Constitutionality of Income Tax Scheme

Issue: The High Court, vide its impugned Judgment and Order dated 25.07.2005, has declared that Section 87(m)(ii) (b) of Finance (No.2) Act, 1998 is violative of Article 14 of the Constitution of India insofar as it seeks to deny the benefit of the `Kar Vivad Samadhana Scheme, 1998 (“the Scheme”) to those who were in arrears of duties etc., as on 31.03.1998 but to whom the notices were issued after 31.03.1998 and further, has struck down the expression “on or before the 31st day of March 1998” under Section 87(m)(ii)(b) of the Finance (No. 2) Act, 1998 as ultra vires of the Constitution of India and in particular, Article 14 of the Constitution on the ground that the said expression prescribes a cut-off date which arbitrarily excludes certain category of persons from availing the benefits under the Scheme. The High Court has further held that as per the definition of the `tax arrears’ in Section 87(m) (ii)(a) of the Act, the benefit of the Scheme was intended to be given to all persons against whom the amount of duties, cess, interest, fine or penalty were due and payable as on 31.3.1998. Therefore, this cut-off date in Section 87(m)(ii) (b) arbitrarily denies the benefit of the Scheme to those who were in arrears of tax as on 31.03.1998 but to whom notices were issued after 31.3.1998. This would result in unreasonable and arbitrary classification between the assessees merely on the basis of date of issuance of Demand Notices or Show Cause Notices which has no nexus with the purpose and object of the Scheme. In other words, the persons who were in arrears of tax on or before 31.03.1998 were classified as those, to whom Demand Notices or Show Cause Notices have been issued on or before 31.03.1998 and, those to whom such notices were issued after 31.3.1998. The High Court observed that this classification has no relation with the purpose of the Scheme to provide a quick and voluntary settlement of tax dues. The High Court further observed that this artificial classification becomes more profound in view of the fact that the Scheme came into operation with effect from 1.9.1998 which contemplates filing of declaration by all persons on or after 1.9.1998 but on or before 31.1.1999. The High Court further held that all persons who are in arrears of direct as well as indirect tax as on 31.3.1998 constitute one class, and any further classification among them on the basis of the date of issuance of Demand Notice or Show Cause Notice would be artificial and discriminatory.

Facts: The respondent is engaged in the manufacture of textile fabrics. The team of Preventive Officers of the Central Excise, Ahmedabad-I conducted a surprise inspection of the premises of the factory on 5.9.1997. The Revenue Officers examined the statutory Central Excise Records and physically verified the stocks at various stages of manufacturing in the presence of two independent panchas and respondent no. 2, under the Panchnama dated 5.9.1997. The Revenue Officers found that the respondents have cleared the Man Made Fabric admeasuring 38,726 l.m. of `5,38,449/- without the payment of excise duty of `84,290/-.

Accordingly, a Show Cause Notice dated 06.01.1999 was issued to the respondents demanding a duty of `84,290/- under Section 11A of the Excise Act along with an equal amount of penalty under Section 11AC of the Excise Act, and further penalty under Rule 173 Q of the Central Excise Rules, 1944 [hereinafter referred to as “the Excise Rules”] and interest under Section 11AB of the Excise Act for non-payment of excise duty on clandestine clearance of the said fabrics. Further, the Respondent no. 2 was also asked to show cause as to why penalty under Section 209 A of the Excise Rules should not be imposed on him for his active involvement in acquiring, possession, removal, concealing, selling and dealing of the excisable goods, which are liable to be confiscated under the Excise Act.

In the meantime, the Scheme was introduced by the Hon’ble Finance Minister through the 1998 Budget, which was contained in the Finance (No.2) Act of 1998. The Scheme was made applicable to tax arrears outstanding as on 31.3.1998 under the direct as well as indirect tax enactments. Originally, the benefits of the Scheme could be availed by any eligible assessee by filing a declaration of his arrears under Section 88 of the Act on or after 1.9.1998 and on or before 31.12.1998. However, the period for declaration under the Scheme was extended upto 31.1.1999 by the Ordinance dated 31.12.1998. However, the cut-off date prescribed by the Scheme under Section 87 (m) (ii) (a) and (b) of the Act for availing the benefits under the Scheme excluded the respondents from its ambit. Being aggrieved, the respondents filed a Special Civil Application before the High Court of Gujarat, inter-alia, seeking a writ to strike down the words “on or before the 31st day of March 1998” occurring in Section 87 (m) (ii) of the Finance Act, 1998. They had further prayed for issuance of an appropriate direction to the petitioner to give them benefit of the Scheme, 1998 in respect of tax arrears under tax enactments for which Show Cause Notices or Demand Notices were issued on or after 31.03.1998. The High Court, vide its impugned judgment and order dated 25.7.2005, struck down the expression “on or before the 31st day of March, 1998” in Section 87 (m) (ii) (b) as being unconstitutional. The High Court further directed the competent authority to entertain and decide the declarations made by the assessees in terms of the Scheme. Aggrieved by the Judgment and Order, the Revenue is before us in this appeal.

Discussion: The Scheme, as contained in Chapter IV of the Act, is a Code in itself and statutory in nature and character. While implementing the scheme, liberal construction may be given but it cannot be extended beyond conditions prescribed in the statutory scheme.

The object and purpose of the Scheme is to minimize the litigation and to realize the arrears of tax by way of Settlement in an expeditious manner.

The Scheme was in substance a recovery scheme though it was nomenclatured as a “litigation settlement scheme” and was not similar to the earlier Voluntary Disclosure Scheme. As stated above, the said Scheme was a complete code by itself. Its object was to put an end to all pending matters in the form of appeals, references, revisions and writ petitions under the IT Act/WT Act.”

