The Division Bench of Hon’ble Madras High Court recently in the case of Eastman Exports Global Clothing case[1], settled an interesting question of law pertaining to the reversal of Input Tax Credit (‘ITC’) on the loss of inputs which is inherent to the process of manufacturing. The decision will have a significant bearing on similar claims of ITC made under the present GST regime as well.
Consumption of inputs in the process of manufacture:
At the outset, it can be inferred that the principle on eligibility of ITC on inputs ‘consumed’ during manufacture is applied uniformly by the Courts even though the decisions are based on the provisions of different statutes.
In this regard, it can be discerned that the discourse on what amounts to ‘inputs being used in the manufacture of goods’ dates back to 1960s wherein, the Supreme Court while examining the phrase in light of Section 8(3)(b) of the Central Sales Tax, 1956 in the case of J. K. Cotton Spinning & Weaving case[2], held that if any process is integrally connected with the ultimate production of goods so much so that but for the said process, manufacture of goods would be commercially inexpedient, goods used as inputs in that process would fall within the ambit of the expression ‘used in the manufacture of goods’ and such inputs will be considered as being part of the final manufactured product irrespective of the fact that they are physically not present in it.
Subsequent decisions applying the principle:
Thereafter, in the case of Ran India Steel[3] the Hon’ble Madras High Court held that inputs that are consumed in the manufacture will not come within the fold of inputs that are ‘destroyed at some intermediary stage of manufacture’ as per Section 19(9)(iii) of the TNVAT Act.
Similarly, in the case of ARS Steels[4] the High Court held that loss of inputs during manufacture cannot be equated with any of the instances set out in Section 17(5)(h) of the Tamil Nadu Goods and Service Act, 2017 as the loss is inherent to the process of manufacture itself.
Further, even in Excise law, the Assessee was held entitled to claim ITC irrespective of the fact that the end product only contained 95% of the inputs used in it as can be seen from the case of Rupa and Co.[5] The principle laid down in the aforesaid cases was followed in several others as well[6].
The outcome of the Eastman judgment:
The primary question before the Hon’ble High Court in the impugned judgment was the enquiry as to whether the inputs that are used in the manufacture and not contained in the final product is relevant to determine the eligibility of ITC on such input because according to the decided cases, a raw material which is consumed in the process of manufacture is as much as an input as that which retains its identity at the last stage of manufacture.
The Hon’ble Court, while delivering the judgment, emphasised on the test of indispensability of the input in the emergence of the end product, rather than its physical presence in the end product itself, to determine the faith of the claim of ITC on manufacturing loss. Further, the judgment also placed reliance on the principle of commercial expediency propounded in the case of J.K. Cotton Spinning and Weaving Mills to reach a conclusion that if the invisible loss of inputs is the result of a process which is commercially expedient to the manufacturing of the end product, then, there cannot be denial of ITC on such loss of inputs. The Court also held that the requirement of quantitative tally between the raw materials used in the process of manufacture and the end product is contrary to technical, practical and commercial expediency involved in the activity of manufacture.
Section 17(5) of the CGST/TNGST Act:
Although the impugned judgment pertains to the treatment of manufacturing loss under Section 19(9)(iii) of the TNVAT Act, the principle enunciated by the Hon’ble Court is very helpful in determining the entitlement of ITC vis-à-vis Section 17(5)(h) of the CGST/SGST Act. In fact, in the ARS Steels case, the Court equated Section 17(5)(h) of the SGST Act with Section 19(9)(iii) of the TNVAT Act by holding that ‘the prescription in Section 19 of TNVAT Act is echoed in Section 17 of the SGST Act’. Similarly, in the Saradhambika case, the Court held that ‘Section 17(5)(h) of the TNGST Act and Section 19(9)(iii) of the TNVAT Act are in pari materia’.
To substantiate, Section 17(5)(h) states that ITC shall not be available to an assessee when the inputs are lost, stolen, destroyed, written off or disposed of by way of gift or free samples. At the outset, the case of ARS Steels distinctly observes that none of the instances set out above equate with the loss of input in the process of manufacture as the above instances indicate loss of inputs that are quantifiable and involve external factors or compulsions as compared to manufacturing loss which is inherent to the process of manufacturing itself.
However, disputes might still arise on the possible ground that the inputs which are lost during the process of manufacture equals to inputs being ‘destroyed’ under Section 17(5)(h). In this regard, the Eastman judgement might come to assistance as it draws a distinction between goods ‘destroyed’ and goods ‘used’ in the manufacture. According to this judgement, ‘destruction’ of goods is used to covey an act that renders the inputs useless for the intended purpose and on the contrary, ‘used’ in the manufacture of goods conveys a positive act of employing the inputs for the accomplishment of the intended purpose.
Furthermore, it is incumbent to mention that Section 17 of the CGST/SGST Act pertains to allowance of ITC on inputs used in the ‘supply’ of goods whereas, all the judgments cited above only deal with the concept of loss of inputs during the process of manufacture. Thus, although the Hon’ble High Courts have been unanimous in stating that Section 19 of TNVAT Act is in pari materia to Section 17 of the CGST/SGST Act, they have not dealt with the question of whether ‘supply of goods’ under the CGST/SGST Act is akin to the process of ‘manufacture’ under the erstwhile TNVAT Act. This, in the author’s opinion, could be a moot point before the Courts in the near future.
Conclusion:
In the authors’ view, this judgement provides a much need clarity on the subject and will wholeheartedly be welcomed by the business houses. Further, the judgement may also come into play in determining the eligibility of ITC under Section 17(5)(h) of the CGST/TNGST Act. However, in the authors’ opinion, the principles enunciated in the judgment may not be applied uniformly to all the instances of denial of ITC. It may be better to assess each situation individually on a case-to-case basis.
[The authors are Principal Associate and Associate, respectively, in the Indirect Tax Advisory practice at Lakshmikumaran & Sridharan Attorneys, Chennai]
[1] Eastman Exports Global Clothing (P) Ltd. v. The Assistant Commissioner and Ors. - W.A. No. 1094 of 2015.
[2] J. K. Cotton Spinning & Weaving Mills Co. Ltd. v. The Sales Tax Officer, Kanpur and Anr. - 1965 AIR SC 1310.
[3] Ran India Steel Pvt. Ltd. v. The Principal Secretary/ Commissioner of Commercial Taxes - 2019 (12) TMI 1305.
[4] ARS Steels and Alloy International Pvt. Ltd. v. The State Tax Officer - 2021 (6) TMI 957.
[5] Rupa and Co. Ltd. v. The Customs, Excise and Service Tax Appellate Tribunal - 2015 (9) TMI 293.
[6] Saradhambika Paper and Board Mills Pvt. Ltd. v. The State Tax Officer - 2021 (7) TMI 341; R.K. Ganapathy Chettiar v. The Assistant Commissioner (ST) - 2021 (8) TMI 595.
