Arbitrators Can Decide Contractual Tax Disputes, Not Statutory Tax Issues: Allahabad High Court

A Division Bench of Chief Justice Arun Bhansali and Justice Jaspreet Singh partly set aside the GST-related portions of an arbitral award granting over ₹11.35 crore to a road contractor while preserving the finding that the contract was an item-rate contract and the award of ₹66,500 towards the Department's share of the dispute review expert's fee.

The court held that the arbitrator wrongly applied a Ministry of Road Transport and Highways Standard Operating Procedure concerning GST impact on EPC contracts to an item-rate contract, without any contractual provision or evidence making it applicable.

Explaining the limits of an arbitrator's jurisdiction over tax-related disputes, the bench observed:

“The Arbitrator is a creature of contract and its jurisdiction to decide the dispute may be co-extensive with the contract but if it requires any determination relating to tax rates or classification of goods under any particular entry of the taxing statute or the quantum of any tax liability or the adjudication requires referencing to any Executive Tax Notification and Statutory Tax Rates Schedules, then such disputes even though arising out of a contract ceases to be contractual in nature and it metamorphosis into a fiscal regulatory issue. Such issues are governed by the taxing statute which are a complete code in themselves and cannot be subjected to determination by a private forum such as an Arbitral Tribunal.”

The court divided tax-related disputes into two categories. First, contractual disputes concerning which party is contractually obligated to bear, reimburse, share or indemnify the other against tax. Such disputes concern private rights between contracting parties and can be referred to arbitration.

The second category involves statutory questions such as whether a transaction is taxable, the applicable rate or classification, eligibility for exemption, or the actual quantum of tax payable under tax law. These matters cannot be determined by an arbitrator.

On the facts, the court held that the dispute was not wholly non-arbitrable. It concerned the contractual method for calculating the financial impact of GST and therefore fell within the first category.

However, the arbitrator exceeded these limits while deciding the claim and “erred by acting as an Assessing Officer,” ultimately leading the Court to set aside the GST-related portions of the award and remit them for fresh adjudication

Background

The dispute arose from a ₹155.89 crore contract awarded to Vriddhi Infratech India Private Limited in April 2016 for widening and strengthening roads in Sitapur district.

The contract was executed when the Value Added Tax regime was in force. GST was introduced on July 1, 2017, while the work was continuing.

The contractor claimed additional amounts towards GST on work executed after June 2017 and on price escalation. It calculated the amount by relying on a November 2018 SOP issued by MoRTH concerning the impact of GST on continuing EPC contracts.

The PWD maintained that it was bound instead by Uttar Pradesh government orders dated November 9, 2017 and December 10, 2019, which prescribed a different method for calculating GST in contracts that began under the earlier tax regime.

A dispute review expert held that the State government orders governed the calculation. The contractor thereafter invoked arbitration.

The sole arbitrator awarded the contractor ₹11,35,80,273. This included GST on the value of work, GST on price adjustment, refund of an amount deducted by the Department, 15% penalty, 18% interest and ₹66,500 paid by the contractor as the Department's share of the dispute review expert's fee.

The award made the principal GST-related payment subject to the final assessment by the GST authorities. A Commercial Court dismissed the Department's Section 34 challenge and affirmed the award.

PWD's Submissions

Additional Advocate General Pritish Kumar, assisted by Additional Chief Standing Counsel Tushar Verma, argued that the tax dispute was non-arbitrable.

He submitted that while a contractual dispute over which party must bear a tax may be arbitrable, the arbitrator cannot calculate the quantum of tax or decide the methodology to be followed under fiscal law.

The Department also argued that the MoRTH SOP concerned EPC contracts, whereas the parties had admittedly entered into an item-rate contract. The contractual references to MoRTH standards were confined to technical specifications and did not incorporate MoRTH's tax-related guidelines.

Contractor's Submissions

Advocate Manish Singh, appearing for the contractor, contended that the plea of non-arbitrability had not been raised before the tribunal under Section 16 or before the Commercial Court.

He argued that there was no dispute over the applicable GST rate or whether GST was payable. The dispute concerned only whether the calculation should follow the MoRTH SOP or the State government orders.

The contractor further submitted that the agreement incorporated MoRTH specifications and that expert reports from accountants and engineers supported its GST calculation.

MoRTH Technical Specifications Did Not Incorporate Tax SOP

The Court found that the contract incorporated MoRTH standards only for technical aspects of road construction, including engineering standards, materials, measurements and quality.

“Borrowing one does not implicitly subsume the other,” the Court said, distinguishing technical, financial, commercial and taxation requirements.

The MoRTH SOP relied upon by the contractor specifically dealt with EPC contracts and used directory language. The parties' contract was an item-rate contract, and there was no evidence that they had mutually agreed to extend the SOP to it.

The Court found that the arbitrator had “read into the contract something which is not present” by applying the EPC methodology merely because MoRTH technical specifications formed part of the agreement.

Arbitrator Acted As Assessing Officer

The bench also found no clear evidence establishing the contractor's actual tax, interest or penalty liability under the GST Act.

The arbitrator did not identify any GST assessment order or notice showing that the contractor had incurred the quantified liability in relation to this particular contract. Nor did the award examine whether delay in paying tax was attributable solely to the Department.

“The Sole Arbitrator erred by acting as an Assessing Officer,” the Court held.

It also criticised the award for making payment subject to future assessment by the GST Department. Such a direction created ambiguity and deprived the award of finality.

The Court held that the findings concerning application of the MoRTH SOP and the award of GST, penalty and interest were based on conjectures and lacked cogent evidence.

Applying the Supreme Court's ruling in Gayatri Balasamy v. ISG Novasoft Technologies Ltd., the Bench severed the invalid parts of the award. It preserved the finding that the contract was an item-rate contract and the award of ₹66,500 towards the Department's share of the dispute review expert's fee.

The remaining GST-related claims were remitted for fresh adjudication by an arbitral tribunal constituted in accordance with law.

For Department: Additional Advocate General Pritish Kumar, with Additional Chief Standing Counsel Tushar Verma, 

For Contractor: Manish Singh