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CASE NO.: Appeal (civil)  252 of 2008

PETITIONER: Imagic Creative Pvt. Ltd.

RESPONDENT: Commissioner of Commercial Taxes & Ors.

DATE OF JUDGMENT: 09/01/2008

BENCH: S.B. Sinha & Harjit Singh Bedi

JUDGMENT: J U D G M E N T

(Arising out of SLP (C) No.6499 of 2007)

S.B. Sinha, J.

1.      Leave granted. 2.      Whether the charges collected towards the services for evolution of  prototype conceptual design (i.e. creation of concept), on which service tax  had been paid under the Finance Act, 1994 as amended from time to time is  liable to tax under the Karnataka Value Added Tax Act, 2003 (the Act) is the  question involved in this appeal which arises out of a judgment and order  dated 29.11.2006 passed by a Division Bench of the Karnataka High Court  in STA No.7 of 2006. 3.      Appellant is an advertising agency.  It provides for advertisement  services.  It creates original concept and design advertising material for their  clients and design brochures, annual reports etc.  The Contract between the  appellant and their clients does not appear to have been entered into in  writing as no written contract as such has been placed before us. 4.      We may notice a purchase order and the invoice which have been  produced before us and the authenticity whereof is not in question :        \023ESTIMATE P & PR Unit M/S ISRO HEADQUARTERS                             ,      Antariksh Bhavan, New BEL Road                          , Bangalore                                                                  , Estimate No.  014F Date : 26.04.2003                   , Job No.: 051/APR/ 03            ,                       Enquiry No.  Co-ordinated by : Mr. C.S. Ramachandran

Particulars \026 GSAT 2 POSTER Qty. Rate Amount

Rs. P. Rs. P. 1. Conceptualising, Design and  Production of Computer Artwork  of size A3, front                   back

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1 No. 1 No.

1,500 1,500

00 00

1,500 1,500

00 00 2. B/w Line drawings in back page  Artwork of size A5 4 Nos. 100 00 400 00 3. Digital Inkjet Output on  Photoglossy Paper for Layout of  size A3 (1.5 sq. ft.) @ Rs. 100/- per. sq. ft.        front                                              back

1 No. 1 No.

150 150

00 00

150 150

00 00 4. Four Colour Separated Positives Size: A3 @ Rs. 250/- per colour x  4 Nos. = 1,000                                 front

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                               back

         5% Service Tax on item 1          5% KST on item 3          1.5% Resale Tax on item 4

1 Set  1 Set

1,000 1,000

00 00

1,000 1,000

150 15 30

00 00

00 00 00

Rupees Five Thousand Eight Hundred Ninety Five  Only Total   Rs.  5,895 00                         INVOICE Consignee M/S MORRIS TOOLING PVT. LTD. Doddaballapur Bangalore  

Co-ordinated by Mr. Muniswamy  Invoice No.  707 Dated 31.01.2004

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Delivery Note/Date 531/23.01.04 Job No. 1175/DEC/03

Purchase Order No. MTP/PUO/2004/00002 Dated 21.01.2004 Sl.  No. Description of Goods Quantity Rate Amount

Rs. P. Rs. P.

HSK TOOL HOLDER

1. Designing and System Charges

9,000 00 2. Four Colour Separated Positives  for Cover Size: A3 1 Set  

1,728 00 3 Two Colour Separated Positives  Size : A4 21 Sets 468 00 9,828 00 4 Four Colour Offset Printing on 300  GSM Matt Art Card for Cover  Two Colour Offset Printing on 170  GSM Matt Art Paper for Inner  pages with centre pinning

500 Nos.

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31,850

00

8% Service Tax on item 1   1.5 % Resale Tax on item 2-4

720 651

00 00

    TOTAL                            53,777 00 Rupees Fifty Three Thousand Seven Hundred Seventy Seven Only \024

