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If something is not taxable at all, can one exempt it? Obviously not. If one does it, it is conceptually meaningless and even absurd. Taking an excise example, it is like saying that free air is exempt. If free air is not taxable, it cannot be exempted by the government. Precisely this type of conceptual error is visible in the exemption list suggested in the Report of the Task Force of the 13th Finance Commission.

The list of services proposed to be exempted includes all public services of government including civil administration, Defence, paramilitary, police, intelligence and government departments (excluding Railways, Post and Telegraph, and other commercial departments, public sector enterprises, banks and insurance, health and education services).
These services are those rendered by the government in discharge of the sovereign functions of the state. Sovereign functions are maintenance of law and order (which includes judiciary), collection of taxes, maintenance of military, and international relations. They are not taxable at all and so there is no question of exempting them. There is no invoice and no payment. The question of taxing does not arise and so the question of exemption does not arise.

There is no specific provision in the Constitution about the sovereign power. However, Article 265 of the Constitution says that no tax shall be levied or collected except by the authority of law. The law is given in the Schedule VII, List 1, Union List, at serial No. 92C which authorizes ‘tax on services’ but the Constitution does not say anything about taxing the services provided by the sovereign. The expression sovereign denotes that the state has the power to legislate on any subject in conformity with constitutional limitations (Synthetics & Chemicals Ltd vs. State of Uttar Pradesh).
Some recent judgements at the tribunal level have thrown light on the use of sovereign power in regard to tax collection. They are discussed below. The Settlement Commission has referred In re. Rivaa Exports to a judgement by division bench of the Andhra Pradesh High Court (Delta Paper vs. CCE) which has held that interest is levied only under sovereign power in fiscal statutes and that the power of exemption and levy of interest under notification issued under the Duty Entitlement and Exemption Certificate scheme is under sovereign power.

The CESTAT, in a recent judgments in the case of Dy Director of Mines and Geological Department vs CCE & C, Belgaum, has ruled that service tax is not Levi able on the sovereign functions performed by the government. This judgement was in the context of service tax demanded from the Department of Mines and Geology of Government of Karnataka. This judgement is based on the opinion of the Advocate General of Karnataka that the services of the government while discharging the sovereign functions of the state are not taxable. This does not include the commercial functions, of course.
The real distinction is whether it is a service rendered in exercise of sovereign function or whether it is other than sovereign function. If it is a sovereign function no service tax is Levi able. If it is not sovereign function, service tax is Levi able provided there is a sale of the service on the basis of an invoice or a bill or voucher. Even if it is a statutory function and only a fee is charged, it is still conceptually a commercial sale. And the tax is Levi able. But to exempt sovereign functions which are not taxable at all is conceptually not a valid proposition. The Report of Task Force should have said that these functions are not taxable.

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