A. T. B. Mehtabmajid and Co. vs State of Madras and Another

Rewritten Version Notice: This is a rewritten version of the original judgment.

Court: Supreme Court of India

Case Number: Petition No. 147 of 1959

Decision Date: 22 November 1962

Coram: Raghubar Dayal, S.K. Das, J.L. Kapur, A.K. Sarkar, M. Hidayatullah

The Supreme Court of India heard a petition titled Firm A. T. B. Mehtabmajid And Co versus State of Madras and Another, decided on 22 November 1962. The opinion was authored by Justice Raghubar Dayal and was delivered by a five‑judge bench consisting of Justices Raghubar Dayal, S. K. Das, J. L. Kapur, A. K. Sarkar and M. Hidayatullah. The citation for the decision appears as 1963 AIR 928 and also in the Supreme Court Supplement volume two at page 435. The case concerned the application of the Madras General Sales Tax Act of 193, specifically sections three, five and nineteen, together with Rule sixteen of the corresponding sales‑tax rules. The petitioners, who were dealers in hides and skins, challenged a sales‑tax assessment that was based on the turnover from tanned hides and skins imported from outside the State and then sold within it. They argued that under Rule sixteen the imported and subsequently sold hides and skins attracted a higher rate of tax than hides and skins that were tanned and sold within the State. The petitioners maintained that this differential treatment constituted discrimination prohibited by Article 304(a) of the Constitution of India. The respondents, represented by the State of Madras and another party, put forward several objections to the petitioners’ contentions. First, they argued that sales tax did not fall within the scope of Article 304(a) because it was not a tax imposed at the point of entry of the goods. Second, they claimed that Rule sixteen was not a law enacted by the State legislature and therefore could not be challenged on constitutional grounds. Third, they asserted that the rule itself did not impose the tax but merely identified the single point at which the tax prescribed by sections three and five was to be levied. Finally, they contended that the rule was not framed with reference to the origin of the goods and therefore could not be said to discriminate based on place of source. The petition also invoked Article 32 of the Constitution, seeking judicial review of the assessment on the ground that it violated the guarantee of equality before the law.

The Court examined whether a tax that imposed a higher rate on imported tanned hides and skins than on similar goods produced within the State could be justified under the Constitution. It noted that the classification of goods based on their place of origin created a distinction that potentially interfered with the free flow of trade guaranteed by Article 301. The Court referred to earlier decisions that held that a tax which discriminates between goods of one State and goods of another, without being a compensatory or regulatory measure, violates the constitutional prohibition. It observed that sales tax is not a fee for the use of any particular trading facility and therefore does not fall within the category of a compensatory tax. Consequently, the differential rate imposed by Rule sixteen could not be justified as a measure to regulate trade or to compensate for services rendered by the State. The Court further held that when a taxing law hampers the flow of commerce between States, it must be examined under Article 304(a) to determine its validity. It concluded that the impugned rule, by imposing a higher tax on imported hides and skins, amounted to an unconstitutional discrimination against goods brought from other States. Accordingly, the assessment based on Rule sixteen was set aside as being contrary to the constitutional guarantee of free trade among States. The decision reaffirmed the principle that State taxation schemes must not create barriers to inter‑state commerce unless they fall within the narrow exceptions permitted by the Constitution. Thus, the Court directed that the petitioners be relieved of the tax liability imposed under the contested rule and that the assessment be recomputed in accordance with the uniform rate applicable to all hides and skins.