5.      They filed their returns both under the Finance Act, 1994 as also the  Act.  An order of assessment was passed by the Assessing Authority in  terms of Section 12 of the Karnataka Sales Tax Act and Rule 3 of the  Karnataka Sales Tax Rules, material portion whereof reads as under : \023In view of the above discussions, I hereby complete the  assessment for the year 2003-2004 under section 12(3) of  the KST Act 1957 by confirming the turnovers proposed in  the proposition notice.   Gross turnover                  Rs. 1,97,72,296-00 Add. Towards omissions as  per. Int. report                        Rs. 6,07,840-00 Gross turnover determined               Rs. 2,03,80,136-00 Less : Exempted turnover         1)  Taxes collected                       Rs. 2,43,848-00 2)  Discount allowed                    Rs.   80,332-00 3)  Service charges, design &        art work charges collected         in which no transfer of          property in goods is involved    Rs. 54,27,260-00 4)      Advertisment charges for       Newspapers collected               Rs. 80,12,976-00 5)  Sales outside the state  Rs. 62,400-00  Rs. 1,38,26,816-00         Taxable turnover                                 Rs. 65,53,320-00

Classification of TTO: 1)      Sale of Computer Printed         materials @ 8% from 1.4.03

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       to 31.5.03              Rs. 4,57,242-00 Rs. 36,580-00 2)      -do- from 1.6.03 to 31.3.04 @ 9% Rs. 16,19,122-00        Rs. 145,721-00 3)      -do- to Government Departments against D forms @ 5%    11,45,034-00    Rs. 57,252-00 4)      Sale of Printed materials  as II dealer liable for RST  @ 1.5%              Rs. 33,31,922-00     Rs. 49,979-00          5)      Addl. Tax after 1.6.03     @ 1%                      Rs. 27,642/-

6)      Cess @ 15% on tax  after 1.2.04                                           Rs. 5,850-00

                               Total Tax                          Rs. 3,23,024-00\024                  6.      After passing of the order of assessment, a raid was conducted.  A  criminal proceeding was initiated against the appellant-company.  An  application was filed by it before the appropriate authority under Section 60  of the Act for classification and advance rulings.  By reason of the order  dated 30th September, 2005, it was held : \023The issue is examined in detail and it is seen that  in the sale of the advertisement material, the  background activity such as conceptualization is  no doubt an idea but creation of advertisement is a  comprehensive activity leading to creation of  goods in question.  Even when any other goods are  produced there is some idea and thought regarding  the shape and size etc.  Therefore, to separate  design and concept taking the sale value of merely  the advertisement material as brochure etc. is  improper. It is further seen that in the bills there is separate  charge made as content development concept,  design, photography scanning and other charges  such as system charges including colour sketch  pen or computer used design software etc.,  Ultimately, the brochures come out.  Considering  the entire ambit of activity of the dealer it is seen  tht it is a comprehensive contract or supply of  printed material developed by the company.  The  bills also indicate the entire activity though  separated is a comprehensive work.  Such creation  of activity tanamounts to making indivisible  contract in a divisible contract.  Therefore, this  Authority rules that entire sale value including the  creation of concept etc. done by the company  forms a part of the value of sale of such brochures  and liable to tax at 4% on the entire proceeds  received including those relating to concept  charges, system charges etc.  In short, this  Authority rules that the sale of printed material  with a background of providing the concept is an  indivisible activity liable to tax at 4% as a whole.\024 (Emphasis supplied)

7.      An appeal preferred thereagainst by the appellant in terms of Section  24(1) of the Kerala Sales Tax Act has been dismissed by a Division Bench  of the High Court.   8.      The High Court in its judgment noticed the decisions of this Court in  Associated Cement Companies Ltd. v. Commissioner of Customs [(2001) 4  SCC 593]; Tata Consultancy Services v. State of A.P. [(2005) 1 SCC 132];  and Tata Consultancy Services v. Municipal Corporation of Greater Bombay

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& Anr. [(2006) 3 SCC 1] and held : \023In the light of the three judgments stated supra,  what is clear to us is the services rendered by the  appellant is an indivisible activity and liable to  levy of tax.  The aurhotity in Annexure-A after  noticing the material facts, has chosen to hold that  \021in the bills there is a separate charge made as  content development concept design, photography  scanning and other charges such as system charges  including colour sketch pen or computer used  design software etc.  Ultimately, the brochures  come out.  Considering the entire ambit of activity  of the dealer, it is seen that it is a comprehensive  contract or supply of printed material developed by  the company.  The bills also indicate the entire  activity tantamounts to making indivisible contract  in a divisible contract\022.  The subsequent  rectification application made by the applicant  dated 24.12.2005 was not considered by the  authority in terms of Annexure-H, after noticing  the judgment of the Supreme Court in the case of  Associated Cement Companites Ltd. (Stated  supra).  Therefore, it is clear that there is no  mistake apparent on the face of the record.  We are  in full agreement with the impugned orders at  Annexure-A & H.\024

