3-D (Input tax credit on sale of exempted goods Available !!

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Lao Tzu said The key to growth is the introduction of higher dimensions of consciousness into
our awareness. Thinking about an issue only from one-dimension may result in faulty action.
This is also true for indirect taxes. One has to think from all points of view to get the best
answer. This column attempts to discuss various issues pertaining to indirect taxes from all the
three dimensions i.e. Central Excise, Service Tax & VAT.
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VAT
Hon. Delhi High Court in case of Jaishree Exports v. Commissioner, Trade & Taxes
department ([2014] 70 VST 375) held that input tax credit is available on purchases of goods
used in packing exempted finished goods which are exported out of India. Current article deals
with analysis of this case along with its implications under Gujarat Value Added Tax Act.
FACTS OF THE CASE
The appellant is a recognized export house engaged in the business of exporting rice out of
India. It purchased goods for packing the rice for export. As packing material was purchased on
payment of tax, appellant claimed input tax credit (ITC) of the same and as there was no output
tax liability, appellant claimed refund of the accumulated input tax credit. Assessing authority
rejected the refund claim of the appellant on the ground that as per Section 9(7)(b) of Delhi
Value Added Act (DVAT), 2004 no input tax credit is allowed for the purchase of goods which
are used exclusively for the manufacturing, processing or packing of goods specified in the First
Schedule. As per entry No.46 of First Schedule of DVAT Act 2004 rice is exempted goods. Hence,
no ITC can be allowed for its packing material. Hon. Delhi Tribunal also upheld the order of
assessing authority.
BEFORE HON. DELHI HIGH COURT
Sec. 6,7 & 9 of DVAT Act, 2004 is relevant for the current dispute. Section 6 of the Act provides
for sale that is exempt from tax. It is reproduced for ready reference:
Sec. 6. (1) The sale of goods listed in the First Schedule shall be exempt from tax subject to the
conditions and exceptions set out therein.
(2) The dealers or class of dealers specified in the Fifth Schedule shall be exempt from payment of tax on
all sales of goods effected by them subject to such conditions as may be prescribed.
(3) Where a dealer sells capital goods which he has used since the time of purchase exclusively for
purposes other than making non-taxed sale of goods, and has not claimed a tax credit in respect of such
capital goods under section 9, the sale of such capital goods shall be exempt from tax.
Section 7 of the Act provides for certain sales not liable to tax. It is also reproduced for ready
reference:
Sec. 7. Nothing contained in this Act or the rules made thereunder shall be deemed to impose or
authorise the imposition of tax on any sale of goods when such sale takes place
(a) in the course of inter-State trade or commerce; or
(b) outside Delhi; or
(c) in the course of import of the goods into or export of the goods out of, the territory of India; or
Explanation: Sections 3,4 and 5 of the Central Sales Tax Act, 1956 (74 of 1956) shall apply for
determining whether or not a particular sale takes place in the manner indicated in clause (a),
clause (b) or clause (c) of this section.
(d) in accordance with the notification issued by the Central Government in exercise of its powers
under section 3 of the Foreign Aircraft (Exemption from Taxes and Duties on Fuel) Act, 2002
(36 of 2002), no tax shall be levied on sales of the fuel and lubricants which are filled into
receptacles forming part of any aircraft registered in a country other than India, if
(i) the said country is a party to the Convention on International and Civil Aviation,
1944; and
(ii) the said country has entered into an Air Services agreement with India; and
(iii) the aircraft is operating on a scheduled or non-scheduled service to or from India.]

Sec. 9 deals with provisions of input tax credit. Relevant portion is reproduced for ready
reference:
Sec. 9. (1) Subject to sub-section (2) of this section and such conditions, restrictions and limitations as
may be prescribed, a dealer who is registered or is required to be registered under this Act shall be
entitled to a tax credit in respect of the turnover of purchases occurring during the tax period [where
the purchase arises] in the course of his activities as a dealer and the goods are to be used by him
directly or indirectly for the purpose of making
(a) sales which are liable to tax under section 3 of this Act; or
(b) sales which are not liable to tax under section 7 of this Act.
Explanation : Sales which are not liable to tax under section 7 of this Act involve exports from Delhi
whether to other States or Union territories or to foreign countries.]
