Whether inspection arranged at the request of buyer includible in assessable value of goods?

CASE STUDY

Prepared By:- CA Neetu Sukhwani
& Praniti Lalwani

M/S SOMI CONVEYOR BELTING LTD. (UNIT-II)
[OIO NO. 64/2016-CE DATED 03.02.2017]

Introduction:-M/s Somi Conveyor Belting Ltd., (hereinafter referred to as assessee) is engaged in manufacture of conveyor belts for various public sector undertakings. The final product manufactured by them being the conveyor belts are tested and do not require any inspection. However, at the request of certain buyers, they get their final products inspected from third party inspection agencies and also pay inspection charges which are reimbursed from their customers. The revenue authorities are of the view that the inspection charges are also required to be added in the assessable value of goods for the purpose of levy of central excise duty. Consequently, show cause notice was issued to the assessee for recovering central excise duty on the inspection charges along with interest and penalty under section 11AC of the Central Excise Act, 1944 read with Rule 25 of the Central Excise Rules, 2002. The present case study revolves around the outcome of the show cause notice.

Relevant Legal Provisions:-
·         Section 4 of the Central Excise Act, 1944 pertaining to transaction value of goods
·         Rule 6 of the Central Excise Valuation (Determination of Price of Excisable Goods) Rules, 2000
·         Section 11A pertaining to recovery of excise duty not paid
·         Section 11AA of the Central Excise Act pertaining to interest
·         Rule 25 of the Central Excise Rules, 2002 pertaining to Confiscation and Penalty
·         Section 11AC of the Central Excise Act, 1944 pertaining to penalty

Issue Involved: Whether inspection arranged at the request of buyer includible in assessable value of goods?

Brief Facts:-The brief facts of the case are that the assessee, M/s Somi Conveyer Beltings are engaged in the manufacture of Conveyer Belts/ Rubber sheet. The assessee appeared to have not paid or short paid Central Excise Duty amounting to Rs 36,687 for the period from Sept’15 to Dec’15. The department alleged that they have contravened the provisions of Rule 6 of Central Excise Valuation (Determination of Price of excisable goods) Rule 2000. The assessee was supplying their finished goods i.e. conveyer belts to Central Coal Fields Ltd. As per the contract entered into with the buyer, the assessee was getting their products inspected by an independent inspection agency namely CMPDIL, Ranchi which had been nominated by their buyer. The goods manufactured by the assessee were customer specific i.e. the specification of conveyer belt were provided / specified by each customer as per his requirements and were not generic in nature. Further, the goods reached the finished goods stage after due testing and no goods were dispatched without proper testing/ inspection. In the instant case, the assessee was making payment to the said inspection agency in respect of third party testing carried out at their factory premises before dispatch of their goods and the same was subsequently being reimbursed to the assessee by the buyer. However, the assessee was not including the value of testing fee in the assessable value. A show cause notice was issued demanding the excise duty along with interest in terms of Section 11AA of Central Excise Act, 1944 and penalty in terms of Section 11AC(1) ibid.

Assessee’s Contention:- The assessee made following submissions before the adjudicating authority:-

1.   It was alleged that during the course of scrutiny of their records, it was observed that they were supplying their finished goods namely conveyor belts to Central Coal Fields Ltd. Ramgarh, Western Coalfields Ltd. Tadali, South Eastern Coalfields Ltd. Korba, Mahanadi Coalfields Ltd. Angul and as per the contract entered with the buyer, they were getting their products inspected/tested (pre-dispatch inspection) by an independent Inspection Agency namely CMPDIL, Ranchi which had been nominated by their buyer. It is alleged that the goods produced by them are customer specific, i.e., the specifications of the conveyor belt are provided or specified by each customer/buyer as per their requirement and are not generic in nature. Further, the goods reached the finished goods stage after due testing and no goods are dispatched without proper testing/inspection. In the instant case, they had made payment to the Inspection Agency for inspection carried out in at their factory premises before dispatch of goods which was being reimbursed to them by the buyer. However, it was contended that they had not included such testing/inspection charges in the assessable value in terms of Rule 6 of the Central Excise Valuation (Determination of Price of Excisable Goods) Rules, 2000 which has resulted in short payment of excise duty amounting to Rs. 36,687/-.