In this case the Court observed that a sales tax of the character challenged could not be described as a regulatory measure of trade nor as a compensatory tax imposed for the use of trading facilities. Because the tax created a distinction between goods originating from other States and those produced within the State, it interfered with the free flow of trade guaranteed by Article 301 of the Constitution. Consequently the tax would be unconstitutional unless it fell within the limited authority granted by Article 304(a). The Court referred to the decisions in Atiabari Tea Co. Ltd. v. State of Assam, [1961] 1 S.C.R. 809 and Automobile Transport, Rajasthan Ltd. v. State of Rajasthan, [1963] 1 S.C.R. 491, which support the view that Article 304(a) permits a State legislature to levy taxes on goods imported from other States but does not require that such a tax be imposed at the point of entry. Section 19(5) of the Madras General Sales Tax Act states that any rule made under the Act shall have the same effect as if it were enacted in the Act itself, and therefore Rule 16 of the Madras General Sales Tax Rules is a law made by the State legislature. The rule merely sets a necessary step for the levy of tax under sections 3 and 5, and thus forms part of the enactment that imposes the tax. The Court held that the fact that Rule 16(2) was framed under section 385 to prescribe a single point in the series of sales does not excuse its discriminatory character. By discriminating against hides and skins that had been purchased or tanned outside the State, the rule violated Article 304(a). The Court further explained that once an old rule is replaced by a new rule, the old rule ceases to exist and is not revived even if the new rule is later declared invalid. Accordingly, the tax in the present case was not imposed by a valid interpretation of the Act but was levied without jurisdiction because Rule 16 was unconstitutional, distinguishing the earlier case of Ujjam Bai v. State of U.P., [1963] 1 S.C.R. 778.

The petition was filed under Article 32 of the Constitution for the enforcement of fundamental rights and was designated as Petition No. 147 of 1959. The petitioners were represented by counsel for the petitioner, while counsel for respondents 1 and 2 appeared on behalf of the State and the other respondent. An intervener also participated through counsel. The petition challenged the validity of Rule 16 of the Madras General Sales Tax (Turnover and Assessment) Rules, 1939, which had been published on 7 September 1955 and had replaced the earlier Rule 16. The new rule was intended to take effect from 1 April 1955. The petitioner, a dealer in hides and skins, dealt in both hides and skins tanned outside the State of Madras and those tanned within the State. The Deputy Commercial Tax Officer of the Moore Market Division assessed sales tax on the petitioner’s turnover for the year 1955‑56, amounting to Rs 29,89,624‑15‑11, of which Rs 28,10,625‑2‑0 represented sales of hides and skins obtained from outside the State. The assessment was made under the Madras General Sales Tax Act, 1939, wherein section 3 serves as the charging provision and section 5 provides for certain exemptions and reductions, including clause (vi) that makes the sale of hides and skins liable to tax regardless of whether they are tanned or untanned.

In this case the facts show that the Deputy Commercial Tax Officer of the Moore Market Division in Madras assessed the petitioner to sales tax for the fiscal year 1955‑56 on a total turnover of Rs 29,89,624‑15‑11. Of this total, the amount of Rs 28,10,625‑2‑0 represented sales of hides and skins that had been tanned outside the State of Madras. The assessment was made under the Madras General Sales Tax Act, 1939 (Act IX of 1939), which the judgment refers to simply as the Act. Section 3 of the Act is the charging provision and it states: “3.(1) Subject to the provisions of this Act, (a) every dealer shall pay for each year a tax on his total turnover for such year; and (b) the tax shall be calculated at the rate of three pies for every rupee in such turnover ….” Section 5 of the Act contains the provisions for exemptions and reductions of tax in certain circumstances. Clause (vi) of that section provides that the sale of hides and skins, whether tanned or untanned, shall be liable to tax under section 3, sub‑section (1), only at a single point in the chain of successive dealers as may be prescribed. Section 19 authorises the State Government to make rules for the purpose of giving effect to the Act. The rule that is the subject of the petition is Rule 16, which the petitioner challenges as invalid. Rule 16 reads as follows: “16.(1) In the case of untanned hides and/or skins the tax under section 3(1) shall be levied from the dealer who is the last purchaser in the State not exempt from taxation under section 3(3) on the amount for which they are bought by him. (2)(i) In the case of hides or skins which have been tanned outside the State the tax under section 3(1) shall be levied from the dealer who in the State is the first dealer in such hides or skins not exempt from taxation under section 3(3) on the amount for which they are sold by him. (ii) In the case of tanned hides or skins which have been tanned within the State, the tax under section 3(1) shall be levied from a person who is the first dealer in such hides or skins not exempt from taxation under section 3(3) on the amount for which they are sold by him, provided that, if he proves that the tax has already been levied under sub‑rule (1) on the untanned hides and skins out of which the tanned hides and skins had been produced, he shall not be so liable. (3) The burden of proving that a transaction is not liable to taxation under this rule shall be on the dealer.” The petitioner contends that the operation of this rule results in a situation where hides and skins that have been tanned outside the State and subsequently sold within the State attract a higher rate of tax than hides and skins that are tanned and sold within the State, because the tax on the imported tanned hides or skins is calculated on their sale price whereas the tax on tanned hides or skins produced inside the State is effectively calculated on the price of the raw hides or skins before tanning, which is substantially lower.

