipper must contract for and pay the costs and freight necessary to bring the goods to the designated port of destination, whereas in the FOB type of arrangement, the seller or shipper arranges for goods to be moved to a designated point of origin only. The valuation of imported goods is governed by the provisions of Section 14 of the Customs Act, 1962 r.w. Section 3 of Customs Tariff Act, 1975 r.w Customs Valuation (Determination of Value of Imported Goods) Rules, 2007. Said Acts and Rules contains the detailed provisions for arriving at the transaction value of the imported goods, on which the customs duty is levied. Such transaction value would interalia, include the costs incurred up to the place of importation. Therefore in the case of FOB Import, the valuation would include the value of the ocean freight and insurance, whereas, in the case of CIF import, the value of goods itself includes cost, insurance, and freight and therefore no further addition of such cost is warranted.
IGST levy on Ocean Freight on reverse charge basis
NN 8 of 2017–IGST (R) dated 28th June 2017 vide entry no. 9 (hereafter “NN 8”) has notified IGST at the rate of 5% on the service of transport of goods in a vessel including the services provided or agreed to be provided by a person located in a non-taxable territory to a person located in a non-taxable territory by way of transportation of goods by a vessel from a place outside India up to the customs stations of clearance in India. Further drawing power from section 5(3) of the IGST Act, NN 10 of 2017-IGST (R) dated 28th June 2017 (hereafter “NN 10”) vide entry no. 10 notifies the importer as defined in section 2(26) of the Customs Act located in the taxable territory as the recipient of ocean freight service and accordingly such Indian Importer is made liable to pay IGST on ocean freight service on reverse charge basis. Further, it is quite likely that in the case of CIF import Indian importer may not be aware of freight and insurance charges, in such situation corrigendum dated 30th June 2017 to NN 8 prescribes 10% of the CIF value of the imported goods as the deemed value of ocean freight service.
Double Taxation on Ocean Freight
Trade and Industry was always holding a view that once the value of ocean freight becomes the part of value of imported goods and therefore subject to IGST then ocean freight service should not be subject to IGST once again in terms of aforesaid IGST notifications, as transaction cannot be taxed twice “as Import of goods as well as Import of service”. The value of ocean freight service is already included in the CIF value and on such value, IGST is already paid. Hence, the liability of IGST on ocean freight as an import of service tantamount to double taxation.
Legal Position in Service Tax era
Taxation of ocean freight service being a legacy issue before we analyse position in the GST regime quick glance is invited to the relevant provision of the service tax era. Till 31st May 2016, the service of transportation of goods in a vessel from a place outside India up to customs station of clearance in India was covered by section 66D of Finance Act, 1994 (Negative List) and was therefore exempt from service tax.
The Finance Act, 2016, has omitted the above entry in the negative list w.e.f. 1st June 2016, making ocean freight service taxable from 1st June 2016. To escape newly introduced service tax levy, Importers were smartly converting FOB arrangements into CIF, whereby foreign shipper was hiring services of foreign shipping lines for transportation of goods from abroad to India and by virtue of Entry no. 34 of clause (c) of Notification No. 25/2012 – ST (“Mega Exemption Notification”), such services received from a provider of service located in a non- taxable territory to a service recipient located in the non-taxable territory were claimed as exempt from service tax.
Since the above-stated arrangement of converting FOB import into CIF import was defeating the basic intention of amendment, vide Notification 1/2017-ST dated 21st January 2017, a proviso was added to Entry no. 34(c) of Mega Exemption Notification and exemption available to services availed by the foreign exporter from foreign shipping line was removed from the exemption list. However, even this amendment failed to achieve the intended purpose as both the service provider and service recipient were located outside India and were therefore, not amenable to service tax provisions.
Realizing lacuna in above amendment, Authorities have issued Notification No.15/2017-ST and 16/2017-ST both dated 13th April 2017 and thereby w.e.f 23rd April 2017 Indian Importer of the goods was made the person liable to pay service tax on ocean freight service on reverse charge basis, in terms of section 68(2) of Finance Act, 1994 r.w. entry no 10 of NN 30/2012-ST dated 20th June, 2012 (Service Tax Reverse Charge Notification). This amendment has actually introduced double taxation on ocean freight service.