In this regard, they submitted that their final product, “conveyor belts” is marketable as such and does not require testing from third party before clearance. However, it is only on specific request of certain customers that the testing is being conducted by the specified third party on product manufactured by us. We do not get third party testing of their product on every clearance and such third party testing is done only if desired by the customer. Moreover, the third party testing charges are merely reimbursed on actual basis and cannot be considered as additional consideration flowing from buyer to them. As such, the third party testing charges are not condition of sale so as to form part of the assessable value of the final product cleared by them. Therefore, the provision of Rule 6 of the Central Excise Valuation (Determination of Price of Excisable Goods) Rules, 2000 has been wrongly invoked in their case and consequently the allegation of short payment of excise duty is not sustainable. In this regard, the provisions of Rule 6 of the Central Excise Valuation (Determination of Price of Excisable Goods) Rules, 2000 may be pursued as follows:-

Where the excisable goods are sold in the circumstances specified in clause (a) of sub-section (1) of section 4 of the Act except the circumstance where the price is not the sole consideration for sale, the value of such goods shall be deemed to be the aggregate of such transaction value and the amount of money value of any additional consideration flowing directly or indirectly from the buyer to the assessee.

In this regard, they submitted that the allegation that Rule 6 is invocable in their case was clearly misconceived as no evidence has been brought forward by the revenue department that they had received any additional consideration from the buyers over and above the value of their final product. They reiterated that normally every manufacturer conducts in-house testing of the product manufactured by them to ensure that quality products were manufactured but if certain customers insist that the testing of product should be carried out by specified agencies and the cost of testing is borne by the customer, it cannot be said that the value of such testing charges are required to be included in the assessable value of goods. This is for the reason that the product even without third party testing is marketable and is being sold by us to other buyers. As such, the conduct of testing at the request of customer by third party agency could not lead to invocation of Rule 6 when merely actual charges paid to third party were being reimbursed to them.

In this context, reliance may be placed on the following judicial pronouncements rendered by the Apex Court on the issue:-

·         SHREE PIPES LTD. VERSUSCOLLECTOR OF CENTRAL EXCISE [1992 (59) E.L.T. 462 (Tribunal)] AFFIRMED BY SUPREME COURT AS [COLLECTOR VS SHREE PIPES LTD.-1992 (61) E.L.T. A63 (S.C.)]:-

Valuation (Central Excise) - Additional testing charges conducted by DGS & D at the request of specific customers namely Public Health Electric Department (PHED) not includible in assessable value, cost of such testing being borne by customer- Section 4 of Central Excises and Salt Act, 1944.

·         CIMMCO LTD. VERSUS COLLECTOR OF CENTRAL EXCISE, JAIPUR [1994 (74) E.L.T. 687 (Tribunal) AFFIRMED BY SUPREME COURT AS COLLECTOR VS CIMMCO LTD.-1996 (84) E.L.T. A167 (S.C.)]:-
Valuation (Central Excise) - Inspection charges incurred by customers not includible in assessable value especially when they have a full-fledged quality assurance department - Section 4 of Central Excises and Salt Act, 1944.

·         HINDUSTAN DEVELOPMENT CORPORATION LTD. VERSUS C.C.E., CALCUTTA [1996 (85) E.L.T. 58 (Tribunal)] AFFIRMED BY [COLLECTOR V. HINDUSTAN DEVELOPMENT CORPORATION LTD. - 1996 (86) E.L.T. A162 (S.C)]:-
Valuation (Central Excise) - Testing and inspection charges - Manufacturers themselves not carrying out any testing of the goods - Tests and inspection carried out at the instance of Customs (i.e. Railways) by a third agency - Inspection charges not to form part of the manufacturing cost or the assessable value - Section 4 of the Central Excises and Salt Act, 1944.[Para 4]