In the petition‑er's submissions, it was argued that the tax imposed on hides or skins that have been tanned outside the State is calculated on the basis of the sale price of those finished articles. By contrast, the tax on hides or skins tanned within the State, although it is formally described as being levied on the sale price, is in reality determined, because of the proviso to clause (ii) of sub‑rule (2) of rule 16, on the price at which those hides or skins were purchased in their raw condition. The raw‑material purchase price is substantially lower than the price at which the same hides or skins command after they have been tanned. Consequently, the petitioner maintained that the tax burden is heavier on the imported, tanned hides or skins than on those that are tanned after being brought into the State in raw form.

The petitioner further contended that a similar disparity arises with hides or skins that are brought into the State in the raw condition, subsequently tanned there, and then sold. In that situation, the tax is levied on the sale price of the finished, tanned hides or skins. By contrast, hides or skins that are bought in the raw condition within the State and tanned there are taxed on the purchase price of the raw material, which is lower than the price of the finished product. This, the petition‑er argued, results in a discriminatory taxation scheme that contravenes Article 304(a) of the Constitution, which forbids discrimination in the levy of taxes on the basis of the origin of goods. Intervenor parties raised identical arguments, echoing the petition‑er’s concerns.

The respondents set out several points in opposition. First, they asserted that sales tax does not fall within the scope of Article 304(a) because it is not a tax on the import of goods at the point of entry into the State. Second, they claimed that the rule under challenge was not a statute enacted by the State Legislature, and therefore could not be said to constitute a law for the purposes of the constitutional provision. Third, they emphasized that the rule itself does not impose any tax; rather, it merely designates the single point at which the tax prescribed by sections 3 and 5 of the Sales Tax Act is to be collected. Fourth, they argued that the rule was formulated without regard to the geographical origin of the hides or skins, but solely out of practical necessity to give effect to statutory provisions that treat raw and tanned hides or skins as a single category and that require the tax to be levied at one definitive moment. Accordingly, the rule fixes that moment as the last purchase of raw hides or skins by a dealer within the State, and as the first sale of tanned hides or skins by a dealer within the State. Under the first circumstance the tax is calculated on the price paid by the purchaser of the raw hides, while under the second circumstance the tax is based on the price at which the dealer sells the tanned hides.

Reference was then made to Article 301 of the Constitution, which guarantees free trade, commerce and intercourse throughout the territory of India, subject to the other provisions of Part XIII. The Court noted that this provision has been interpreted in earlier decisions, notably in Atiabari Tea Co. Ltd. v. The State of Assam and Others and in Automobile Transport (Rajasthan) Ltd. v. The State of Rajasthan and Others. The prevailing view, as articulated by Justice Gajendragadkar in the Atiabari Tea case, was quoted at length to illustrate the principles governing the interaction between constitutional freedom of trade and fiscal measures.

