UP VAT Act | If Exempt Goods Are Produced As By-Products Or Waste Products During Manufacturing Of Taxable Goods, They Are Deemed To Have Been Used In Manufacture Of Taxable Goods: SC

The Supreme Court held that per Explanation 3 of Section 13 of the Uttar Pradesh Value Added Tax Act (Act), an Assessee is entitled to claim full input tax credit (ITC) on by-products or waste products if they are being used to manufacture taxable goods.

The Court has also held that if exempt goods are produced as a by-product or waste product during the manufacturing of taxable goods, then the purchased goods are deemed to have been used in the manufacture of taxable goods, per the legal fiction enshrined under Explanation 3 Section 13 of the Act.

The Court allowed a set of Civil Appeals filed by Modi Naturals Ltd challenging the judgment and order whereby it was held that the assessee was not entitled to the full benefit of ITC claimed on the goods purchased by it for manufacturing its final product.

The Bench headed by Chief Justice D.Y. Chandrachud and comprising Justice J.B. Pardiwala and Justice Manoj Misra held, “Section 13(3)(b), however, leaves a grey area with respect to cases where the process of manufacture (such as in the present case) results in the production of VAT goods and by-products or waste products. In such cases, the legislature has done well to take care of the grey area by providing for another legal fiction in the form of Explanation (iii) to Section 13 wherein it is provided that during the manufacture of any taxable goods, any exempt goods are produced as by-product or waste product, it shall be deemed that the purchased goods have been used in the manufacture of taxable goods”.

Senior Advocate Arvind Datar appeared for the Assessee (M/S Modi Naturals Ltd/Appellant) and Additional Advocate General R.K. Raizada appeared for the State/Revenue.

The assessee, a registered dealer under the Act, manufactured Rice Bran Oil (RBO) and Physical Refined RBO. The Assessee claimed full Input Tax Credit (ITC) on the inputs used in manufacturing RBO, but the Deputy Commissioner rejected the claim. The Assessee appealed to the Additional Commissioner, who allowed the appeal for the Assessment Year 2015-16 but remanded the matter to the Tax Fixation Officer for the Assessment Year 2013-14. Thereafter, the Assessee appealed to the Commercial Tax Tribunal (Tribunal), which allowed the appeal and held that they were not entitled to full ITC for both assessment years. The Revenue appealed to the High Court, which upheld the Commercial Tax Tribunal's order. A set of Civil Appeals were filed before the Apex Court challenging the judgment and order of the High Court. 

The Apex Court framed the following issues:

“a. Whether the assessee is entitled to claim full amount of tax paid towards the purchase of raw Rice Bran as ITC on the basis of the provisions of Section 13(1)(a) read with S. No. 2(ii) of the Table appended thereto and Section 13(3)(b) read with Explanation (iii) of Section 13 of the UP VAT Act?

b. Whether the scope of the word “goods” as defined under Section 2(m) of the UP VAT Act as outlined in Section 13(1)(f) of the UP VAT Act should be limited to only “taxable goods”?

c. Whether the decision of this Court in the case of M.K. Agro Tech (supra) has any application to the case on hand?”.

The Court held that the 2010 Amendment to the Act was not intended to limit the scope of goods to only taxable goods. The amendment was intended to address the issue of goods being sold at a price lower than the cost price and to limit the extent of permissible or allowable ITC in such cases. The Court noted that taxable goods were separately defined under Section 2(ai) of the  Act.

The Court noted that the De-Oiled Rice Bran (DORB), which is produced as part of the Solvent Extraction process, is a by-product of the manufacturing process. The Court observed that the assessee was entitled to claim the full amount of tax paid on the purchases as ITC.

Furthermore, the Court observed that Section 13(3)(b) of the Act allowed for ITC credit for exempt and non-VAT goods that are used in the manufacture of taxable goods. However, the Court noted that such leaves a grey area for cases where the process of manufacture results in the production of VAT goods and by-products or waste products. Explanation (iii) to Section 13 clarifies this by stating that, in such cases, the purchased goods shall be deemed to have been used in the manufacture of taxable goods. The Court noted that this prevented the Assessing Authority and the Assessee from raising any dispute concerning the allowability of the ITC.

“Explanation (iii) to Section 13, therefore, forbids the Assessing Authority as well as the assessee from raising any dispute in regard to the allowability of the ITC in cases where exempted goods are being produced as a by-product or waste product during the process of manufacture”, the Bench held.

Additionally, the Court analyzed the implications of the case State of Karnataka v M.K. Agro Tech Private Limited [(2017) 16 SCC 210] as the High Court referred to the case. The Court noted that the Karnataka VAT Act does not allow input tax credits for exempt goods, while the Act does, under certain conditions. The Act deems that purchased goods have been used in the manufacture of taxable goods if exempt goods are produced as by-products or waste products, the Court observed.

The Bench noted, “Further, the deeming fiction as provided by the Explanation (iii) to Section 13 makes all the difference. It says that where during the manufacture of any taxable goods, any exempt goods are produced as by-products or waste product, it shall be deemed that the purchased goods have been used in the manufacture of taxable goods, creating a wholly distinct scheme to the one envisaged under the Karnataka VAT Act”.

Accordingly, the Court allowed the Appeals, restored the order of the Tribunal, and set aside the impugned judgment and order of the High Court.

Cause Title: M/S Modi Naturals Ltd v The Commissioner Of Commercial Tax UP (2023 INSC 974)

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