·         COMMISSIONER OF CENTRAL EXCISE, RAIPUR VERSUS BHASKAR ISPAT PVT. LTD. [2004 (167) E.L.T. 189 (Tri. – LB)]:-

Valuation (Central Excise) - Testing -Cost of additional testing concluded at customer’s request and borne by customer not includible in assessable value of goods - Section 4 of Central Excise Act, 1944. [1992 (59) E.L.T. 462 (Tribunal); 1992 (61) E.L.T. A63 (S.C.); 1996 (84) E.L.T. A167 (S.C.); 1996 (86) E.L.T. A162 (S.C.) relied on]. [para 5]

·         COMMISSIONER OF C. EX., AHMEDABAD-II VERSUS LUBI SUBMERSIBLES LTD. [2015 (317) E.L.T. 299 (Tri. – Ahmd.)]:-

Valuation (Central Excise) - Pre-delivery Inspection Charges (PDI) incurred only at instance of buyer - Not includible in assessable value - Section 4 of Central Excise Act, 1944. [2010 (251) E.L.T. 560 (Tribunal) relied on]. [para 5]

·         COMMISSIONER OF C. EX., AHMEDABAD-II VERSUS JOHNSON PUMPS (I) LTD. [2010 (251) E.L.T. 560 (Tri. - Ahmd.)]:-

Valuation (Central Excise) - Pre-inspection charges paid to a third person at the behest of buyer and reimbursed by buyer - Inclusion of C.B.E. & C. Circular No. 643/34-2002-CX., dated 1-7-2002 as relied by Revenue deals with pre-delivery inspection charges incurred by the dealer during the warranty period and not deals with pre-inspection conducted by manufacturer at the behest of buyer - Issue discussed by Commissioner (Appeals) following Tribunal’s precedent decisions and also Board’s Circular in favour of assessee - No infirmity in impugned order - Revenue’s appeal rejected - Section 4 of Central Excise Act 1944. [paras 3, 5]

·         J.J. CONFECTIONERY (P) LTD. VERSUS COMMISSIONER OF C. EX., COCHIN [2007 (210) E.L.T. 196 (Tri. – Bang.)]:-

Valuation (Central Excise) - Inspection charges - Pre-delivery inspection at the option of buyer - Such inspection being an additional inspection, charges paid by the buyer- Remuneration paid to the supervisor appointed by the buyernot includible in the assessable value of the goods - Section 4 of Central Excise Act, 1944. [para 6]

·         COMMISSIONER OF C. EX., AHMEDABAD VERSUS JOHNSON PUMPS (INDIA) LTD. [2013 (294) E.L.T. 263 (Tri. – Ahmd.)]:-

Demand - Limitation - Cost of additional testing at consumer’s request and borne by customer not included in assessable value of goods - Expenses originally incurred being reimbursed by clients- No evidence to show suppression, misstatement with intent to evade payment of duty of respondent - Mere non-disclosure of such collection does not amount to mala fide intention - Demand barred by limitation - Section 11A of Central Excise Act, 1944. [para 6]

The assessee submitted that the above cited decisions clearly reflect that the issue was no longer res-integra that the inspection conducted at the request of customer and all expenses being reimbursed on actual basis could not be included in the assessable value of goods for the purpose of excise duty. In the present case also, the inspection/testing was conducted by CMPDIL only at the request of Central Coalfields Limited and all the expenditure in this regard was reimbursed to them. Accordingly, the said testing charges are not includible in the assessable value and no excise duty is required to be paid on the same. Moreover, in order to substantiate the fact that the third party inspection was carried out only for supplies made to certain parties, that too, at their request, we are hereby enclosing the copy of Purchase order No. 05844154 (40) dated 24.12.2014 of Eastern Coalfields Limited in Annexure-1 for your reference. From perusal of the above purchase order, it is clear that there is no request of inspection to be done by CMPDIL or any other agency. Hence, testing conducted only at the request of certain customers whereby the said charges were borne by the customer themselves cannot be included in the assessable value for the purpose of discharging excise duty. Therefore, the allegation of the impugned show cause notice is not at all tenable and the same deserves to be quashed.