9.      Mr. Joseph Vellapalli, learned senior counsel appearing for the  appellant, would submit that  (1)     the High Court committed a serious error in passing the impugned  judgment in so far as in the event the contract is held to be an  indivisible one, the service element thereof being subject to service  tax, no sales tax could have been levied on the incidental transfer  of goods unless such transfer falls within the scope and ambit of  one of the provisions contained in sub-clauses (a) to (f) of clause  (29A) of Article 366 of the Constitution of India. (2)     Appellant being an advertising agency, i.e., providing professional  services, is not liable to pay Value Added Tax (VAT) upon  application of dominion nature test or otherwise. (3)     From the orders of the assessment passed by the Assessing  Authority itself, it would appear that a portion of the contract is  often out sourced in which event, sale of goods are shown by the  appellant as a second sale. (4)      On an indivisible contract, in view of the decisions of this Court in  The State of Madras v. Gannon Dunkerley & Co., (Madras) Ltd.  [1959 SCR 379]; M/s. Gannon Dunkerley & Co. & Ors. v. State of  Rajasthan & Ors.  [(1993) 1 SCC 364], no VAT would be payable.   (5)     In any event, advertisement not being goods, they cannot be  bought and sold in an open market being customer specific. 10.     Mr. Hegde, learned counsel appearing on behalf of the respondents- State, on the other hand, submitted that   (i)     an entire transaction is a composite whole inasmuch as all what was  transferred is the documents containing not only the value of the  goods but also the soft skill involved therein; and (ii)    Taxable value of goods is what the buyer is buying and in view of the  fact that when by some creativity the value of the goods is enhanced,  the entire value has rightly been held to be taxable.         Strong reliance in this connection has been placed on Associated  Cement Company (supra) as also the Constitution Bench decision of this  Court in Tata Consultency and Bharat Sanchar Nigam Ltd. v. Union of India  [(2006) 3 SCC 1].   11.     At the outset, we must express our reservation in regard to the  question as to whether the appellant having already undergone the process of  regular assessment before the assessing authority, an application under  Section 60 of the Karnataka Value Added Tax Act, 2003 was maintainable.  

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The purpose for which such a proceeding is taken recourse to is well known.   When a decision of a competent authority is not known and an entrepreneur  intends to know as to what would be his liability under the taxing statute,  such a proceeding is ordinarily taken recourse to.  But it is not necessary for  us to consider the matter any further.         In this case, the order of assessment was complete.  The State did not  prefer any appeal thereagainst. The process of accounting or the  methodology adopted by the assessee for the purpose of payment of both  service tax as also the value added tax attained finality at least for that year.   12.     Be that as it may, as the order of the competent authority under  Section 60 of the Act would be binding on the assessing authority, in future  also, we may examine the merit of the matter.  13.     The fact that the appellant is a service provider is not in dispute.  It is  also not in dispute that the orders received by it to provide such services is  party specific and issue specific; be it for issuance of a brochure or a year  book or for any other purpose.         Appellant, in their returns, made three categorical divisions in regard  to its tax liabilities (1) The amount of service tax on the specific design and  production; (2) The amount of Kerala Sales Tax on the specified item on the  first sale; and (3) when certain items are outsourced, the tax payable on  resale of the said goods in terms of Section 6(4) of the Kerala Sales Tax Act. 14.     The Tribunal as also the High Court opined that the contract was an  indivisible one.  The effect of such an indivisible contract, vis-‘-vis work  contract came up for consideration before this Court in The State of Madras  v. Gannon Dunkerley & Co., (Madras) Ltd. [1959 SCR 379] wherein it was  clearly held : \023To avoid misconception, it must be stated that the  above conclusion has reference to works contracts,  which are entire and indivisible, as the contracts of  the respondents have been held by the learned  Judges of the Court below to be.  The several  forms which such kinds of contracts can assume  are set out in Hudson on Building Contracts, at  p.165.  It is possible that the parties might enter  into distinct and for money consideration, and the  other for payment of remuneration for services and  for work done.\024