It is worthwhile to note that Mumbai CESTAT in United Shippers Ltd. v/s Commissioner of Central Excise [(2015) 57 taxmann.com 429] ruled that if an activity is part of import transaction leviable to import duty or some charges are includible in customs value, it cannot be charged to service tax again. This view of Mumbai CESTAT was also upheld by Hon’ble Supreme court in Commissioner v/s United Shippers Ltd. Reported at 205(39) S.T.R. J369 (S.C). The ratio of these 2 judgements and service tax notifications issued on 13th April 2017 were at loggerheads with each other and causing litigation.
Facts of Mohit Minerals Limited
The petitioner is an importer of non-cooking coal and on such imports, the petitioner was paying custom duty, the value of which also includes ocean freight. By virtue of above IGST notifications, the petitioner was also required to pay IGST on ocean freight service under reverse charge mechanism. Broadly the petitioner has challenged the levy of ISGT on the following three elements viz.
 Having paid the tax under the IGST Act on the entire value of imports; inclusive of the ocean freight, the petitioner cannot be asked to pay tax on the ocean freight all over again under a different notification.
 In case of CIF contracts, the service provider and service recipient both are outside the territory of India. No tax on such service can be collected even on reverse charge mechanism, and
 In case of High Sea Sales, the burden is cast on the petitioner as an importer whereas, the petitioner is not the recipient of the service at all. It is the petitioner’s seller of goods on high sea basis who has received the service from the exporter/ transporter.
Major arguments advanced by the learned counsel appearing for the petitioner
- Reverse charge Levy imposed by aforesaid notifications goes beyond the mandate of Section 1 of the IGST Act, 2017, which extends to the whole of India and not outside India and scope of “Taxable Territory” as defined in section 2(109) r.w. definition of “India” as defined in section 2(56) of the the CGST Act.
- In the case of CIF Import the service provider (foreign shipping line) and the service recipients (foreign exporter/supplier) are outside India, therefore, the supply of ocean freight has actually happened outside India.
- Imposing levy is an essential legislative function and levy can’t be imposed by way a delegated legislation (by issuing notification).
- Collecting IGST twice on the ocean freight service under the same Act (IGST Act) amounts to double taxation.
- Following the principle of composite supply as laid down in section 2(30) of the CGST Act, in case of CIF import, the supply of goods is a principal supply and therefore ocean freight service cannot be taxed once again as a separate supply.
- Deeming fiction of valuation of ocean freight services @ 10% of CIF as prescribed in NN 8 is illegal and encroachment on legislative powers of the legislature.
- Said notifications have been drafted keeping provision of erstwhile Finance Act, 1994 in mind instead of present GST law.
- Term “Services” is defined in section 2(102) of the CGST Act and broadly services means anything other than Goods. Since there is no separate consideration for ocean freight service in case of CIF import, once Importer has paid customs duty and IGST on import of goods, there is no other separate service which can be once again brought to levy.
- Term “Recipient” is defined in section 2(93) of the CGST Act and primarily means the person who is liable to pay the consideration. In case of CIF import, it is the foreign exporter who pays the consideration to the foreign shipping line and therefore Indian Importer is not a recipient at all. In the case the foreign exporter fails to pay the consideration for the services rendered by the shipping line, the said shipping line can’t take any legal action against the Indian Importer. Therefore, in the case of CIF import, Indian Importer is not the recipient of the services and hence no levy can be imposed on CIF importer.
- In terms of Section 5(3) of the IGST Act, the tax liability could be shifted to the ‘Recipient’ on reverse charge basis by issuing the notification, however, NN 10 has shifted liability on the Importer who is not at all recipient in the case of CIF Import. Therefore said notification is running contrary to the provision of section 5(3) of the IGST Act.
- Section 2(11) of the IGST Act defines the term “Import of Services”. One of the conditions of import of service is that the recipient is located within India. This mandatory condition is not getting fulfilled in the given case as recipient of ocean freight services ie foreign exporter is located outside India. Consequently there is no import of services and therefore there can’t be any IGST levy on reverse charge basis.