2.    The assessee submitted that when the excise duty demand is not sustainable in view of the above cited submissions, the question of paying interest at the rates applicable under section 11AA does not arise. Hence, the impugned show cause notice proposing to recover interest from us is not tenable and deserves to be dropped.

3.    The assessee submitted that the impugned show cause notice had proposed penalty under section 11AC of the Central Excise Act, 1944 read with Rule 25 of the Central Excise Rules, 2002 without even proving their malafide intention to evade payment of duty. It is also submitted that when there is no malafide intention to evade duty or to suppress facts from the department, penalty is not imposable in view of Supreme Court judgment given in the case of Hindustan Steel Vs. State of Orissa [1978 2 ELT J 159 (Supreme Court)]. In this case it was held that an order imposing penalty for failure to meet statutory obligation is a result of proceedings which are quasi judicial in nature and penalty should not ordinarily be imposed unless the person acted deliberately in defiance of law or was guilty of misconduct or dishonest or acted in conscious disregard of his obligation. In view of Supreme Court judgment, since intention to evade payment of duty is not there, penal provisions cannot be invoked. The show cause notice is thus liable to be dropped.

4.    In continuation to the above, the assessee further submitted that even the highest court of India – Hon’ble Supreme Court had held in the case of COMMISSIONER OF CENTRAL EXCISE, TRICHY VERSUS GRASIM INDUSTRIES LTD. [2005 (183) E.L.T. 123 (S.C.)] that where the act of assessee was based on the interpretation taken by the Tribunal, penalty cannot be imposed as the act is based on bonafide belief. The verdicts of Apex Court are produced as follows:-

“Penalty - Bona fide belief caused by Tribunal’s decision - Tribunal in a number of cases giving an interpretation as understood by assessee - Penalty not imposable - Rule 173Q of erstwhile Central Excise Rules, 1944 - Rule 25 of Central Excise Rules, 2002. [para 20]”
In the present case, their act of availment of credit of service tax and non-payment of excise duty on testing charges is backed by decisions given by the Apex Court, High Court and Tribunals. The analysis of above decision makes it clear that since we have acted under bonafide, no penalty can be imposed on us. Therefore, the benefit of above decision of Hon’ble Supreme Court should be extended to us and the whole proceedings should be dropped.

5.    Aligning with the above, it was submitted that the issue involved herein was that of interpretation of legal provisions and where interpretation of legal provisions was involved, penalty could not be imposed on the assessee. This contention had been upheld in the case of Uniflex Cables Ltd v/s Commissioner of Central Excise, Surat-II [2011-TIOL-85-SC-CX] wherein it was held as under:
Central Excise – No penalty in a case of interpretational nature: The Commissioner, himself in his order-in-original has stated that the issue involved in the case is of interpretational nature, Keeping in mind the said factor, the Commissioner thought it fit not to impose harsh penalty and a penalty of an amount of Rs. 5 lakhs was imposed on the assessee while confirming the demand of the duty. Therefore, in the facts and circumstances of the present case, penalty should not have been imposed upon the assessee.
Thus, hon’ble Supreme Court held that penalty was not imposable in the issues involving the interpretation of legal provisions. In the instant case also, the excise duty liability on testing charges rests on interpretation of the provisions of section 4 read with Central Excise Valuation of Excisable Goods Rules. As such, the impugned show cause notice proposing to impose harsh penalty under section 11AC is not at all sustainable and should be set aside.