The Court thought it would be reasonable and proper to hold that restrictions on freedom, as discussed in (1) [1961] 1 S.C.R. 809 and (2) [1963] 1 S.C.R. 491, which are guaranteed by Article 301, are those that directly and immediately restrict or impede the free flow or movement of trade. Taxes may and do amount to restrictions; however, only taxes that directly and immediately restrict trade fall within the scope of Article 301. Consequently, the Court was satisfied that a rational and workable test for determining the breadth of the freedom guaranteed by Article 301 is whether the impugned restriction operates directly or immediately on trade or its movement. The Court concluded that when Article 301 declares that trade shall be free throughout the territory of India, it means that the flow of trade must run smoothly and without obstruction, whether at state boundaries or at any other points within the states. It is the free movement or transport of goods from one part of the country to another that the provision intends to protect, and any enactment that imposes a direct restriction on such movement attracts the provisions of Article 301 and can be sustained only if it satisfies the conditions of Article 302 or Article 304 of Part XIII. In the majority judgment of the Automobile Transport case, the Court reiterated at page 1424 that the interpretation accepted by the majority in the Atiabari Tea case is correct, but it must be clarified that regulatory measures or compensatory taxes for the use of trading facilities do not fall within the restrictions contemplated by Article 301. Earlier, at page 1422, the Court observed that regulatory measures which do not impede the freedom of trade, commerce and intercourse, and compensatory taxes for the use of trading facilities, are not struck down by Article 301 because they facilitate rather than hamper trade. Justice Subba Rao concurred, stating at page 1436 that Article 301 declares a right of free movement of trade without any barriers, whether inter‑State, intra‑State or other impediments, and that this freedom is promoted, not impeded, by regulations creating conditions for free movement, such as police regulations, provision of services, maintenance of roads, aerodromes, wharves, etc., with or without compensation. Thus, it is now well settled that taxing laws can be restrictions on trade, commerce and intercourse only if they hamper the flow of trade and are not merely compensatory taxes or regulatory measures.

In this case the Court observed that the sales tax that was under consideration could not be characterised as a compensatory levy or as a regulatory measure intended to facilitate the use of trading facilities. Because the tax operated by discriminating between goods originating in one State and those coming from another State, it had the potential to impede the free flow of trade guaranteed by Article 301. Consequently, such a tax would be constitutionally unacceptable unless it fell within the scope of Article 304(a). Article 304(a) authorises a State Legislature to enact laws that affect trade, commerce and intercourse, and it permits the imposition of taxes on goods imported from other States provided that similar goods produced within the State are subjected to comparable taxation. Thus, the constitutional test requires that the tax not create a distinction between locally manufactured hides or skins and those imported from outside the State. The Court held that if, by applying the proviso to sub‑rule of Rule 16, imported tanned hides or skins were taxed at a higher rate than similar goods produced locally, the tax would be discriminatory, would offend Article 301, and would have to be struck down as unconstitutional. The Court rejected the respondents’ argument that Article 304(a) was engaged only when a tax was levied at the State border at the moment of entry. That contention was deemed untenable because Article 304(a) merely allows a State to tax goods imported from other States and does not restrict the point of imposition to the border alone.

The Court further examined the statutory framework governing the levy of tax on hides and skins. Section 5(vi) provides that the sale of hides or skins, whether tanned or untanned, shall be liable to tax under Section 3(1) only at a single point in the chain of successive dealers as prescribed by rules made under the Act. The term “prescribed” is defined as “prescribed by rules made under the Act,” and Rule 16 specifies that single point. Rule 16 was promulgated by the Governor exercising the authority conferred by Section 19 of the Act; consequently, the rule possesses statutory force. Sub‑section (5) of Section 19 further declares that the rules shall have the same effect as if they were enacted in the Act itself. Accordingly, the Court concluded that Rule 16 is indeed a law made by the State Legislature. Although the rule itself does not impose the tax, it determines the precise point at which the tax imposed by Sections 3 and 5 must be levied. Therefore, the rule constitutes an essential step in the operation of the tax and forms an integral part of the enactment that imposes the tax. The Court rejected the argument that the rule, being merely a procedural mechanism, falls outside the ambit of legislation, and affirmed that the rule is a valid component of the statutory scheme authorising the tax on the sale of hides or skins.

