Minimum Alternative Tax And Dividend Distribution Tax On Special Economic Zone

Background

Karnataka High Court (High Court) in the case of M/s Mindtree (Tax Payer) v. Union of India[1] held that the imposition of Minimum Alternate Tax and Dividend Distribution Tax on SEZs is neither a breach of promise nor a violation of the doctrine of legitimate expectation and also held that tax levies on SEZs is constitutionally valid.

Facts of the case

• In the month of April 2000, the Government of India announced Special Economic Zone scheme with a view to provide international competitive environment for exports. The object of the scheme include making available goods and services free of taxes and duties supported by integrated infrastructure for export production, expeditious and single window approval mechanism and package of incentives to attract foreign and domestic investments for promoting export lead growth. Latter on this scheme was converted into Special Economic Zones Act, 2005 (for short ‘SEZ Act’) came into force.
• Section 27 of the SEZ Act specifies that provisions of Income Tax Act, 1961 to apply to SEZ units and developers subject to modifications specified in Schedule-II. Under the SEZ Act the following profit linked deductions and incentive relating to Income Tax are allowed to SEZ units:

(i)  The provisions of sub-section (6) of Section 115JB of the IT Act allowed for an exemption from payment of minimum alternate tax (for short “MAT”) on book profit in respect of the income accrued or arising on or after 1st April 2005 from any business carried on, or services rendered, by an entrepreneur or a Developer, in a Unit or Special Economic Zone (SEZ), as the case may be.

(ii)  Furthermore, the provisions of sub-section (6) of section 115-O of the IT Act, allowed for an exemption from payment of tax on distributed profits [Dividend Distribution Tax (DDT)] in respect of the total income of an undertaking or enterprise engaged in developing and operating or developing, operating and maintaining a Special Economic Zone for any assessment year on any amount declared, distributed or paid by such Developer or enterprise, by way of dividends (whether interim or otherwise) on or after 1st April, 2005 out of its current income. Such distributed income was also exempt from tax under sub-section (34) of Section 10 of the IT Act.

The above incentives were available in respect of SEZs before the Finance Act, 2011.

• Petitioners are SEZ developers/co-developers/units. The petitioners by taking necessary permissions and approvals under the SEZ Act and Rules are carrying on activities inside the SEZ.
• The petitioners contend by acting on the promises made under the provisions of SEZ Act, Rules and exemptions provided under various Acts including the Income Tax Act made huge investments in establishing the SEZ units. It is contended that petitioners borrowed massive loans from various financial institutions and investment on land, buildings, infrastructure facilities etc.
•  Petitioners have commenced their projects on the basis that income accrued or arising from business carried on by them as SEZ developer or unit are exempted from applicability of Minimum Alternate Tax (MAT) as provided under sub-section 6 of Section 115JB and sub-section 6 of Section 115-O of the Income Tax Act.

Issues before the High Court

• Whether the impugned amendments are violative of Article 14 of the Constitution of India?
• Whether the impugned amendments are opposed to Doctrine of Promissory Estoppel?
• Whether the impugned amendments are opposed to principles of Legitimate Expectancy?

Plaintiff™s Contentions

• Petitioners contend that the impugned amendments under the Finance Act, 2011 are opposed to the Doctrine of Promissory Estoppel.
• It is contended that the Government by introducing sub-section 6 of Section 115-JB made an express promise exempting the petitioners from the applicability of payment of MAT and under sub-section 6 of Section 115-O the Payment of tax on dividend distribution.
• On the basis of this promise made by the Government the petitioners invested and established units by the borrowing massive loans. The proposed amendments are therefore opposed to Doctrine of Promissory Estoppel.
•  It is contended that when the petitioners made investments, they legitimately expected that the exemptions provided under Section 115-JB and 115-O will be continued. Now abruptly, arbitrarily, unfairly and to the detriment of the petitioners the impugned amendments are brought in and as such the same is opposed to the Doctrine of Legitimate Expectation.
•  The impugned amendments are opposed to the very object of SEZ Act. Therefore, the impugned amendments to the SEZ Act are unconstitutional.

Respondent™s Contentions

• The respondents contend that exemptions provided under Section 115-JB and 115-O of the Income Tax Act did not had sunset provisions and as such the impugned amendments are in accordance with law.
• It is contended that the legislative action of withdrawal of benefit under the fiscal policy of the State is not hit by Doctrine of Promissory Estoppel.
• It is contended that the exemption granted to the petitioners eroded the tax base and in the public interest the impugned amendments are brought and as such they are legal and valid.