6.    The assessee submitted that the impugned show cause notice had also proposed penalty under Rule 25 of the Central Excise Rules, 2002. In this regard, it was pertinent to note the provisions of Rule 25 of the Central Excise Rules, 2002 which reads as follows:-

Rule 25. Confiscation and penalty. –

(1) Subject to the provisions of section 11AC of the Act, if any producer, manufacturer, registered person of a warehouse or a registered dealer, -
(a) removes any excisable goods in contravention of any of the provisions   of these rules or the notification issued under these rules; or
(b) does not account for any excisable goods produced or manufactured or stored by him; or
(c) engages in the manufacture, production or storage of any excisable goods without having applied for the registration certificate required under section 6 of the Act; or
(d) contravenes any of the provisions of these rules or the notifications issued under these rules with intent to evade payment of duty,
then, all such goods shall be liable to confiscation andthe producer or manufacturer or registered person of the warehouse or an importer who issues an invoice on which Cenvat Credit can be taken or a registered dealer, as the case may be, shall be liable to a penalty not exceeding the duty on the excisable goods in respect of which any contravention of the nature referred to in clause (a) or clause (b) or clause (c) or clause (d) has been committed, or [rupees two thousand], whichever is greater.

(2) An order under sub-rule (1) shall be issued by the Central Excise Officer, following the principles of natural justice.

From the perusal of the above cited provisions, it is crystal clear that penalty under Rule 25 can be imposed only if there is confiscation of goods. However, in the present case, the impugned show cause notice has not even proposed confiscation of goods. Moreover, confiscation was not possible as the excisable goods were already cleared by us and were not available for confiscation. Therefore, when there is no proposal for confiscation of goods, the proposal for penalty under Rule 25 of the Central Excise Rules, 2002 is void ab initio. Hence, the impugned show cause notice proposing penalty should be quashed.

7.    Aligning with the above, the assessee submitted the contention that when there is no confiscation, penalty under Rule 25 cannot be imposed is also supported by the decision given by the Hon’ble Ahmedabad Tribunal in the case of COMMISSIONER OF C. EX. & CUS., DAMAN VERSUS AL-AMIN EXPORTS [2007 (211) E.L.T. 305 (Tri. – Ahmd)] wherein it was held that:-

Confiscation and penalty - Scope of - EOU, 100% EOU - Export obligation under Notification No. 53/97-Cus. - Goods purchased from open market not required to be accounted for in the statutory records - Legal action can be taken against assessee only in respect of goods obtained under CT-3 certificate which was never used for the purpose of export - Show cause notice also not clear about the specific clause of Rule 25 of Central Excise Rules, 2002 under which confiscation may be ordered - Since confiscation not sustainable, penalty not imposable. [para 6]

It is pertinent to mention that this decision was upheld by the Hon’ble Bombay High Court having citation as Commissioner v. Al-Amin Exports - 2008 (232) E.L.T. A197 (Bom). Therefore, in light of the above cited decision, penalty under Rule 25 cannot be imposed and the impugned show cause notice should be set aside.

8.    The assessee submitted that the impugned show cause notice had not even mentioned the clause of Rule 25 under which they were liable to penalty. As such, the impugned show cause notice has been prepared callously without even establishing that they were liable for penalty under Rule 25 of the Central Excise Rules, 2002. In this regard, they placed reliance on the decision given in the case of OSWAL KNIT INDIA LTD. VERSUS COMMISSIONER OF C. EX., LUDHIANA [2006 (204) E.L.T. 510 (Tri. - Del.)] wherein it was held that:-

Penalty - Failure to take registration and keep account - Non specification of particular provision in a rule - Penalty confirmed under Rule 25 of Central Excise Rules, 2002 without specifying the specific clause under that rule - Order also does not state as to what is the offence - Impugned order not containing a clear finding about law violated hence not sustainable. [paras 8, 10]

The assessee submitted that in light of the above cited decision, penalty proposed under Rule 25 without even specifying the clause under the said rule is not tenable and is liable to be quashed.

