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CASE NO.: Appeal (civil)  3339 of 2000

PETITIONER: M/s Xerox Modicorp Limited                                               

RESPONDENT: State of Karnataka                                               

DATE OF JUDGMENT: 24/08/2005

BENCH: S. N. Variava & Tarun Chatterjee

JUDGMENT: J U D G M E N T S. N. VARIAVA, J.         This Appeal is against the Judgment dated 18th February 1999  passed by the Karnataka High Court.           Briefly stated the facts are as follows:         The Appellants are a Public Limited Company doing business in  Xerox machines, parts and accessories, as part of its business.  After  the Xerox machine is sold to a customer, if the customer so desires,  the Appellants enter into one of the two types of Agreements, namely,  either a Full Service Maintenance Agreement (FSMA) or a Spares and  Service Maintenance Agreement (SSMA).  In FSMA the Appellants take  on the responsibility of fully maintaining the machine, servicing it and  if necessary replacing parts. The Appellants also supply material, like  toners and developers.  They charge at the rate of 0.27 paise per copy  produced by the machine.  Under the SSMA, the Appellants agree to  maintain the machine including replacement of parts, if necessary, for  a lump sum of Rs. 7,000/- per annum.  However, the costs of toners,  developers etc are to be borne by the customer.           It appears that in the Returns filed by the Appellants, for Sales  Tax purposes, they declared total taxable turnovers at Rs.  4,23,58,510/- and Rs. 1,63,58,556/-.  The Assessing Authority, on  verification of the books of accounts, determined the total and taxable  turnovers at Rs. 10,34,70,495/- and Rs. 4,70,23,693/-.  The Assessing  Authority held that amounts received for sale of parts, toners and  developers, under the aforementioned two types of Agreements, were  includible for the purposes of sales tax.         The Appellants filed an Appeal before the Joint Commissioner of  Commercial Taxes (Appeals), Bangalore.  In that Appeal, the matter  was remanded back for purposes of considering certain reductions.  An  Appeal was filed before the Karnataka Appellate Tribunal which was  dismissed.  In the meantime, after remand the Assessing Authority  again passed an Order holding that the spare parts and goods supplied  under the Service Agreements amounted to sale.  The Appellants then  filed a Revision Petition which was dismissed by the impugned  Judgment.            Mr. Ganesh, learned senior counsel for the Appellants, submitted  that the essence of a sale of goods is that the parties must enter into a  contract for the transfer of property in movables for a price.  He  submitted that such a contract may be a separate and distinct contract  or it may be an inseparable part of a larger contract, such as a  contract for the construction of a house with materials to be supplied  by the contractor.  He further submitted that prior to the 46th  Amendment to the Constitution of India, it had been held by this Court  in the Gannon Dunkerly’s case [1959 SCR 379] that  no sales tax could  be levied on the transfer of property in goods in the case of such an  inseverable contract.  He further submitted that Article 366(29A)(b),  inserted by the 46th Amendment, only enables an inseverable contract  to be split up, so as to enable sales tax to be levied on that part of it  which consists of a contract to transfer property in movables for a

