“Royalty” paid on mines and mineral lands is not a “Tax” affirms Supreme Court

On 25 July 2024, in a landmark ruling in the Mineral Area Development Authority v. Steel Authority of India (“MADA Judgment“), the Supreme Court of India’s nine-judge Constitution Bench delivered its decision. In an 8:1 majority, the Supreme Court upheld the right of State Governments to impose taxes on mines and mineral-bearing lands. The Supreme Court also ruled that royalties payable on extracted minerals do not constitute a tax. By resolving a 35-year-old dispute, the MADA Judgment brings clarity to the taxation of mineral-rich lands and affirms the State Governments authority to levy taxes, offering long-awaited certainty for stakeholders. At the same time, this judgment will likely have a significant and lasting effects on India’s federal structure, resource allocation, and the mining industry.

Historical context

Seventh Schedule of the Constitution of India outlines division of powers between the Union and State Governments through the Union List and State List, respectively. Entries on these lists are meant to be exclusive, i.e., there is no overlapping of jurisdiction between the Union and State Governments. The MADA Judgement revolved around three key entries in these lists:

• Union List: Entry 54 – Regulation of mines and mineral development to the extent to which such regulation and development under the control of the Union is declared by Parliament by law to be expedient in the public interest.
• State List: Entry 49 – Taxes on lands and buildings.
• State List: Entry 50 – Taxes on mineral rights subject to any limitations imposed by Parliament by law relating to mineral development.

The controversy began when the Union Government enacted the Mines and Minerals (Development and Regulation) Act, 1957 (“Mines Act”), bringing the regulation of mines and minerals under the control of the Union Government. Mining leaseholders were required to pay royalty on minerals extracted from leased areas.

In 1963, the Tamil Nadu government granted a mining lease to India Cements Ltd., requiring royalty payments to the state under the Mines Act. However, the Madras Panchayat Act, 1958, imposed a cess on this royalty. India Cements Ltd. challenged the cess, arguing that the Tamil Nadu government lacked the legislative competence to impose it, as the Mines Act had already regulated tax payments as royalty. The case eventually reached a seven-judge bench of the Supreme Court, which, in the 1989 case of India Cement Ltd. v. State of Tamil Nadu (“India Cement Judgment”), held that royalty constituted a tax and that the cess on royalty was beyond the State Government’s legislative competence.

This ruling led to a significant shift in judicial thinking on the issue, influencing numerous judgments until 2004. That year, in State of West Bengal v. Kesoram Industries Ltd. case (“Kesoram Judgement”), a five-judge bench of the Supreme Court found that the India Cement Judgment suffered from a typographical error and the court had mistakenly written that “royalty is a tax” while meaning that “cess on royalty is a tax”.

Meanwhile, in May 1999, a petition challenged the Bihar Coal Mining Area Development Authority (Amendment) Act, 1992, which imposed additional taxes on mineral-bearing lands. This challenge evolved into the MADA case. In 2011, a three-judge Supreme Court bench acknowledged the conflict between India Cements Judgement and Kesoram Judgement, referring the MADA case to the nine-judge Constitution Bench. This is amongst the oldest pending matters in the Supreme Court and was pending for over 25 years. 

Key issues before the nine-judge Constitution bench

Four major issues were addressed by the Supreme Court in the MADA Judgment:

1. Is royalty under the Mines Act a form of tax? – The Supreme Court ruled that royalty is conceptually different from tax. Royalty is paid as consideration in a private contractual arrangement, whereas a tax is imposed by the authority of law. However, Justice B.V. Nagarathna dissented, opining that while royalty and tax are fundamentally different, under the Mines Act, royalty constitutes a “compulsory exaction,” classifying it as a tax.
2. Can State Governments tax mineral rights under Entry 50 of the State List? – The Supreme Court held that State Governments have the power to tax mineral rights under Entry 50, subject to any restrictions imposed by Union Government. Since the Mines Act does not explicitly bar the State Governments from imposing such taxes, the State Government’s authority remains intact.
3. Can State Governments levy taxes on mineral land based on the value of minerals under Entry 49 of the State List? – The Supreme Court affirmed that “land” under Entry 49 includes mineral-bearing land. The value of extracted minerals can be used to calculate tax. Additionally, the Court clarified that taxes under Entries 49 and 50 do not overlap, as they pertain to different forms of taxation: land and mineral rights, respectively.
4. Is the decision in the India Cements Judgment incorrect? – The Supreme Court concluded that the phrase “royalty is a tax” in the India Cements Judgment was an error.