9.    The assessee also submitted that although no penalty was imposable on them, but even if penalty was imposed under section 11AC, the same should be imposed under amended section 11AC(1)(a) which reads as follows:-

Furthermore, the provisions of section 11AC(1)(a) read as follows:-

Section 11AC Penalty for short-levy or non-levy of duty in certain cases.-

(1) The amount of penalty for non-levy or short-levy or non-payment or short payment or erroneous refund shall be as follows:-

Where any duty of excise has not been levied or paid or has been short levied or short paid or erroneously refunded, for any reason other than the reason of fraud or collusion or any wilful mis-statement or suppression of facts or contravention of any of the provisions of this Act or of the rules made thereunder with intend to evade payment of duty, the person who is liable to pay duty as determined under sub-section (10) of section 11A shall also be liable to pay a penalty not exceeding ten per cent of the duty so determined or rupees five thousand, whichever is higher:

The assessee submitted that since there was no malafide or fraudulent intention on their part because their act was backed by a number of judicial pronouncements affirmed by Apex Court, penalty if imposed on them should not exceed 10% of the duty determined.

Reasoning of judgment:-

The adjudicating authority went through the case records and found that the assessee was supplying their finished goods namely conveyer belts to Coalfields and as per the contract entered with the buyer, they were getting the products inspected by an independent inspection agency namely CMPDIL, Ranchi which had been nominated by their buyer. The assessee in the instant case had made payment to the inspection agency for inspection carried out in at their factory premises before dispatch of goods which had been reimbursed to them by the buyer. The Tribunal found that the assessee had submitted in their reply that their final product “conveyer belts” were marketable as such and did not require testing from third party before clearance. However, it was only on specific request of certain customers that the testing was being conducted by the specified third party on product manufactured by them. They did not get third party testing of their product on every clearance and such third party testing was done if it was desired by the customer. Moreover, the third party testing charges were merely reimbursed on actual basis and could not be considered as additional consideration flowing from buyer to them. as such, the third party testing charges were not condition of sale so as to form Part of the assessable value of the goods cleared by them. Hence, the provision of Rule 6 of the Central Excise Valuation(Determination of Price of Excisable Goods) Rules 2000 were wrongly invoked on them.
Further, on perusal of the copy of a purchase order of Eastern Coalfields Ltd. submitted by the assessee, the adjudicating authority found that third party inspection was carried out for only for supplies made to certain parties, that too, at their request, it was clear that there was no request of inspection to be done by CMPDIL or any other agency. Hence, testing was conducted only at the request of certain customers whereby the said charges were borne by their customer themselves could not be included in the assessable value for the purpose of discharging excise duty. Hence, the allegation of the impugned SCN was not at all tenable and the same was quashed. The assessee was not required to pay any excise duty on the testing charges.

It was also held that certain customers insist that the testing of product should be carried out by specified agencies and the cost of testing is borne by the customer. The charges for conducting third party testing are ultimately borne by the customer and these are post manufacturing expenses and not includible in the assessable value of goods.
It was also held that the reliance placed by the assessee on various decisions clearly reflect that the issue is no longer res-integra that the inspection conducted at the request of customer and all expenses being reimbursed on actual basis cannot be included in the assessable value of goods for the purpose of excise duty. In the present case also, the inspection/testing was conducted by CMPDIL only at the request of Central Coalfields Limited and all the expenditure in this regard was reimbursed to them. Testing conducted only at the request of certain customers whereby the said charges were borne by the customer themselves cannot be included in the assessable value for the purpose of discharging excise duty. Accordingly, the said testing charges are not includible in the assessable value and no excise duty is required to be paid on the same.
It was also held that the allegation of the impugned show cause notice is not at all sustainable on merits therefore there is no question of interest and imposition of penalty on them.

Conclusion:-
The gist of the case is that the assessee is not required to include the inspection and testing charges incurred on the specific request of certain buyers in the assessable value of goods for the purpose of levy of excise duty because the final product manufactured by the assessee was marketable as such and did not require testing from third party before clearance. Moreover, the said testing charges were not incurred for sale to every customer. It was concluded that the issue is no longer res integra in light of number of judicial pronouncements and so the show cause notice deserved to be dropped.
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