High Court™s Ruling

• It is settled position of law that every tax exemption and incentive shall have a sunset clause. Every fiscal legislation providing for tax exemption must have a life span fixed in the enactment. In the instant case by introducing sub-section 6 to Section 115JB and sub-section 6 to Section 115O of Income Tax Act a permanent exemption was given to SEZ establishments/units. It is settled principle that there can be no permanent tax exemption or incentive in fiscal legislation. Realizing this lapse on the part of the Government the impugned provisos were introduced restricting the exemption only for a particular period. In the impugned amendment it is made clear that it is prospective in nature because the proposed amendments specify that the MAT will come to an end from 1st April, 2012 and tax on distribution of dividends will come to an end from 1st June 2011. Therefore the impugned amendments can neither be said unreasonable or arbitrary. The Parliament has the sovereign legislative power to withdraw the tax exemption by way of legislative amendment.
• On account of various concessions, exemptions and allowances under different statues companies started arranging their tax affairs in such a way as to become zero tax companies. This situation laid to the companies which are making huge profits and also declaring substantial dividends but are managing their affairs in such a way as to avoid payment of income tax as a result of the concessions, exemptions and incentives given to them. Therefore the legislature in their wisdom introduced Section 115JB providing for payment of minimum alternate tax and Section 115O providing for payment of tax on the distribution of the dividends. At the time of passing SEZ Act, sub-section 6 of Section 115JB and sub-section 6 to Section 115O of the Income Tax Act was introduced totally exempting the SEZ establishment/units from payment of minimum alternate tax and tax on distribution of dividends. While all other companies are made liable to pay MAT and tax on dividend distribution, the SEZ establishments and units were exempted though they are making profits. This situation has lead to discrimination amongst SEZ establishment/units and other companies. Realizing this discrimination among the companies the legislature in their wisdom brought the impugned amendments to remove the discrimination. Therefore, the impugned amendments are in accordance with Article 14 of the Constitution and not against it.
•  The concept of Promissory Estoppel and Legitimate Expectancy are not defined in any law. These two concepts are fashioned by the courts while reviewing the administrative acts in the field of administrative law.
• The judicial pronouncements defines “Promissory Estoppel” means ‘where one party has by his words written or oral or by conduct made to other a clear and unequivocal promise which is intended to create legal relations or affect a legal relationship to arise in the future, knowing or intending that it would be acted upon by the other party to whom the promise is made and it is in fact so acted upon by the other party, the promise would be binding on the party making it and he would not be entitled to go back upon it, if it would be inequitable to allow him to do so.’ So also the judicial pronouncements defines “Legitimate expectation” means ‘an expectation of a person from a representation or promise made by an administrative authority including an implied representation or from consistent past practice that he will be treated in certain way even though he has no legal right in private law to receive such treatment.
• The relief of promissory estoppel springs out of legal relationship. On the other hand, the Doctrine of Legitimate Expectancy is not based on any legal right but on reasonable expectation. Therefore, the relief of Legitimate Expectation is far below the promissory estoppel. In the instant case the petitioners are seeking relief on the Doctrine of Promissory Estoppel, a superior relief based on statutory promise made under sub-section 6 of Section 115JB and sub-section 6 of Section 115O of Income Tax Act. When petitioners are claiming relief under the Doctrine of Promissory Estoppel then it is not necessary for this Court to consider the doctrine of legitimate expectation.
• In Union of India v. Godfrey Philips India Ltd.[2] it was held that there can be no promissory estoppel against the legislature in the exercise of its legislative functions nor can the Government or a public authority be debarred by promissory estoppel from enforcing a statutory prohibition. It is equally true that promissory estoppel can not be used to compel the Government or a public authority to carry out a representation or promise which is contrary to law or which was outside the authority or power of the officer of the Government or of the public authority to make. The doctrine of promissory estoppel being an equitable doctrine, it must yield when equity so require. If it can be shown by the Government or public authority that having regard to the facts as they have transpired, it would be inequitable to hold the Government or public authority to the promise or representation made by it. The Court would not raise an equity in favour of the person to whom the promise or representation was made and enforce the promise or representation against the Government or public authority. The doctrine of promissory estoppel would be displaced in such a case because, on the facts, equity would not require that the Government or public authority should be held bound by the promise or representation made by it.
• In Sales Tax Officer v. Shree Durga Oil Mills[3] it was held that the determination of applicability of promissory estoppel against the Government hinges upon balance of equity or public interest. In case there is a supervening public equity, the Government would be allowed to change its stand; it would then be able to withdraw from representation made by it which induced persons to take certain steps which may have gone adverse to the interest of such persons on account of such withdrawal. Once public interest was accepted as the superior equity which can override individual equity, the aforesaid principle should be applicable even in cases where a period had been indicated for operation of the promise. In that case, a notification was issued exempting customs duty on PVC By a second notification the exemption was withdrawn. The Court held that the facts of the case revealed that there was a supervening public interest and the Government was competent to withdraw the first notification without giving any prior notice to the respondent.
• From the above referred decisions it is manifest that the legislature can never be precluded from exercising its legislative power by resort to the Doctrine of Promissory Estoppel. Since it is an equitable doctrine, it must yield when equity so requires. The courts would decline to enforce this doctrine if it results in great hardship to government and would be prejudicial to the public interest.
•  Keeping these principles in mind it is necessary to examine the fact situation in the instant case. It is not in dispute that by inserting sub-section 6 to Section 115JB and Section 115O of the Income Tax Act the petitioners are exempted from paying minimum alternate tax and tax on distribution of dividends. By introducing the impugned provisos in the second schedule to SEZ Act the benefit extended is now withdrawn. In the circumstances, the petitioners are claiming relief on the basis of Doctrine of Promissory Estoppel. It is settled position of law that this doctrine must yield when the equity so requires.
•  Firstly the exemption provided do not have a sunset clause and now under the impugned amendment this flaw in the law is removed. Secondly, the inequality between SEZ companies and other companies is removed. Thirdly, the exemptions provided to SEZ companies resulted in erosion of tax base. Fourthly, the impugned amendment relates to fiscal policy of the state and any decision in the economic sphere is adhoc and experimental in its nature and therefore the Government is well within it sovereign power to regulate the same. Lastly the impugned amendments do not transgress any of the fundamental rights of the petitioners guaranteed under the Constitution.
•  Therefore, the Doctrine of Promissory Estoppel cannot be made applicable to nullify the impugned amendments.