- Reverse charge provision shifts GST liability from supplier to recipient but said provision can’t create liability on the recipient if no liability exists at first place on the supplier. NN 10 is creating a liability on Indian Importer in respect of activity taking place outside the taxable territory and therefore, NN 10 is ultra vires to the very provision of section 5(3) of the IGST Act under which it is issued.
- Column 5 of NN 8 has also placed various conditions to deny the input tax credit (ITC) which is in direct conflict with section 16 and 17 of the CGST Act.
- Further various decisions of High courts and Supreme Court were cited to argue interalia, that aforesaid notifications are proclaiming extra-territorial nexus which is not permitted by way of delegated legislation.
Major arguments advanced by counsel appearing for GOI
Counsel appearing on behalf of GOI opposed the petitioner’s arguments. A summarised version of important arguments of GOI is as under:
- Explaining the history of legislation & rationale for the levy on ocean freight services, counsel informed that till 31st May 2016 ocean freight services were exempted from service tax, consequently Indian shipping lines were unable to avail CENVAT credit. To provide level playing field to Indian shipping lines, service tax was imposed on the service of inward transportation of goods.
- There is no double taxation as the importer is eligible to claim ITC on both the occasion.
- Relying on “Aspect theory”, it was argued that since 2 different aspects are being taxed, reverse charge levy on ocean freight is constitutionally valid.
- Two different taxable events are being taxed viz. Import of goods under Section 3(7) of the Customs Tariff Act, 1975 and ocean freight services received by the importer under section 5 of the IGST Act and hence there is no double taxation of the same taxable event.
- A Combined reading of the definition of “Recipient” in terms of section 2(93) of the CGST Act, particularly later part of the definition (inclusive part) r.w. definition of “Agent” in terms of section 2(5) of the CGST Act suggests that term recipient has a much wider scope and even importer falls within the definition of recipient
- A supply can be said to be a principal supply only in case if in the invoice all the supplies are separately mentioned and one of the supplies is identified as principal supply and not otherwise. In case of CIF, it is only the total value of the cost, insurance and freight are stated in the invoices and therefore, it cannot fall within the definition of composite supply and therefore, the argument, that tax is charged on composite supply and hence it should not be charged once again is fallacious.
- In case of High Seas Sale, the importer for the purposes of levy of customs duty shall be the beneficial owner or a person holding himself out to be the importer of the goods and shall be eligible for ITC for the IGST paid on the goods and on the ocean freight services in respect of the same. Therefore, an importer who is responsible for filing the bill of entry is also the recipient of the service.
Analysis of Legal Position by Hon’ble Gujarat High Court
Court has deliberated upon various arguments of the petitioner and GOI. The Condensed version of important observations of Court is as under:
Charging Section 5(3) of the IGST Act does not permit levy
Court concurred with the view of the petitioner that in terms of section 5(3) of the IGST Act, in case of specified categories of supply, the tax shall be payable by the recipient of supply and all the provisions shall apply as if he is the person liable for paying the tax. This also implies that a person who is not a recipient of the supply cannot be made liable to pay IGST under reverse charge basis.
CIF Importer is not a Recipient
Court agreed with the argument of the petitioner that the term “Recipient” is defined as a person liable to pay consideration, where the consideration is payable for the supply or the person to whom the services are rendered, where no consideration is payable for the supply of service. In the case of CIF import the foreign exporter enters into a contract with the foreign shipping line for availing the services of transportation of goods in a vessel and the obligation to pay consideration is also of the foreign exporter. Court rightfully observed that the petitioner is not the ‘Recipient’ of ocean freight services as per Section 2(93) of the CGST Act. Counsel appearing on behalf of GOI has advanced the theory of indirect recipient of service however, court has rejected such theory.
Notification is ultra vires Section 5(3) of the IGST Act
Court observed that section 5(3) of the IGST Act empowers the Government to specify the categories of supply on which the tax shall be paid by the recipient of the supply. The said section does not further provide that the Government may also specify any other person (other than the recipient of supply) who could also be made liable to pay tax. It is a settled principle of law that if a delegated legislation goes beyond the power conferred by the statute, such delegated legislation has to be declared ultra vires and therefore held that NN 10 is ultra vires section 5(3) of the IGST Act.
