Why 'Royalty' Is Not 'Tax'? Supreme Court Explains

A 9-judge Constitution Bench (by 8:1 majority) held that royalty on a mining lease is a contractual payment given by the lessee to the lessor of the mineral land which is conceptually different from government-imposed tax for public welfare.

As per S. 9 of the MMDR Act, the holders of mining leases must pay royalties on minerals removed or consumed from the leased area at rates specified in the Second Schedule. The Central Government has the power to amend the royalty rates through notification, but such changes cannot occur more than once every three years.

The three main reasons for the Court to hold that royalty rates set under S.9 cannot be called tax were : (1) the obligation to pay royalty arises from the mining lease agreement and not a legal mandate; (2) the demand for payment of royalty comes from the lessor (can be either the state government or private party) but not a public authority; (3) the payment of royalty is intended to be a consideration to the lessor for permitting access to the mineral reserves and is not utilised for public purposes.

"The fact that the rates of royalty are prescribed under S.9 of the MMDR Act doesn't make it a compulsory exaction by public authority for public purposes because (1) the compulsion stems from the contractual conditions of the mining lease agreed between the lessor and lessee; (2) demand is not made by the public authority but the lessor which can either be a state government or a private party and (3) the payment is not for public purposes but a consideration paid to the lessor for parting with parting with their exclusive reserve in the minerals,” the majority judgment authored by CJI DY Chandrachud stated.

The majority decision was given by a bench led by CJI DY Chandrachud comprising Justices Hrishikesh Roy, Abhay Oka, BV Nagarathna, JB Pardiwala, Manoj Misra, Ujjal Bhuyan, SC Sharma and AG Masih.  Justice BV Nagarathna however in her dissenting opinion held royalty to be in the nature of tax. 

What Is Royalty On Minning Leases? How Is It Different From Tax?

The Court first analysed the essential characteristics of Royalty to include the following :

(1) Royalty is the consideration paid by the proprietor of minerals either to the government or a private person;

(2) It flows from a statutory agreement - a mining lease between a lessor and the lessee;

(3) It represents a return of the grant of a privilege of the lessee of removing or consuming the minerals;

(4) It is generally determined based on the quantity of the minerals removed

The Court then drew the key difference between royalty and taxes as separate concepts.

(1) Nature of Payment: A royalty is a payment to a property owner (lessor) in return of the lessee's right to use the resources on the lessor's property. While tax is a mandatory payment imposed by the Government

(2) Reason for Payment: Royalty is paid for the specific act of mineral extraction from the land, while tax is imposed as per various events or activities outlined by a law

(3) Legal genesis: Royalty arises out of an established lease agreement between two parties, while a tax is a creation of legislation.

“There are major conceptual differences between a royalty and a tax : (1) the proprietor charges royalty as consideration for parting its right to the minerals; while a tax is an imposition by the Sovereign; (2) Royalty is a due for a particular action that is extraction of minerals from the soil while tax is generally levied on a taxable event determined by law; (3) royalty is foreclosed by a lease deed as compared to a tax that is imposed by law.”

Considering the above dissimilarities, the Court proceeded to conclude that royalty and debt rent under S.9 and S.9A of the MMDR Act cannot be classified as a tax. It additionally held that the decision in India Cement Ltd. and Ors. v. State of Tamil Nadu and Ors. In India Cement, the 7-judge bench held that royalty paid on the extraction of minerals is tax and that the authority to levy such tax is vested with the Union under Entry 54 List I.

“We hold that royalty and debt rent do not fulfill the characteristics of tax so imposed. We conclude that the observation in India Cement that royalty is a tax is incorrect.”

On Justice Nagarathna's Dissent 

Justice Nagarthna, disagreeing with the majority, held that royalty is in the nature of a tax. Hence, the provisions of the MMDR Act regarding levy of royalty denude the States of their power to levy taxes on minerals. 

She reasoned that S.9 has to be read from the standpoint of Schedule 2 and S.2 of the MMDR Act.  S.2 essentially serves as a declaration of the central government's intent to control the regulation of mines and the development of minerals across India. Schedule 2 provides royalty rates for different minerals including the royalty rates which the Union can fix under S.9.

Justice Nagarathna holds that royalty is clearly within the scope of the MMDR Act and thus a subject of the Union. The MMDR Act aims to give the Union control over regulating mines and mineral development, which is considered important for the public interest.

The grant of a lease deed by the State government is specified in Form K of the MMDR Act ( as per Rule 31 of Mineral Concession Rules, 1960). Thus  royalty comes under the control of the Union when together seen from the lens of (1) a state-sanctioned mining lease deed (Form K); (2) regulated by rates set by the Union in schedule 2 and (3) Collected for the interest of 'mineral development' (Powers of the centre under Entry 54 list I)

Section 9 of the MMDR Act, 1957 categorically deals with royalty. It has to be read with the Second Schedule which deals with rates of royalty in respect of minerals listed therein. Therefore, there can be no cavil that royalty is an aspect within the scope and ambit of the Parliamentary law which is intended to take under the control of the Union by a declaration (vide Section 2 of the said Act) vis-à-vis regulation of the mines and mineral development which is declared to be expedient in the public interest. When the imposition of royalty on a mining lease in terms of lease-deed as envisaged in Form-K of the MMDR Act, 1957 is considered in light of Entry 54 - List I read with Section 2 of the MMDR Act, 1957, it is clear that royalty is a matter coming under the control of the Union.

The payment of royalty is to the lessor which is the State which executes the lease deed in terms of the Form K of Mineral Concession Rules, 1960. Thus, having regard to the statutory scheme envisaged under Sections 9 and 9A of the Act read with the Second Schedule to the MMDR Act, 1957, any exercise of mineral right by a lessee is subject to the payment of royalty to the State Government. The exaction of royalty is, therefore, statutory in nature.

Relying upon the decision in Govind Saran Ganga Saran vs. Commissioner of Sales Tax, Justice Nagarathna enlisted the key components of tax and how Royalty in the present case fits the componential requirement. 

The key components which enter into the concept of tax are : 

(i) the character of the tax which is determined by its nature which prescribes the taxable event attracting the levy;

(ii) a clear indication of the person on whom the levy is imposed and who is obliged to pay the tax;

(iii) rate at which the tax is imposed; and

(iv) the measure or value to which the tax will be applied for computing the taxing liability.

Applying the above aspects, Justice Nagarathna observed : (1) S.9 deals with royalty payment for mineral removal or consumption; (2) payment of royalty is done by the holder of mining leases to the lessor; (3) at a rate specified in Schedule 2; (4) rate is calculated at a percentage of the average sale price (ad valorem basis) Example: For Iron Ore: 15% of the average sale price. 

She further observed that though S.9 is not worded like a typical tax provision, it should be understood as one considering that it functions like a tax provision in practice. Thus she holds royalty to be a form of tax. 

"Although, Section 9 of the MMDR Act, 1957 is not worded in the manner a charging section in a taxation statute is normally worded, nevertheless, its import must be understood in the sense of it being a taxation provision. For the aforesaid reasons, I hold that royalty is the nature of a tax or an exaction."

Justice Nagarathna further held that "land" under Entry 49, List 2 will not include "mineral bearing lands" as it would amount to double taxation on mineral rights. It would be impermissible to hold that the States have the power to levy tax over and above the royalties paid by the leaseholder of the mining lease.

Other reports about the judgment can be read here.

Case Details : Mineral Area Development Authority v. M/S Steel Authority Of India & Ors (CA N0. 4056/1999)