15.     The Parliament amended the Constitution to insert clause 29-A in  Article 366 of the Constitution of India, Sub-clauses (a) to (f) whereof read  thus : \023(29A) "tax on the sale or purchase of goods"  includes\027

(a) a tax on the transfer, otherwise than in  pursuance of a contract, of property in any goods  for cash, deferred payment or other valuable  consideration;

(b) a tax on the transfer of property in goods  (whether as goods or in some other form) involved  in the execution of a works contract;

(c) a tax on the delivery of goods on hire-purchase  or any system of payment by installments;

(d) a tax on the transfer of the right to use any  goods for any purpose (whether or not for a  specified period) for cash, deferred payment or  other valuable consideration;

(e) a tax on the supply of goods by any  unincorporated association or body of persons to a  member thereof for cash, deferred payment or  other valuable consideration;

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(f) a tax on the supply, by way of or as part of any  service or in any other manner whatsoever, of  goods, being food or any other article for human  consumption or any drink (whether or not  intoxicating), where such supply or service, is for  cash, deferred payment or other valuable  consideration,

and such transfer, delivery or supply of any goods  shall be deemed to be a sale of those goods by the  person making the transfer, delivery or supply and  a purchase of those goods by the person to whom  such transfer, delivery or supply is made.\024

16.     By reason of the said provision, therefore, a legal fiction was created  so as to make the supply of goods involved in a works contract, subject to  tax.  A transaction of the present description was not contemplated.      The question came for consideration again in Builders\022 Association of  India & Ors. v. Union of India & Ors. [(1989) 2 SCC 645] and M/s.Gannon  Dunkerley & Co. & Ors. v. State of Rajasthan & Ors. [(1993) 1 SCC 364].   It has expressly been laid down therein that the effect of amendment by  introduction of clause 29A in Article 366 is that by legal fiction, certain  indivisible contracts are deemed to be divisible into contract of sale of goods  and contract of service.  In Gannon Dunkerley case (supra), it had been held: \023Keeping in view the legal fiction introduced by  the Forty-sixth Amendment whereby the works  contract which was entire and indivisible has been  altered into a contract which is divisible into one  for sale of goods and other for supply of labour  and services, the value of the goods involved in the  execution of a works contract on which tax is  leviable must exclude the charges which appertain  to the contract for supply of labour and services.\024

17.     We may also notice that a Constitution Bench of this Court in Tata  Consultancy Services (supra), opined that having regard to the definition of  the term \021goods\024 contained in clause (12) of Article 366 of the Constitution  of India, a software programme may consist of various commands which  enable the computer to perform a designated task.  The copyright in that  programme may remain with the originator of the programme, but the  moment copies are made and marketed, it becomes goods, which are  susceptible to sales tax.         In regard to the element of intellectual property, it was held that the  same having been incorporated on a media,  for purposes of transfer, both  tangible and intangible property capable of being transmitted, transferred,  delivered, stored and possessed etc. would come within the purview thereof.   It was opined : \023Thus, even unbranded software, when it is  marketed/sold, may be goods.  We, however, are  not dealing with this aspect and express no opinion  thereon because in case of unbranded software  other questions like situs of contract of sale and/or  whether the contract is a service contract may  arise.\024

18.     We may, furthermore, notice that therein one of us, in a separate but  concurring judgment, opined as under : \02378. A software may be intellectual property but such  personal intellectual property contained in a medium  is bought and sold. It is an article of value. It is sold in  various forms like \027 floppies, disks, CD-ROMs,  punchcards, magnetic tapes, etc. Each one of the  mediums in which the intellectual property is

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contained is a marketable commodity. They are  visible to the senses. They may be a medium through  which the intellectual property is transferred but for  the purpose of determining the question as regard s  leviability of the tax under a fiscal statute, it may not  make a difference. A program containing instructions  in computer language is subject-matter of a licence. It  has its value to the buyer. It is useful to the person  who intends to use the hardware viz. the computer in  an effective manner so as to enable him to obtain the  desired results. It indisputably becomes an object of  trade and commerce. These mediums containing the  intellectual property are not only easily available in  the market for a price but are circulated as a  commodity in the market. Only because an instruction  manual designed to instruct use and installation of the  supplier program is supplied with the software, the  same would not necessarily mean that it would cease  to be a \023goods\024. Such instructions contained in the  manual are supplied with several other goods  including electronic ones. What is essential for an  article to become goods is its marketability.\024  