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price.  He submitted that Article 366(29A)(b) does not have the effect  or consequence of converting what in law is  not a sale of goods into a  taxable sale of goods. He submitted that Article 366(29A)(b) does not  make any departure from the basic concept of the parties having to  enter into a contract for the transfer of property in movables for a  price.  He  submitted that the statutory definitions of "Sale" (Sec. 2(k),  "Taxable Turnover" (Sec. 2(u-1) and "Turnover" (Sec. 2(k), read with  the charging Section 5B, in the Karnataka Sales Tax Act, also indicate  that there must be an agreement for transfer of property in certain  goods for an identifiable price.  He  submitted that in a maintenance  contract, the only obligation cast on the service provider is to keep the  equipment in question in operating condition and to repair it if  necessary and to replace a part only if found necessary.  He submitted  that a maintenance contract is thus not a contract which is entered  into for a transfer of the property in any specific part or component for  any identifiable price.  He submitted that a maintenance contract,  when entered into, is not an agreement for the sale of goods. He  submitted that a maintenance contract does not get transformed into  an agreement for the sale of goods merely by reason of the  subsequent development of some parts or components being replaced  by the service provider, as an integral part of the contractual  obligation of keeping the equipment in good operating condition. He  submitted that in a maintenance contract, the charge is paid for the  service and not as a price for the replacement of any particular part or  component.  He submitted that when the contract is entered into, it is  not even known whether any part or component will require  replacement or not.  He submitted that there is thus no nexus or  correlation between the price paid for the contract and the value of  any part or component which subsequently gets replaced, if at all,  during the contract period.  He further submitted that the basic and  essential requisites of a contract of sale of goods are thus entirely  missing in a maintenance contract, and the same are not created or  brought into existence by the 46th Amendment. He submitted that the  predominant and basic object of a maintenance contract is the  rendering of a service and not the sale of any goods.   In support of his submissions Mr. Ganesh relied on the case of  State of U. P. vs. Union of India [(2003) 3 SCC 239] where it is held  that if a contract is basically a service contract, the incidental supply of  goods under the contract as an essential part of the service does not  attract the levy of sale of tax even after the insertion of Article  366(29A)(b). It has been held that this provision does not obliterate  the distinction between a service and a sale of goods.   Even though at first blush the submissions of Mr. Ganesh may  appear attractive, on a proper consideration, we think that Mr. Iyer  was right when he submitted that the Agreements are not just service  contracts but also maintenance contracts. Mr. Iyer is right that the  machines belong to the customer after they are sold to them. If after  the sale some part was to be replaced or some component supplied  there would be sale as understood in law. Under the Agreements,  apart from the service element, for which no tax is sought to be levied,  there is the element of supplying parts and components like  toners/developers etc. Mr. Iyer is right in submitting that merely  because price is not being separately charged for this, does not detract  from the position that the supply is for a price. Such supply has all the  elements of sale as understood in law. There is transfer of title in  movables for a price. The mere fact that it is not known in the  beginning whether or not a part will have to be replaced is irrelevant.  If there were no such Agreements, it would not be known whether or  not a part would be required to be replaced. It could not be denied  that, even in the absence of any such Agreements, if a part was  required  to be replaced and was replaced there would be a sale of  that part. The same position remains even under the Agreements. As  and when a part is required to be and is replaced a sale takes place at  that instance. To leave no room for doubt it must be mentioned that  the tax is on sale. So if there is no replacement of a part then there is

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no sale of a part.  So far as toners and developers are concerned it is  known from the beginning that they will require regular replenishment.  Under SSMA the customer buys them. Under FSMA they are  replenished by the Appellants.  Faced with this situation Mr. Ganesh next submitted that in any  event, from the point of view of the Appellants, the part or component  replaced can be considered to be material which is consumed in the  execution of the maintenance contract and, therefore, not exigible to  tax by virtue of Explanation I to Rule 6(4) of the Karnataka Sales tax  Rules. The said Explanation  reads as under : "for the purposes of clauses (m) and (n) of sub-rule (4),  ’labour and other like charges’ include charges for  obtaining on hire or otherwise machinery and tools used  for execution of Works Contract, charges for planning,  designing and architects’ fees, cost of consumables used in  the execution of the works contract, cost of establishment  to the extent relatable to supply of labour and services and  other similar expenses relatable to supply of labour and  services."    

