Right in the beginning one is attracted by the fact that the name Cenvat for both goods and services is inappropriate, misleading and even legally untenable. The Rules provide for credit for also service tax. But service tax is not included in the Cenvat. That has been legally defined in the charging section namely Section 3 in the following words: “a duty of excise to be called the CENVAT…”. So service tax cannot legally be included in Cenvat. The name is not legal. It is also not transparent.

One expected that when the new Rules have been made the existing rigidities would be removed. But none has been done. In fact some new ones have been imposed. They are discussed below.

a. This occasion of integrating credit for goods and services could be utilised for simplifying the whole structure of Rules by saying that all goods are to be given Cenvat credit except those in a negative list. This has not been done.

b. The existing distinction between capital goods and inputs has been kept which means all the possibilities of litigation will also continue. There was no need for such a distinction at all. Since all inputs of goods and services are to be given credit of the duty paid on them, it would be better to keep only the distinction between goods and services and abolish the internal distinction between input and capital goods.

c. It would have been better to allow clubbing of all input credit to be adjusted against all the total of output duty to be paid. That would make the operation simpler. But now so many separate adjustments are to be maintained. Cess can be adjusted against cess. And limit to the utilisation of service tax input has also been provided.

d. Under Rule 6 (3) (c) which is difficult to understand (some commentator said only God knows) the limit of utilisation of input credit for services is 20% of the output service tax payable in a month. This is a rigidity, which will come for strong criticism.

e. Same rigidity of 50% utilisation of input duty of capital goods in the first year still continues.

f. The new Rules could remove the whole controversy about saving the VAT-chain. This needs some explaining.

One of the weakest links in the VAT-chain is exemption. When there is an exemption for some goods, there is no payment of duty. So there is no credit of input duty. It is obvious that since there is no duty paid, there cannot be any credit. This has been a major problem for those industries that want to pay the duty and get the Cenvat credit. Sometimes in an industry some factories do not want the exemption but due to representation by other factories or by the Association or for reasons best known to Revenue, an exemption is given. Under the circumstances a question has often arisen whether a factory can pay the duty even if there is an exemption and thereafter claim the credit of duty paid so that the chain of VAT is complete. If the chain breaks, then down the line nobody can claim the credit. That would bring back the cascading effect, which the VAT intends to avoid.

The Ministry of Law has been consistently holding the view that any duty paid when it is not due to the Government is not duty in the eye of law but only an ex-gratia payment. They quoted Article 265 of the Constitution to justify this. It follows that, not being a duty, it cannot be given credit as duty. As a measure of legal solution, then Revenue started writing in individual notifications that it is optional to avail of it and if the manufacturer wants to pay the duty he may do so. Since this was not written in all the notifications, in some cases the manufacturers agitated the issue saying that even if there is an exemption, they should be allowed to pay duty and consequently avail of Cenvat credit. The judgment then came from the Tribunal that an exemption couldn’t be forced upon an assessee if it does not suit him. The argument of the Tribunal was that it is for the party to claim the exemption and if he does not claim it, there is no way of forcing it on him. This view has now once again been reiterated recently in another Tribunal judgment where the decision is clearly that the option to pay duty and claim Cenvat credit is legally valid. The judgment also drew strength from the fact that the Supreme Court has upheld in several cases the plea that if there are two exemptions, the taxpayer can choose the one, which suits him. This establishes the optional nature of an exemption. This legal exposition now has enabled the VAT-chain to continue and not fall apart.

There is yet another way by which the VAT –chain breaks. A typical case was where plaster of paris paid duty, then it was used in a factory to make moulds, which are exempted, then the moulds are used in the same factory to make sanitary ware, which are dutiable. But the duty paid on the original input was not allowed to be credited as a Cenvat credit on the ground that the moulds were exempted. The Supreme Court ruled in this case that since plaster of paris is used in relation to manufacture of sanitary ware, the input credit is allowed, regardless of whether the intermediary product is exempt. This has saved the VAT-chain.

So the conclusion is that the trend of the judicial decisions is towards allowing exempted goods to pay duty optionally and claim Cenvat credit and also to allow input credit in the Cenvat system even where the intermediate goods are exempted. This augurs well for general VAT in the States as (if) and when it is introduced.

But this should have been incorporated in the new Rules.

¹Everest Converters vs CCE , 1995 (80) ELT 91 (T)
²Harita Grammer Ltd vs CCE , 2004 (164) ELT 37 (T)
³CCE vs Hindustan Sanitaryware, 2002 (145) 3 (SC)