19.     The question yet again came up for consideration before a Three  Judge Bench of this Court in Bharat Sanchar Nigam Ltd. v. Union of India  (supra) wherein it was held; \02344. Of all the different kinds of composite  transactions the drafters of the Forty-sixth  Amendment chose three specific situations, a works  contract, a hire-purchase contract and a catering  contract to bring them within the fiction of a deemed  sale. Of these three, the first and third involve a kind  of service and sale at the same time. Apart from these  two cases where splitting of the service and supply  has been constitutionally permitted in sub-clauses ( b )  and ( f ) of clause (29-A) of Article 366, there is no  other service which has been permitted to be so split.  For example, the sub-clauses of Article 366(29-A) do  not cover hospital services. Therefore, if during the  treatment of a patient in a hospital, he or she is given a  pill, can the Sales Tax Authorities tax the transaction  as a sale? Doctors, lawyers and other professionals  render service in the course of which can it be said  that there is a sale of goods when a doctor writes out  and hands over a prescription or a lawyer drafts a  document and delivers it to his/her client? Strictly  speaking, with the payment of fees, consideration  does pass from the patient or client to the doctor or  lawyer for the documents in both cases.  45. The reason why these services do not involve a  sale for the purposes of Entry 54 of List II is, as we  see it, for reasons ultimately attributable to the  principles enunciated in Gannon Dunkerley case 5,  namely, if there is an instrument of contract which  may be composite in form in any case other than the  exceptions in Article 366(29-A), unless the  transaction in truth represents two distinct and  separate contracts and is discernible as such, then the  State would not have the power to separate the  agreement to sell from the agreement to render  service, and impose tax on the sale. The test therefore  for composite contracts other than those mentioned in  Article 366(29-A) continues to be: Did the partie s  have in mind or intend separate rights arising out of  the sale of goods? If there was no such intention there

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is no sale even if the contract could be disintegrated.  The test for deciding whether a contract falls into one  category or the other is to as what is \023the substance of  the contract\024. We will, for the want of a better phrase,  call this the dominant nature test.  50. What are the \023goods\024 in a sales transaction,  therefore, remains primarily a matter of contract and  intention. The seller and such purchaser would have to  be ad idem as to the subject-matter of sale or  purchase. The court would have to arrive at the  conclusion as to what the parties had intended when  they entered into a particular transaction of sale, as  being the subject-matter of sale or purchase. In  arriving at a conclusion the court would have to  approach the matter from the point of view of a  reasonable person of average intelligence.\024  

20.     We may, at this juncture, also notice the decision of this Court in  Associated Cement Company (supra).  The question which arose for  consideration therein was as to whether any intellectual property contained  in a software would be subject to custom duty within the meaning of Section  2(22) of the Customs Act, defining goods.  A three Judge Bench of this  Court sought to make a distinction between such a contingency arising under  the Customs Act involving a works contract and a contract of sale stating : \02332. In the sales tax cases referred to hereinabove no  doubt the question which arose was whether in a  works contract, where there was a supply of materials  and services in an indivisible contract, but there the  question had arisen because the States\022 powers prior  to the Forty-sixth Amendment to the Constitution,  were not entitled to bifurcate or split up the contract  for the purpose of levying sales tax on the element of  moveable goods involved in the contract. Apart from  the decision in Rainbow Colour Lab case 11 which  does not appear to be correct, the other decisions cited  related to the pre-Forty-sixth Amendment period.  Furthermore, the provisions of the Customs Act and  the Tariff Act are clear and unambiguous. Any  moveable articles, irrespective of what they may be or  may contain, would be goods as defined in Section  2(22) of the Customs Act.\024  