Not an Intra-State supply
One of the arguments of the petitioner was that the present GST law does not provide a mechanism to determine the place of supply of ocean freight services. In reply to this question court has analysed provision of section 8 of the IGST Act and came to conclusion that for section 8 to apply, both the location of the supplier and the place of supply should be in India. In the present case, since this condition is not getting fulfilled, the impugned transaction is not an intra-state supply under section 8 of the IGST Act.
Not even Inter-State supply
Court has threadbare analysed each and every sub-section of section 7 of the IGST Act. Court ruled out the application of section 7(1) and 7(2) of the IGST Act as both these sub-section deals with goods. Court has also rejected the application of section 7(3) of the IGST Act as section 7(3) is subject to the provisions of Section 12 of the IGST Act and Section 12 is applicable only when both the supplier of service and the recipient of service are located in India. In the present case, the location of the supplier, i.e. the shipping line as well as the location of the recipient, ie foreign exporter, is outside India,
Court then analysed section 7(4) of the IGST Act and referred to the definition of “Import of services” as defined in section 2(11) of the IGST Act. Court accepted argument of the petitioner that for a transaction to classify as an import of service recipient of service should be located in India, whereas in the present case the location of the recipient ie foreign exporter is outside India and therefore ruled out the application of section 7(4) of the IGST Act.
Court also ruled out the application of section 7(5)(a) of the IGST Act as the supplier in the present case is located outside India. Section 7(5)(b) of the IGST Act had no application in the given case as the transaction in question is not a SEZ transaction. While vivisecting section 7(5)(c) of the IGST Act court remarked that the phrase “supply of goods or services or both in the taxable territory” is nowhere defined in the Act and such phrase cant’ be equated with place of supply in India due to lack of such express legislature intent. Court rightfully observed that the provisions relating to the ‘Place of Supply‘ under Section 10 to 13 of the IGST Act do not determine where the supply takes place in its ordinary sense. They are artificial provisions enacted for fixing the situs of supply to determine the nature of supply as Inter-state or Intra-state supply and has to be used only where provided by the Act, i.e. under section 7(1), 7(2), 7(5)(a) and 8 of the IGST Act. The said provisions cannot be applied to Section 7(5)(c) of the IGST Act. Court also came to the conclusion that otherwise also neither section 12 nor section 13 of the IGST Act can determine the place of supply where both the location of the supplier and the location of the recipient is outside India.
Court further took a view that section 7(5)(c) of the IGST Act has been enacted to cover the transactions of tax evasion. Thus, in a case where the factum of supply has been proved, either by way of inquiry, investigation or audit, but it is not possible to ascertain whether the supply is inter-state supply or intra-state supply, the law enacts a deeming fiction and treats such supply as an inter-state supply. It is a residual category and it cannot be so broadly construed to cover a substantial transaction, as in the present case, which is not expressly covered by the rest of the provisions of section 7 of the IGST Act.
Court further observed that in the present case, the entire transaction takes place outside the taxable territory of India. The supplier is located outside India, the recipient of the supply is located outside India, the contract for the supply has been entered into outside India, the payment for the supply has been made outside India, the goods have been handed over to the supplier outside India and the transportation, for the most part, takes place outside India. The mere fact that the transportation of goods terminates in India, will not make such a supply of transportation of goods as taking place in India
Court rightfully observed that supply of service of transportation of goods by a person in non-taxable territory to another person in a non-taxable territory from a place outside India up to the customs station of clearance in India is neither inter-state supply nor an intra-state supply. In such circumstances, no tax can be levied and collected from the petitioner.
Time of Supply of ocean freight service is not determinable
The petitioner also argued that in the given case present GST law lacks provision to determine the time of supply of the ocean freight service. Court observed that as per section 13(3) of the CGST Act, the time of supply of services in case where the tax is payable under the reverse charge basis is the earliest of (a) the date of payment entered in the books of accounts of the recipient or (b) the date of debit in the bank account or (c) sixty days from the date of issue of invoice by the supplier. Court also accepted a view that a person other than a recipient of supply cannot determine the time of supply as per the provisions of section 13(3) of the CGST Act as such person is neither in possession of ocean freight invoice nor required to pay for such services.