Comments

• “The way the Doctrine of Promissory Estoppels works is that if a promise is made by a government agency and a person on the belief that this promise will be implemented, he has altered his position, then in that particular case if the government agency goes back on his promise, the person whose position has been altered can go to the court and say that the intended benefit should be made available to him as promised.”
• Historically, courts have upheld that a legislation will override the principle of promissory estoppel. But the same has not always been applied to executive action. In 1978 in the Motilal Padampat Sugar Mills[4] case, the Supreme Court upheld the estoppels principle against the UP government that withdrew the promised sales tax exemption to new industrial units.
• In the growing business environment where the government leads the industry to go in a certain direction, in these areas of tax legislation, one has to have a fresh look. So if one, based on the assurances or promises given by the parliament, the taxpayer has made certain sacrifices or made huge investments acting on that assurance, then they should not be hit by any law which is thereafter passed by the parliament. So it is here that a fresh look is necessary.
• Firstly, High Court rules that every tax exemption and incentive should have a sunset clause and by withdrawing the exemption to SEZs, the government is correcting the lapse on its part. But it’s not a well settled principle that every relief has to have a sunset clause. There is no such legal or parliamentary compulsion. So it is wrong to say that every exemption should have a sunset clause. Secondly, High Court rules that withdrawal of the exemption removes the inequality between SEZ and other companies and raises the question of discrimination. Here™s not a case where those who have not set up the SEZs are complaining against the persons who have set up SEZs. Therefore, discrimination point is wholly irrelevant. And thirdly, it rules that the exemptions provided to SEZ companies resulted in erosion of tax base. But if the reason is do then why it was applicable to five years.
• The decision by the Karnataka HC is by a single judge bench and so it would have only a persuasive effect.

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[1] MANU/KA/0637/2013

[2] ITR 158 1986 SC 575

[3] STC (vol. 108) 998 SC 274

[4] Motilal Padampat Sugar Mills Co. Limited. v. State Of Uttar Pradesh And Others ITR (Vol. 118) 1979 SC 326