(7) For the removal of doubt, no tax credit shall be allowed for
(b) the purchase of goods which are used exclusively for the manufacture, processing or packing of
goods specified in the First Schedule.

As seen from above, u/s 9(7)(b), ITC is not available on purchases of goods which are used
exclusively for manufacture, processing or packing of goods specified in the First Schedule.
Question before Hon. Delhi High Court was whether transaction of export of rice (which is
specified in First Schedule) can be considered as sale of exempted goods u/s 9(7)(b) and thus no
ITC is available on packing material used for it?
Hon. Delhi High court allowed ITC of packing material used for export of exempted product
(rice) on following reasons:
1) Under DVAT Act dealer is liable to pay VAT only on sale of goods made within the State.
Inter-state sales, outside State sales and exports are outside the purview of DVAT as per Sec. 7
of DVAT Act. As per Sec. 6 of DVAT Act sale of goods specified in First Schedule is exempt from
tax. On combined reading of Sec. 6 & Sec. 7 one can conclude that Sec. 6 exempts only local
sale of goods specified in First Schedule. Exports are outside the purview of DVAT and thus
export of rice cannot be said to be exempt u/s 6. Further u/s 9 a dealer is entitled to take input
tax credit on all goods used in making sales (either within the State or interstate sales or
exports). However sec. 9(7)(b) does not allow input tax credit on purchases which are
exclusively used in manufacture of exempted goods. As exports are outside the purview of
DVAT, it cannot be regarded as exempted goods and thus will not be covered by Sec. 9(7)(b).
Hence full ITC is available on purchase of packing material used for export of exempted goods.
2) There is a difference between sales that are not liable to tax and sales which are liable to tax,
but which have been given exemption from the levy of the tax subject to the conditions and
exceptions set out in the First Schedule. Inter-state sales and exports are sales which are not
liable to tax under DVAT Act whereas sale of exempted goods specified in First Schedule are
sales which are liable to tax but for the exemption (i.e. local sales of exempted goods).
Therefore, Section 9(7)(b) of the Act, when it says that no tax credit shall be allowed for the
purchase of goods which are used exclusively for the manufacture, processing or packing of
goods specified in the First Schedule, refers only to the sale of exempted goods within the
meaning of Section 6(1) of the Act and does not refer to sales which are not liable to tax at all
by virtue of the provisions of Section 7.
3) The opening words of Section 7 are important and they make the provisions of the Act and
the rules inapplicable to sales in the course of import of the goods into or export of the goods
out of the territory of India. The result is that such sales are outside the purview of the Act. Tax
credit under Section 9(1)(b) is, however, available in the case of goods purchased and used by a
dealer, directly or indirectly, for the purpose of making sale of goods in the course of export of
the goods out of India. The First Schedule to the Act cannot, in the very nature of things, apply
to sales in the course of export out of India, which are not liable to tax at all under the Act.
4) Article 286(1) of the Constitution of India states that no law of a State shall impose, or
authorize the imposition of tax on the sale or purchase of goods where such sale or purchase
takes place (a) outside the State and (b) in the course of the import of the goods into, or export
of the goods out of, the territory of India. When the Legislature of a State is thus not competent
to levy tax in the above circumstances, it cannot be regarded as exempt from tax. Exports are
outside the purview of DVAT Act.
Therefore, Section 9(7)(b) of the Act cannot apply to such sales. This clause applies only to
purchase of goods which are exclusively used for the manufacture, processing or packing of the
goods specified in the First Schedule which are liable to tax, if sold, but are not taxed because of
the exemption granted to the sale of these goods under Section 6(1). Hence Hon. Delhi High
Court held that full input tax credit is available of packing material used for rice which is
exported.
IMPLICATIONS UNDER GVAT ACT, 2003
Under GVAT Act, Sec. 11 contains provisions related to input tax credit. Sec. 11(3)(a) is relevant
for our discussion hence it is reproduced for ready reference:
(3) (a) Subject to the provisions of this section, tax credit to be claimed under sub-section (1)
shall be allowed to a purchasing dealer on his purchase of taxable goods made
mentioned in (i) or (ii) above which are intended for the purpose of-
(i) sale or re-sale by him in the Sate;
(ii) sale in the course of inter-State trade and commerce, other than the sales in the
course of export out of the territory of India;
(iii) branch transfer or consignment of taxable goods to other States (subject to the
provision of sub-clause (b) below);
(iv) sales in the course of export out of the territory of India;
(v) sales to export oriented units or the units in Special Economic Zones for sale in the
course of export out of the territory of India;
(vi) Use as raw material in the manufacture of taxable goods intended for (i) to (v)
above or in the packing of the goods so manufactured;
(vii) use as capital goods meant for use in manufacturer of taxable goods intended for
(i) to (vi) above subject to the condition that such capital goods are purchased
after the appointed day;
Provided that if purchases are used partially for the purposes specified in this sub-section, the tax credit
shall be allowed proportionate to the extent they are used for the purposes specified in this sub-section.