In conclusion, in an 8:1 majority, the nine-judge Constitution Bench held that State Governments can impose tax on mines and minerals. The Supreme Court further held that royalty is distinct from tax.

Retrospective application of the MADA Judgment with a cut-off date

Following the MADA Judgment, questions arose about whether it should be applied retrospectively or prospectively. The Union Government favoured prospective application to avoid a financial burden stretching back 35 years i.e., since 1989, while State Governments sought retrospective application to recover lost revenue. Mining companies were concerned that a retrospective ruling would result in massive back payments.

The Supreme Court settled the issue by setting a cut-off date of 01 April 2005. Taxes can be levied on transactions made after this date, with collections beginning from 01 April 2026. Relaxation was granted by staggering the payment over 12 years, with 100% exemption for interest or penalties for the period prior to the MADA Judgment i.e. before 25 July 2024.

Impact on future litigation

The MADA Judgment has set a precedent that may influence future interpretations of royalty taxation, impacting a range of related laws. Consider the Oilfields (Regulation and Development) Act, 1948 (“ORDA”), for example. Section 6A of the ORDA, which governs royalty provisions, mirrors Section 9 of the Mines Act. In the MADA Judgement, the Supreme Court ruled that “lands and buildings” in Entry 49 includes mineral-bearing land. This logic could be extended to oil-bearing lands under the ORDA. While the Supreme Court refrained from addressing the application of royalty provisions under Section 6A of the ORDA in the MADA Judgement, the door has been left open for future litigation.

The MADA Judgement is also expected to affect the pending Udaipur Chamber of Commerce and Industry v. Union of India case, which questions whether Goods and Services Tax (“GST”) can be levied on mining royalties. If, as the MADA Judgement concluded, royalty is a consideration rather than a tax, the transaction of leasing mines could be interpreted as the assignment of a right to use minerals. This would potentially classify it as a ‘service,’ thereby enabling State Governments to impose GST on such mining leases.

Our thoughts

The MADA Judgment is set to reshape India’s mining industry, with far-reaching financial consequences. In the short window between the judgement on 25 July 2024, and the decision on retrospective application on 14 August 2024, the Jharkhand Government passed the Jharkhand Mineral Bearing Land Cess Bill, imposing a new tax on mined minerals. This bill, on receipt of the Governor’s assent, is set to drive up the prices of critical resources like coal and bauxite.

The Supreme Court’s decision on retrospective mining tax will have a bearing on India’s mining industry and the broader economy. Initial estimates indicate that the total tax arrears owed by mining companies to the State Governments could be approximately ₹150,000 crore (US$18 billion) (read here). While State Governments stand to gain significant revenue from this ruling, the decision introduces financial challenges that could have long-lasting effects on investment, pricing, and the overall stability of the sector.

The imposition of retrospective taxes is expected to fuel inflationary pressures throughout the economy. As mining provides essential raw materials to other key sectors like construction, manufacturing, and energy, the increased financial burden on mining companies is likely to cascade down the supply chain, driving up the cost of final goods. Also, the sudden imposition of significant tax liabilities could make investors wary of entering or expanding in the Indian mining sector, potentially slowing the growth of the sector. However, some argue that the financial burden on mining companies is being overstated. A report by Motilal Oswal Financial Services (read here) suggests that the staggered 12-year payment timeline provided by the Supreme Court in its 14 August 2024 ruling could mitigate immediate financial strain.

As stakeholders navigate this new landscape, the MADA Judgment could very well serve as a catalyst for deeper economic reverberations in the months to come.