Regulation vs taxation — what majority said in SC judgment allowing states to tax mining activity

The 8:1 verdict provides clarity on a long-standing issue related to the legal framework governing mining royalties, highlights distinction between royalty and tax.

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New Delhi: The Supreme Court Thursday, by an 8:1 ruling, upheld the legislative competence of states to levy tax on mining activity within their respective territories, providing clarity on the long-standing issue related to the legal framework governing mining royalties.

The majority view, authored by Chief Justice of India D.Y. Chandrachud, dealt with the relationship between the Centre and the power of states to regulate mining under the Constitution as well as the distinction between regulation and taxation.

This tax, the top court said, would be in addition to the royalty, which a lessee pays to the lessor as a contractual obligation between the two. It also said the royalty is not a tax — as envisaged under the Mines and Minerals (Development Regulation) Act, 1957 (MMDR Act) — and does not limit a state’s power to tax mineral rights.

Justice B.V. Nagarathna, the sole woman judge on the bench also comprising justices Hrishikesh Roy, A S Oka, J.B. Pardiwala, Manoj Misra, Ujjal Bhuyan, Satish Chandra Sharma and Augustine George Masih, pronounced a dissenting view, warning against giving states the plenary rights to tax mining activities.

Relief for states

Giving significant relief to states, the judgment held that while the Centre is empowered to regulate mining development in the country, the enumeration of taxes on mineral rights is an entrustment to the states. But this express power, it said, is subject to limitations that may be imposed by Parliament. This could, the court said, encompass prohibition which can be imposed through law. This means that if the Centre wants to modify the current scheme on mining operations under the MMDR Act to divest states of their power to levy a tax, it can do so.

However, the court clarified that a state legislature’s power “does not foray into the duty of exercise or a tax on the sale of minerals”, explaining the scope of the taxation. The bench brushed aside concerns that empowering states with taxation rights on mineral rights would be against mineral development. It emphasised that the Constitution mandates Parliament to step in to impose limitations based on which a state legislature can tax mineral rights.

Welcoming the decision, the additional advocate general of Rajasthan, Shiv Mangal Sharma, told ThePrint that the judgment would provide a “substantial financial boost” to state governments by affirming their right to impose taxes. “This judgment is the court’s acknowledgement of the state’s legislative powers, which will enable better revenue generation from the mining sector.”

Next hearing on 31 July

The court will, on 31 July, hear whether the judgment should be applied retrospectively or prospectively. A retrospective application would bring windfall gains for mineral-rich states, including West Bengal, Odisha and Jharkhand, which have local laws to impose additional tax on mining lessees.

The Supreme Court judgment came four months after it reserved its verdict on 86 cross-petitions filed on the issue of whether royalties on minerals constitute a tax under the MMDR Act. Another question for the court’s consideration was whether only the central government can levy the exactions, or if the states possess the sole authority to impose them within their jurisdiction.

The matter was referred to a nine-judge bench in 2011 when a bench of three judges, led by the then chief justice of India S.H. Kapadia, observed conflicting views on the complex questions of law arising in the matter.

The issue arose for the first time when India Cement Ltd challenged a Madras High Court order that affirmed the Tamil Nadu government’s decision to tax the company for its mining operations in the state. India Cement claimed that it was already paying royalties to the state and, therefore, the cess imposed later was beyond the state’s legislative competence.

But the Tamil Nadu government defended its decision, contending that the cess was a form of land revenue on mineral rights. In 1989, a seven-judge bench held against the states and declared that the Centre held primary regulatory authority under the MMDR Act to collect taxes on mining activities. States, it said, could collect royalties but not impose additional taxes on mining and mineral development.

Over a decade later, a five-judge bench in 2004, while hearing a similar dispute between West Bengal and Kesoram Industries Ltd, noted there was a typographical error in the 1989 judgment and held that “royalty is not a tax,” but “cess on royalty is a tax”.

‘Royalty is not a tax’

Thursday’s judgment delineated the essential characteristics of royalty and the conceptual differences between royalty and a tax.  It defined “royalty” as consideration for parting with the right to win minerals, and “tax” as an “imposition of a sovereign”.

While royalty is paid for carrying out a particular action, that is, extracting minerals from the soil, tax is determined by law. The royalty, the court said, flows from the lease deed, as opposed to tax, which is imposed by authority of law.