In case of trading operations, ITC is available on purchase of taxable goods which are sold in the
course of inter-state trade or commerce or sales in the course of export amongst other things.
Hence there is no requirement that sales have to be of taxable goods. Thus sale of goods
specified in Schedule I or specified in notifications u/s 5(2) (hereinafter referred as exempted
goods) is covered by Sec. 11(3) and full ITC is available.
In case of manufacturing operations, ITC is available of raw material and capital goods used in
manufacture of taxable goods.
Can it be said that inter-state sales and export of exempted goods are not taxable goods and
thus input tax credit is not available on raw material and capital goods used in their
manufacture?
As per Sec. 2(29), taxable goods is defined as taxable goods means goods other than those on the
sales or purchase of which no tax is payable under section 5.
Above definition excludes those goods on sales or purchase of which no tax is payable under
section 5. Inter-state sales and exports of exempted goods will not be excluded from definition
of taxable goods on following reasons:
1) Tax is not payable on inter-state sale of exempted goods by virtue of Sec. 8(2) of the CST Act
and not Sec. 5 of GVAT Act. As per Sec. 8(2) of CST Act, rate of tax on inter-state sale will be the
local rate of tax in the appropriate state. As the local rate of tax on exempted goods is NIL by
virtue of exemption u/s 5, rate of tax in case of inter-state sales is also NIL. However the
transaction of inter-state sale is still covered by Sec. 8(2) of CST Act and not Sec. 5 of GVAT Act.
Definition of taxable goods only excludes goods on sale of which no tax is payable u/s 5 of GVAT
Act. It will not exclude inter-state sale of exempted goods covered by Sec. 8(2).
2) Tax is not payable on export of exempted goods by virtue of Article 286 of the Constitution of
India. Said article provides for restriction of levy of sales tax on imports and exports. States
have no power to levy VAT on exports. Hence even exports will not be excluded from definition
of taxable goods as it only excludes those goods on sale of which no tax is payable u/s 5 of
GVAT Act.
Thus full input tax credit will be available of raw material as well as capital goods used in inter-
state sale and export of exempted goods.
Sec. 11(5) of GVAT Act provides for negative list of goods/transactions on which input tax credit
is not available. Sec. 11(5)(h) is relevant for our analysis and is reproduced for ready reference:
(h)of the goods which are used in manufacture of goods specified in Schedule I, or the goods exempt
from the whole of the tax by a notification under sub-section (2) of section 5 or in the packing of goods
so manufactured
Raw material and capital goods used in manufacture of exempted goods meant for inter-state
sale and export will not be covered by Sec. 11(5)(h) because of following reasons:
1) As discussed above, inter-state sale and export of exempted goods are not covered by Sec. 5
of GVAT Act. Sec. 11(5)(h) does not allow input tax credit of only goods used in manufacture of
exempted goods specified in Sec. 5.
2) Sec. 9(7) of DVAT Act contains exactly similar provision. It is reproduced for ready reference:
(7) For the removal of doubt, no tax credit shall be allowed for
(b) the purchase of goods which are used exclusively for the manufacture, processing or packing of
goods specified in the First Schedule.

On reading the same, Hon. Delhi High Court in case referred above held that full tax credit is
available of packing material used in export of rice (which is an exempted product) as it will not
fall in said sub-section. Exports are outside the purview of GVAT. On same logic, even inter-
state sales are outside the purview of GVAT by virtue of Sec. 4 of the Act.
CONCLUSION
On the basis of analysis of the provisions of the law as well as the judgment of Hon. Delhi High
Court, it can be concluded that full input tax credit is available of goods purchased and used in
making inter-state sales as well as exports of exempted goods.