21.     Evidently, therefore, the decision of Associated Cement Company  Supra) whereupon strong reliance has been placed by the Tribunal as also by  the High Court seeks to make a distinction between cases arising out of  works contract wherefor sales tax is liable to be paid and the cases under the  Customs Act.   22.     Our attention has furthermore been drawn to the decision of this Court  in Bharat Sanchar Nigam Ltd. (supra) wherein referring to Tata Consultancy  (supra) it was observed that the approach of this Court in the said decision as  to what would be \021goods\022 for the purpose of sales tax is correct.   23.     What, however, did not fall for consideration in any of the  aforementioned decisions is the concept of works contract involving both  service as also supply of goods constituting a sale.  Both, in Tata  Consultancy (supra) as also in Associated Cement Company (supra), what  was in issue was the value of the goods and only for the said purpose, this  Court went by the definition thereof both under the Customs Act as also the  Sales Tax Act to hold that the same must have the attributes of its utility,  capability of being bought and sold and capability of being transmitted,  transferred, delivered, stored and possessed.  As a software was found to be  having the said attributes, they were held to be goods.   24.     We have, however, a different problem at hand.  Appellant admittedly  is a service provider.   When it provides for service, it is assessable to a tax  known as service tax.  Such tax is leviable by reason of a Parliamentary  statute.  In the matter of interpretation of a taxing statute, as also other

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statutes where the applicability of Article 246 of the Constitution of India,  read with Seventh Schedule thereof is in question, the Court may have to  take recourse to various theories including \021aspect theory\022, as was noticed by  this Court in Federation of Hotel & Restaurant Association of India, etc. v.  Union of India& Ors. [(1989) 3 SCC 634]. 25.     If the submission of Mr. Hegde is accepted in its entirety, whereas on  the one hand, the Central Government would be deprived of obtaining any  tax whatsoever under the Finance Act, 1994, it is possible to arrive at a  conclusion that no tax at all would be payable as the tax has been held to be  an indivisible one.  A distinction must be borne in mind between an  indivisible contract and a composite contract.  If in a contract,  an element to  provide service is contained, the purport and object for which the  Constitution had to be amended and clause 29A had to be inserted in Article  366, must be kept in mind.  26.     We have noticed hereinbefore that a legal fiction is created by reason  of the said provision.  Such a legal fiction, as is well known, should be  applied only to the extent for which it was enacted.  It, although must be  given its full effect but the same would not mean that it should be applied  beyond a point which was not contemplated by the legislature or which  would lead to an anomaly or absurdity.   27.     The Court, while interpreting a statute, must bear in mind that the  legislature was supposed to know law and the legislation enacted is a  reasonable one.  The Court must also bear in mind that where the application  of a Parliamentary and a Legislative Act comes up for consideration;  endeavours shall be made to see that provisions of both the acts are made  applicable.   28.     Payments of service tax as also the VAT are mutually exclusive.    Therefore, they should be held to be applicable having regard to the  respective parameters of service tax and the sales tax as envisaged in a  composite contract as contradistinguished from an indivisible contract.  It  may consist of different elements providing for attracting different nature of  levy.   It is, therefore, difficult to hold that in a case of this nature, sales tax  would be payable on the value of the entire contract; irrespective of the  element of service provided.  The approach of the assessing authority, to us,  thus, appears to be correct.  34.     We may notice that the concept of aspects theory whcih had found  echoes in State of U.P. Another v. Union of India & Anr. [(2003) 3 SCC  239] has expressly been overruled by a Three Judge Bench in Bharat  Sanchar Nigam Ltd. (supra) stating : \02378. But if there are no deliverable goods in existence  as in this case, there is no transfer of user at all.  Providing access or telephone connection does not put  the subscriber in possession of the electromagnetic  waves any more than a toll collector puts a road or  bridge into the possession of the toll payer by lifting a  toll gate. Of course the toll payer will use the road or  bridge in one sense. But the distinction with a sale of  goods is that the user would be of the thing or goods  delivered. The delivery may not be simultaneous with  the transfer of the right to use. But the goods must be  in existence and deliverable when the right is sought  to be transferred. 79. Therefore whether goods are incorporeal or  corporeal, tangible or intangible, they must be  deliverable. To the extent that the decision in State of  U.P. v. Union of India held otherwise, it was, in our  humble opinion erroneous.\024

35.     For the reasons aforementioned, the impugned judgment cannot be  sustained.  It is set aside accordingly.  The Appeal is allowed.  No costs.