Royalty, the judgment underscored, is not a compulsory exaction by a public authority for a public purpose. It stems from contractual conditions of the mining lease agreed between the lessor and the lessee. A lessor can either be the state or a private party.

In contrast, tax is levied by a public authority concerning a taxable event determined by law, to be used for public work. Applying the same principle to dead rent, the bench held that neither royalty nor dead rent fulfil the conditions that would make them taxes.

On the power of Centre and states to regulate, tax mining

The 198-page-long judgment studied the relationship between the Centre and the states in regulating mining developments in the country. To do so it examined entries 23 (state power to regulate mines and mineral development) and 50 (state’s taxation power on mineral rights) of List 2 or the state list in the Constitution as well as Entry 54 (regulation of mines and mineral development) of List 1 (central list). Notably, Entry 23 is subject to the provisions in the central List, and Entry 50 is subject to any limitation imposed by Parliament.

The judgment held that while the state legislatures possess plenary legislative power in regulating mines and mineral development under the Constitution, this power (which is an incident of sovereignty) is subject to constitutional limitations and is subordinated to the extent to which the Parliament regulates it through law, which here is the MMDR Act.

Regulation, the court explained, would mean managing the governance of an enterprise through rules or laws for the exploitation of minerals, the reduction of wastage in the beneficiation process, and ecological factors among others. The MMDR Act gives shape and meaning to the expression “regulation of mines and mineral development” through its provisions and the subordinate rules.

Centre’s limitations rejected

However, the court did not accept the submission of the Centre and private mining companies on limitations on states to impose tax. The bench distinguished between regulatory and taxation power. It said Entry 50 in List 2 or the state list enumerates the power to levy taxes on mineral rights on states. This is a constitutional entrustment to the states, which the court is bound to accept, it said.

The field of taxation, it added, cannot be derived from the constitutional power to regulate, but has to be derived from a specified entry on taxation, which in the present case is expressly enlisted under the state list, the court held. “The power to tax is neither incidental nor subsidiary to the power to legislate on a particular matter in the nature of a regulatory entry,” the bench said.

To the Centre’s submission that the underpinning considerations of the MMDR Act were to protect the exploration and extraction of minerals and usher in a uniform structure for their regulation and development, the bench said Parliament was within its rights under the Constitution to impose a limitation on taxation.

“Thus, the taxing power of the state is capable of being controlled by a non-fiscal enactment by Parliament relating to the development of minerals. This seems to recognise that a fiscal imposition in the nature of a tax on mineral rights by a state may impact on the development of minerals. That is why the former has been made subject to a law relatable to mineral development enacted by Parliament,” the bench held.

But for now, there are no limitations imposed on the state imposing taxes on mineral rights, it said. However, it clarified that Parliament cannot use its residuary powers under the Constitution to gain legislative competence.

Powers under Entry 49

The states also derive their power to tax mineral activities from Entry 49 of the state list, which allows states to impose taxes on lands and buildings, the court observed. The bench described the expression “land” in this entry as the land that may be used to grow tea leaves or extract minerals.

“In other words, mineral-bearing lands also fall within the description of lands under Entry 49 of List 2,” the court declared, adding that the income of the land yield can be adopted as a measure of tax.

“The assessment of tax on land depends on the actual or potential productivity of the land sought to be taxed. The yield from mineral-bearing land is nothing but the quantity of mineral produced,” the bench clarified. Royalty, it emphasised, is not the yield of the mineral-bearing land, but the yield is the more important factor in determining the rate of royalty.

Levy of tax by state not against mineral development

Highlighting that mining activities are carried out by both the public and private sectors, the court said the government is required to raise revenues to fund public sector undertakings, such as the Mineral Exploration Corporation of India, apart from other public activities.

Moreover, mining activities cannot be carried out without the existence of public order or the lack of a functioning legal system to ensure adherence to contractual obligations. Therefore, it cannot be assumed that any tax levied by the state legislature under Entry 50 of List 2 “will be ipso facto against mineral development”.

In case a situation arises where a state with the highest reserves of a particular mineral decides to levy a high rate of tax on mineral rights, distorting the market, Parliament can counteract the adverse impact on the development of minerals in India, the court said.

(Edited by Sanya Mathur)