On the other hand Mr. Iyer submitted, and in our view rightly, that the  term ’consumables’ used in this explanation has to be read in the  context of the words preceding and following. He submitted that read  as such it is clear that the term ’consumables’ refers to such items as  are used up in execution of the works contract, so that nothing  tangible is left, in which property in the goods can pass to the buyer. A  part placed in the machine does not get consumed. It remains in the  machine. May be over a course of time there may be wear and tear  and/or deterioration but it does not get consumed. Mr. Ganesh however strenuously submitted that in the toner or  developer, supplied in the FSMA there is no transfer of property or  sale.  He submitted that the toner and developer are consumed in the  process of the execution of the Agreement itself.  He submitted that no  sales tax is, therefore, leviable.  In support of this submission Mr. Ganesh relied upon the case of    Pest Control India Ltd. vs. Union of India & Ors. reported in [(1989) 75  STC 188].   In this case there was a contract for eradication of pests,  rodents, termites etc.  In carrying out this work chemicals were  sprayed through machines. The question was whether there was a sale  of chemicals in execution of the works contract. It was held once the  chemicals were sprayed they got consumed and nothing tangible  remained in which property could be transferred.  Mr. Ganesh also relied on the case of The Deputy Commissioner  of Sales Tax (Law), Board of Revenue (Taxes), Ernakulam vs. M. K.  Velu reported in [(1993) 89 STC 40].  In this case there was a contract  for display of fireworks. The question was whether there was a sale of  fireworks.  It was held that the fireworks got consumed in the process  of execution of the work. It was held that thereafter no tangible  property remained. It was held that there was no transfer of goods.  Mr. Ganesh next relied on the case of Dynamic Industrial &  Cleaning Services (P) Ltd. vs. State of Kerala & Anr. reported in  [(1995) 97 STC 564].  In this case there was a contract to clean  boilers in factories. Chemicals were used to clean the boilers. It was  held that the chemicals were used up and thus there was no transfer  of property and thus no sale. Relying on these cases Mr. Ganesh submitted that toners and  developers get consumed in the process of printing and thus there is  tangible property left in which there can be transfer of property. On the other hand, Mr. Iyer submitted that there is transfer of  property in tangible goods i.e. toners and developers, before they get  consumed.  He submitted that this case is akin to sale of petrol or sale  of ink.  He submitted that the authorities relied upon by Mr. Ganesh  are all cases where the goods get consumed in execution of the work  and where there is no transfer of property in the goods before the  goods are consumed. He submitted that the principles laid down in

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those cases have no relevance and cannot apply to the facts of this  case. We have considered the rival submissions. As set out  hereinabove the word consumable in Explanation I to Section 6(4)  refers to such items which get consumed before the property in the  goods can pass. We are informed that toners and developers are  liquids which are put in the Xerox machine. They perform, to put it  simply, the same function as ink in printers. Under the Sale of Goods  Act if specified goods in a deliverable state are delivered the property  in the goods passes. It could not be disputed that the toner and  developer will be delivered in bottles/containers. In the FSMA supplies  are left with the customer. Thus clause 9 of the Section dealing with  the customers obligation provides as follows: "THE CUSTOMER         \005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005\005 \005\005\005\005\005\005\005\005\005\005 9. shall be accountable to MX for xerographic supplies  stock left in trust with the customer who shall ensure that  such stock is used only in the Equipment under this  Agreement. MX reserves the right to charge the Customer  for any stocks which are unaccounted for, to MX’s  satisfaction, at the then prevailing MX prices."  

Thus for the extra stock there is a provision which provides that it is  left in trust.  However once the toner and developer are put into the  machine they are no longer in trust. This is because the property in  the toner and developer passed the moment they are put into the  Xerox machine. Now they belonged to the customer. At this stage they  are tangible movables in which property can pass. This is clear from  the provision that Appellants will charge for unaccounted stock at  prevailing prices. That they are goods in which property can pass is  also clear from the fact that in the SSMA the customer has to buy the  toner and developer. If as now claimed they are consumables in which  property cannot be transferred how are the Appellants charging for  toners and developers. In our view, Mr. Iyer is right. The sale i.e.  transfer of property takes place before the goods are consumed. The  transfer takes place in respect of tangible goods. Just like petrol is  consumed after sale or ink is consumed after sale in this case also the  toners and developers get consumed after sale. The property passes  the moment they are put in the machine. At that stage they are not  consumed but are tangible goods in which property can pass.          In view of the above it is held that there is sale of parts, both in  FSMA and SSMA. There is also sale of toners and developers even in  the case of FSMA. Before us no contention is raised that sales tax is  not being levied on a correct basis. On the contrary Mr. Iyer pointed  out to us the Order dt. 30th August 1994 of the Joint Commissioner of  Commercial Taxes wherein, whilst remitting back for recalculation of  tax, the principles on which it is to be done are laid down. To us they  appear to be correct.         In this view we see no reason to interfere with the impugned  Judgment. The Appeal stands dismissed. There will be no order as to  costs.