Arbitral Tribunal Acted With Patent Illegality, Against Indian Law In Awarding Reimbursement Of Service Tax Along With Interest: Calcutta High Court

Brief Facts

The dispute emerged from the contract executed between South Eastern Railway and the respondent in which the respondent had to provide escort services to the coach attendants of the railway while distributing the bed-rolls on trains. The respondent raised invoices after completing the work which were paid by the railway. Thereafter, a show cause notice was received in November, 2017 by the respondent from tax authorities in which service tax was demanded for the services provided under the contract. The service tax was paid by the respondent under the scheme of Sabka Vishwas Legacy Dispute Resolution Scheme, 2019.

Subsequently, this tax amount was claimed from the railway by the respondent. The railway refused the claim and the matter went to arbitration. The Arbitral Tribunal passed an award on November 28, 2023 in which the railway was directed to reimburse the respondent for the service tax paid along with interest. This award was challenged by the railway under section 34 of the act in which the award was sought to be set aside on the ground of patent illegality.

Contentions

It was submitted by the petitioner that the amount quoted by the tenderer should include all the taxes to be paid as per clause 2.2 of the contract. It was further argued that the services tax for railway works was reinstated on May 26, 2015 therefore the parties should be conscious of this fact by the time the contract was entered into. It was further submitted that the Arbitral Tribunal passed the award in direct contravention of the terms of the contract as clause 2.2 clearly included the taxes to be paid by the tenderer. Based on this , it was argued that this misinterpretation violated section 28(3) of the act therefore the award is liable to be set aside on the ground of patent illegality. The Supreme Court judgment in State of Chattisgarh v. SAL Udyog was relied upon wherein the court held that an award passed in contravention of contractual terms could be set aside on the ground of patent illegality.

Per Contra, it was contended by the respondent that service tax was not included as a part of the costs in an internal estimate, which formed the basis of tender pricing, prepared by the railway. It was further argued that manpower was to be supplied under the contract and such contracts do not attract VAT taxes, sales taxes or other duties enumerated in clause 2.2 of the contract therefore the service tax was not contemplated in the quoted price. It was submitted that the arbitral tribunal did not commit any error in interpreting the tender documents and internal estimate therefore the award is not liable to be set aside for patent illegality and service tax is to be borne by the railway. They relied on two judgments of the Supreme Court in Associate Builders v. Delhi Development Authority (2015) 3 SCC 49 and National Highways Authority of India v. Hindustan Construction Co. Ltd. (2024) 6 SCC 809, wherein it was established that the tribunal had discretion to consider the materials before it and the award is not liable to be interfered with unless it is perverse.

High Court's Analysis

The High Court after hearing both parties focused on clause 2.2 of the contract which was essential for the purpose of this dispute. The court observed that the clause included in the tender price all incidental charges and other taxes and duties and service tax falls under the category of other taxes and duties therefore the railway was not liable to pay service tax. The court further noted that the terms of the contract were clear and unequivocal for which no external documents like internal estimate was required to cull out the real intention of the parties as done by the arbitral tribunal. It was held as under:

“Clause 2.2 does not restrict itself only to the taxes and duties mentioned therein such as VAT, Sales Tax, Excise Duty and Octroi but also supplements the same with the expression “and other taxes and duties, etc.”, thus, covering all other taxes and duties even apart from those specifically mentioned in the said clause. Since on the date of the contract between the parties Service Tax was already payable for Railway works, the expression “and other taxes and duties, etc.” included Service Tax”.

The court found fault with the tribunal reliance on the internal estimate to interpret the contact for following reasons. Firstly, the estimate was prepared on March 27, 2015 before the issuance of letter of award (LoA) and the service tax for railway works became applicable from May 26, 2015. Secondly, the estimate was prepared for the purpose of wage calculation and no tax component was included in it. Thus, it had no bearing on the quoted price. Lastly, the estimate was never shared with the respondent nor was it incorporated into the contract rendering it an extraneous document which should not have been taken into consideration by the tribunal. The court further held that interpretation of the tribunal rewrote the contract which went against the fundamental policy of Indian Law and the principles laid down in State of Chhattisgarh v. SAL Udyog (2022) 2 SCC 275. It observed as under:

“Taking resort to such external aid where there was no ambiguity whatsoever in Clause 2.2 is in itself a patent illegality which vitiates the impugned award. 11 39. It is an entrenched principle of Indian law that the courts cannot rewrite a contract between the parties. The said concept is an integral part of the fundamental policy of Indian law. Violating the same tantamounts to contravention with the fundamental policy of Indian law and being in conflict with the most basic notions of justice. Hence, such contravention affords a ground under Section 34(2)(b)(ii), including its Explanations. 40. Section 28(3) of the 1996 Act provides that while deciding and making an award, the Arbitral Tribunal shall, in all cases, take into account the terms of the contract and trade usages applicable to the transaction. Since the terms of the contract between the parties in the present case were unambiguous, contravention of the same by the Arbitral Tribunal tantamounts to a patent illegality within the contemplation of Section 34(2-A) of the 1996 Act, as reiterated in the State of Chhattisgarh (supra)”.

The Supreme Court in K. Sugumar v. Hindustan Petroleum Corp. Ltd. (2020)12 SCC 539 held that once the parties have chosen alternate dispute resolution mechanism and subjected themselves to the wisdom of the arbitrator, findings given by the arbitrator cannot be easily interfered with by taking altogether a different from that of the arbitrator under section 34 of the act. However, this contention of the respondent was rejected on the ground that in the present case the tribunal relied on external document which was not essential for the purpose of interpretation of the contract. It was held as under:

“Even going by the tests of interference laid down in K. Sugumar (supra), the impugned award is vitiated on at least two counts contemplated in Section 34 - violation of the fundamental policy of Indian law and basic notions of justice as well as patent illegality, which are contemplated respectively in sub-sections (2) and (2-A) of Section 34 of the 1996 Act”.

Conclusion

The court concluded that the award was tainted with patent illegality and against the fundamental policy of Indian Law therefore it was liable to be set aside. Accordingly, the award was set aside.

Case Title: AB Enterprises Vs Union of India

Court: High Court, Calcutta

Case Reference: AP-COM No.522 of 2024

Judgment Date: 07/10/2024

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