Supreme Court: Warranty Replacement by Dealer Against Credit Note Issued by Manufacturer is Exigible to Sales Tax

Supreme Court: Warranty Replacement by Dealer Against Credit Note Issued by Manufacturer is Exigible to Sales Tax

The Supreme Court has ruled that a credit note issued by a manufacturer to a dealer of automobiles, in consideration of the replacement of a defective part in the automobile sold, pursuant to a warranty agreement, is exigible to sales tax, under the respective State’s sales tax enactments.

The three judge’s bench of Justices K.M. Joseph, B.V. Nagarathna and Ahsanuddin Amanullah, upheld its earlier decision in case of Mohd. Ekram Khan & Sons vs. CTT, (2004) and held that a credit note issued by a manufacturer to a dealer, to compensate the latter for replacement of parts supplied under warranty, on its behalf, is a valuable consideration (received by the dealer) and so, leviable to sales tax.

Appeals before the Apex Court arose from the judgements of various High Courts both, following and distinguishing the ruling in Mohd. Ekram Khan (supra). In these circumstances, reference was made by a division bench to a three-judge bench of the Supreme Court for revalidating the correctness of ruling in the case of Mohd. Ekram Khan (supra).

A series of 34 appeals arising from the orders passed by various High Courts (viz., Karnataka, Rajasthan, Allahabad, Madhya Pradesh, Bombay, Andhra Pradesh, Kerala and Gujarat) were filed before the Supreme Court, the facts of one of the parties viz. M/s, Marudhara Motors was taken up for discussion and analysis.

In the present case, M/s Marudhar Motors (assessee/appellant) was a dealer of TATA Vehicles. M/s Marudhara Motors (‘dealer’) is a dealer of Tata Motor (‘manufacturer’). Apart from the usual business of purchase & sale of automobiles and spare parts, the dealer also provided free of cost replacement of defective parts to the customers, in pursuance of a separate warranty arrangement provided by the manufacturer. In cases of warranty claims, the dealer replaced defective parts with the new ones, available in stock and returned the defective parts to the manufacturer. Towards this activity, the manufacturer issued credit notes to the dealer for an amount equivalent to cost of spare parts (replacements parts that were defective). This practice of using spare parts from its own stock was followed to avoid delay in delivery and for sake of convenience of the customer.

The issue that came up for consideration in the Reference Order was whether a credit note issued by a manufacturer to a dealer of automobiles, in consideration of the replacement of a defective part, under a warranty agreement, subject to sales tax, under the respective State's sales tax enactments. The Reference Order also raised doubts about the correctness of the observations made in the case of Mohd. Ekram Khan & Sons (supra).

The Apex Court noted that when the dealer uses one of the spare parts from his stock for the replacement of a defective part in an automobile under a warranty, upon which a monetary benefit is given in the form of a credit note. The definition of ‘credit note’ clearly indicates that a credit note issued by a manufacturer in favor of a dealer is a valuable consideration within the meaning of the definition of ‘sale’ under both, Central Sales Tax Act as well as the respective State enactments under consideration, stated the bench

The bench was of the considered view that the amount shown in the account of the dealer in the form of a credit note is nothing but a price received for a sale of a spare part by the dealer which is from his stock and which belongs to him.

“Where there is transfer of property by the dealer to the customer while acting under a warranty and the dealer being paid by the manufacturer, when viewed in the aforesaid prism, the credit note shown in the account of the dealer is a valuable consideration pursuant to the sale that has taken place of a spare part from his stock,” stated the bench.

The Court further opined that, merely because the dealer was acting as an intermediary or on behalf of the manufacturer pursuant to a warranty and received a recompense in the form of a credit note, the same cannot escape liability of tax under the Sales Tax Acts under consideration.

It was clarified by the bench that, if the dealer had sold a spare part of the automobile from his stock to any other consumer across the counter, he would have collected the requisite sales tax along with the price from that consumer but in the instant case, the consideration is received in the form of a credit note from the manufacturer which is subject to sales tax.

Therefore, it was held that the person who pays the valuable consideration in a sale transaction is irrelevant so long as it is paid.

The Court opined that the decision in Mohd. Ekram Khan (supra) applies to a situation where a manufacturer issues a CN to a dealer acting under a warranty given by the manufacturer in the following circumstances:

(a) The dealer replaces a defective part of the automobile with a spare part maintained in the stock of the dealer.

(b) The dealer purchases the spare part from the open market.

The value of Credit Note issued in the aforesaid circumstances is treated as ‘consideration’ for the sale of spare parts, and hence, is liable to sales tax.

However, the Court also held that decision in Mohd. Ekram Khan (supra) shall not apply in the case wherein the dealer receives spare parts from the manufacturer for replacing the defective part.

The Court was of the view that judgment in Mohd. Ekram Khan (supra), did not call for any interference.

Furthermore, the Apex Court overruled the judgments in the case of Prem Motors, Gwalior vs. Commissioner of Sales Tax, Gwalior (1986) and Geo Motors vs. State of Kerala (2001).

Thus, the Court concluded that the appellants-dealer/assessee were liable to pay sales tax under the respective State enactments under consideration.

Senior Advocates Santosh Kumar Bagaria, Kavin Gulati, Amar Dave, RK Raizada, V Sridharan, Manish Singhvi appeared for the Appellant, whereas, Additional Advocate General’s Nikhil Goel, Saurabh Mishra, Dy. AG Ankita Chaudhary, Senior Advocates Pallav Sisodia and S. K. Upadhaya appeared for the Respondent.