The Court observed that the fact that the tax on hides or skins was to be levied, in accordance with sections 3 and 5 of the Act, did not justify a rule that treated imports differently from goods produced within the State. The remaining issue for determination was whether the rule created a distinction between hides or skins imported from outside the State and those manufactured or produced inside the State. The Court examined sub‑rule (1) of the rule, which concerns the sale of raw hides and skins. Under this sub‑rule the tax is imposed on the dealer who is the last purchaser within the State, and the validity of this provision was not contested. Clause (i) of sub‑rule (2) provides that tax is to be levied on the sale of hides and skins that have been tanned outside the State. In this case the tax is imposed on the dealer who, within the State, is the first seller of such hides or skins, meaning that a dealer dealing in hides or skins tanned outside the State must pay tax on the amount for which he sells them. Clause (ii) of the same sub‑rule uses identical language for the sale of hides and skins tanned within the State; the tax is likewise imposed on the first dealer in the State and is calculated on the sale price. The Court noted that the alleged discrimination arises from the proviso attached to clause (ii). The proviso states that if a dealer of hides or skins tanned within the State can demonstrate that tax has already been paid on those hides or skins in their raw condition under sub‑rule (1), then that dealer is exempt from the tax imposed by clause (ii) of sub‑rule (2). Consequently, the sale of hides or skins that were purchased in the State and subsequently tanned there is not subject to any additional tax. The Court further explained that most hides and skins tanned within the State are those bought in their raw condition inside the State, on which tax has already been levied at the price paid by the purchaser at the time of the raw sale. If the amount of tax had been identical in both situations, the dealers of hides or skins tanned outside the State would not have a grievance. However, the grievance stems from a difference in the tax amount because of a substantial disparity between the price of the raw hides or skins and the price after tanning, even though the rate remains the same under section 3(1)(b) of the Act. The Court therefore concluded that when a dealer purchases a raw hide or skin within the State, the tax liability differs from that of a dealer who imports raw hides or skins and tans them within the State.

When a dealer acquires raw hides or skins within the State, he is required to pay tax based only on the purchase price, not on the subsequent sale price of the tanned product. Conversely, if the dealer imports raw hides or skins from outside the State and then tans them inside the State, the sales‑tax liability attaches to the price at which the finished tanned hides or skins are sold. Thus the dealer must pay a higher amount of tax even though the tanning operation occurs within the State, simply because the raw material was imported and no tax had been paid on it under sub‑rule (1). It is also true that a small number of dealers who sell hides and skins tanned within the State without having purchased any raw hides or skins—because the material came from the carcasses of animals they owned—must likewise bear the same tax when no tax was previously paid. Nevertheless, this circumstance does not alter the discriminatory character of the tax that has been previously noted in this case. The respondent State argues that to assess discrimination between imported goods and goods produced or manufactured within the State, the circumstances at the taxable point must be identical, and that hides or skins already taxed in their raw condition should be treated as different from those imported and tanned outside the State. We are not persuaded that the mere fact that tax was paid on the raw hides or skins at the time of their purchase suffices to classify those goods as a different kind from the tanned hides or skins that were imported. At the moment these hides or skins are sold in their tanned condition, there is no distinction between them as goods and the hides or skins that were tanned outside the State. The similarity contemplated by Article 304(a) concerns the nature, quality and kind of the goods, not whether they have already been subjected to tax. Consequently, we hold that the provisions of rule 16(2) discriminate against imported hides or skins that were purchased or tanned outside the State and therefore violate Article 304(a) of the Constitution. The respondent also contended that if the impugned rule were declared invalid, the old rule 16 would be revived and the tax assessed on the petitioner would stand. We disagree with that submission because once the new rule replaces the old rule, the old rule ceases to exist and does not automatically revive upon the new rule’s invalidity. Finally, we note the preliminary objection raised on behalf of the respondent concerning the maintainability of this petition, in view of the…

The Court observed that the earlier decision rendered in Ujjam Bai v. State of Uttar Pradesh, reported at (3), is not applicable to the present petition. The present matter does not fall within the factual matrix of that precedent.

The Court further explained that the present case is not one in which the Deputy Commercial Tax Officer imposed a tax by incorrectly interpreting any provision of a valid statute. Instead, the tax was assessed by an officer who, according to the Court, possessed no jurisdiction to levy the tax because the rule on the basis of which the assessment was made had been held invalid. The Court referred to the authority cited at (1) [1963] 1 S.C.R. 778 in support of this view.

Consequently, the Court allowed the petition, awarded costs to the petitioner, and declared the impugned rule 16 (2) to be invalid. The Court ordered that a writ of mandamus be issued to the State of Madras and to the Sales Tax Authorities, directing them, under the relevant Act, to refrain from enforcing any provision of rule 16 (2). The Court further directed that the authorities refund the tax that had been collected unlawfully from the petitioner.

The judgment concluded with the order that the petition be allowed.