It cannot be disputed that the legislation has the power to classify but the only question that requires to be considered is whether such classification is proper. It is now well settled by catena of decisions of this Court that a particular classification is proper if it is based on reason and not purely arbitrary, caprice or vindictive. On the other hand, while there must be a reason for the classification, the reason need not be good one, and it is immaterial that the Statute is unjust. The test is not wisdom but good faith in the classification. It is too late in the day to contend otherwise. It is time and again observed by this Court that the Legislature has a broad discretion in the matter of classification. In taxation, `there is a broader power of classification than in some other exercises of legislation’. When the wisdom of the legislation while making classification is questioned, the role of the Courts is very much limited. It is not reviewable by the Courts unless palpably arbitrary. It is not the concern of the Courts whether the classification is the wisest or the best that could be made. However, a discriminatory tax cannot be sustained if the classification is wholly illusory.

The tests adopted to determine whether a classification is reasonable or not are, that the classification must be founded on an intelligible differentia which distinguishes person or things that are grouped together from others left out of the groups and that the differentia must have a rational relation to the object sought to be achieved by Statute in question.

The Legislature in relation to `tax arrears’ has classified two groups of assessees. The first one being those assessees in whose cases duty is quantified and not paid as on the 31st day of March, 1998 and those assessees who are served with Demand or Show Cause Notice issued on or before the 31st day of March, 1998. The Scheme is not made applicable to such of those assessees whose duty dues are quantified but Demand Notice is not issued as on 31st day of March, 1998 intimating the assessee’s dues payable. The same is the case of the assessees who are not issued with the Demand or Show Cause Notice as on 31.03.1998. The grievance of the assessee is that the date fixed is arbitrary and deprives the benefit for those assessees who are issued Demand Notice or Show Cause Notice after the cut off date namely 31st day of March, 1998. The Legislature, in its wisdom, has thought it fit to extend the benefit of the scheme to such of those assessees whose tax arrears are outstanding as on 31.03.1998, or who are issued with the Demand or Show Cause Notice on or before 31st day of March, 1998, though the time to file declaration for claiming the benefit is extended till 31.01.1999. The classification made by the legislature appears to be reasonable for the reason that the legislature has grouped two categories of assessees namely, the assessees whose dues are quantified but not paid and the assessees who are issued with the Demand and Show Cause Notice on or before a particular date, month and year. The Legislature has not extended this benefit to those persons who do not fall under this category or group. This position is made clear by Section 88 of the Scheme which provides for settlement or tax payable under the Scheme by filing declaration after 1st day of September, 1998 but on or before the 31st day of December, 1998 in accordance with Section 89 of the Scheme, which date was extended upto 31.01.1999. The distinction so made cannot be said to be arbitrary or illogical which has no nexus with the purpose of legislation. In determining whether classification is reasonable, regard must be had to the purpose for which legislation is designed. As we have seen, while understanding the Scheme of the legislation, the legislation is based on a reasonable basis which is firstly, the amount of duties, cesses, interest, fine or penalty must have been determined as on 31.03.1998 but not paid as on the date of declaration and secondly, the date of issuance of Demand or Show Cause Notice on or before 31.03.1998, which is not disputed but the duties remain unpaid on the date of filing of declaration. Therefore, in our view, the Scheme 1998 does not violate the equal protection clause where there is an essential difference and a real basis for the classification which is made. The mere fact that the line dividing the classes is placed at one point rather than another will not impair the validity of the classification.

Article 14 does not prohibit reasonable classification of persons, objects and transactions by the Legislature for the purpose of attaining specific ends. To satisfy the test of permissible classification, it must not be “arbitrary, artificial or evasive” but must be based on some real and substantial distinction bearing a just and reasonable relation to the object sought to be achieved by the Legislature. The taxation laws are no exception to the application of this principle of equality enshrined in Article 14 of the Constitution of India. However, it is well settled that the Legislature enjoys very wide latitude in the matter of classification of objects, persons and things for the purpose of taxation in view of inherent complexity of fiscal adjustment of diverse elements. The power of the Legislature to classify is of wide range and flexibility so that it can adjust its system of taxation in all proper and reasonable ways. Even so, large latitude is allowed to the State for classification upon a reasonable basis and what is reasonable is a question of practical details and a variety of factors which the Court will be reluctant and perhaps ill-equipped to investigate. It has been laid down in a large number of decisions of this Court that a taxation Statute, for the reasons of functional expediency and even otherwise, can pick and choose to tax some. A power to classify being extremely broad and based on diverse considerations of executive pragmatism, the Judicature cannot rush in where even the Legislature warily treads. All these operational restraints on judicial power must weigh more emphatically where the subject is taxation. Discrimination resulting from fortuitous circumstances arising out of particular situations, in which some of the tax payers find themselves, is not hit by Article 14 if the legislation, as such, is of general application and does not single them out for harsh treatment. Advantages or disadvantages to individual assesses are accidental and inevitable and are inherent in every taxing Statute as it has to draw a line somewhere and some cases necessarily fall on the other side of the line.

Held: In view of the above discussion, we cannot agree with the findings and the conclusion reached by the High Court for which, we have made reference earlier. We have also not discussed in detail the individual issues raised by the learned senior counsel for the respondent, since those were the issues which were canvassed and accepted by the High Court. Accordingly, the appeals are allowed. The impugned common judgment and order is set aside.

See: Union of India and Ors. v. M/s Nitdip Textile Processors Pvt. Ltd. and Anr. (Supreme Court of India, 2011)

Author: Vikrant Narayan Vasudeva
Photo by Tax Credits/ CC BY 2.0