Valuation of ocean freight service not determinable
The petitioner objected to deeming fiction of valuing 10% of CIF cost as the value of ocean freight service by way of delegated legislation. In reply to the petitioner’s argument that CIF importer can never determine value of the ocean freight service, court agreed with the view of the petitioner and remarked that in terms of section 15(1) of the CGST Act, the value of supply is the price actually paid or payable for the said supply where the supplier and the recipient of the supply are not related and the price is the sole consideration for such supply. Court further held that CIF importer will not be knowing the price actually paid or payable for the supply and therefore valuation mechanism fails in the given case.
Petitioner not eligible to avail ITC of IGST paid on Reverse charge basis
Counsel appearing on behalf of GOI has claimed that there is no double taxation as the Importer is eligible to claim ITC on both the occasions. In response to this argument, court observed that in terms of section 16 of the CGST Act a person to whom supply is made shall be entitled to claim ITC, the same shall be construed as a reference to the recipient of supply. Thus, ITC on the supply can be availed only by the recipient of supply. Court also expressed apprehension that in the case of ocean freight service, the importer of goods is not the recipient of supply of ocean freight service and, therefore, may not be eligible to avail the ITC paid under reverse charge basis.
Neither Inward nor Outward Supply
Analysing definition of “Inward Supply” as per section 2(67) of the CGST Act and “Outward Supply” as per section 2(83) of the CGST Act, court concluded that ocean freight service in CIF import is neither inward supply nor outward supply for the petitioner. Court accepted argument of the petitioner that the transaction of supply of services by a person located in a non-taxable territory to another person located in a non-taxable territory by way of transportation of goods by a vessel from a place outside India upto the customs station of clearance in India is not leviable to the Indian GST.
IGST Notifications are Constitutionally Invalid
Referring to Article 265 of Constitution of India, Court opined that aforesaid IGST notifications levying the tax on supply of ocean freight service and making the importer of goods as the person liable for paying the tax are unconstitutional as there is no statutory sanction for levy and collection of such tax.
Court took cognizance of the fact that in case of CIF import, the importer has already paid customs duty and IGST on the value of goods as determined under customs law and such value includes freight amount till the place of customs clearance in India. Court, therefore, arrived at the conclusion that aforesaid notification creates double taxation of IGST on ocean freight service.
A Fundamental difference in charging section of Services Tax &GST
Court observed that Section 68(2) of the Finance Act, 1994 provides power to the Central Government to specify the categories of services and also the person by whom the service tax shall be paid. Whereas as per Section 5(3) of the IGST Act, the Government is only authorized to specify the categories of supply on which the tax is to paid by the recipient of the supply under the reverse charge basis. Court also remarked that in terms of section 5(3) of the IGST Act the Government cannot further specify the person other than the recipient to liable to pay tax
Restriction on scope of delegated legislation
Court also made a fine line of the difference of the fact that the petitioner has not challenged the competence of the Legislature in enacting section 5(3) of the IGST Act which empowers the Government to notify the goods or services upon which tax is liable to be paid by the recipients. As rightly put forth by the court the issue in the present petition is, when the statutory provision empowers collection of tax only from the recipient of goods or services, then whether the delegated legislation by way of notifications can stipulate imposition of tax on a person who is not a the recipient of goods/service?
The ratio laid down in the above judgment will apply mutatis mutandis to FOB and High Seas Sale import and depending upon facts and circumstances of each case, levy of IGST on reverse charge basis needs to be analysed in terms of section 5(3) of the IGST Act r.w above IGST notifications. Though court has exhaustively replied arguments of the petitioner and GOI, concluding paragraph of judgment suggest that drafting lacuna in section 5(3) of the IGST Act (No power with the Government to notify a person other than the recipient as person liable to pay tax on reverse charge basis) has gone in the favour of the petitioner. It will be interesting to watch whether the Government accepts court judgement or prefer an appeal with Hon’ble Supreme Court or use last resort of retrospectively amending lacuna in section 5(3) of the IGST Act to overrule the aforesaid decision. Till the time matter attains finality importer may have to take a practical call on payment of IGST on ocean freight service under reverse charge mechanism taking into account restrictive provision of claiming ITC in terms of section 16(4) and liability to pay interest in terms of section 50(1) of the CGST Act.