Karnataka High Court strikes down health and national security cess on pan masala: Here's why

The Karnataka High Court recently struck down a cess levied on pan masala products by the Central government under the Health Security se National Security Cess Act, 2025 (Cess Act) [Dhariwal Industries v Union of India & Ors]..Justice M Nagaprasanna upheld the Parliament's power to impose the cess, but found that levying it on pan masala products based on assumed output instead of actual production was arbitrary and violated Article 14 of the Constitution."While upholding the power of the Union of India to bring in a legislation for the imposition of tax, surcharge or cess, the matter that it is bought in and its execution is found to be in violation of Article 14 of the Constitution. This results in the obliteration of the Act and the Rules holding them to be failing the tenets of Article 14," the July 13 ruling said. .The Court was dealing with a batch of petitions by pan masala manufacturers, who challenged the validity of the Health Security se National Security Cess Act, 2025. Enforced in February 2026, the law levies a capacity-based excise cess on items like pan masala to fund public health and national security.Notably, the Act levied the cess on pan masala production by factoring in the number of pan masala making machines a manufacturer held. The focus was not on the actual number of pan masala pouches produced or sold, but rather the number of pan masala pouches the installed machines could produce in a day.The Revenue authorities defended this method of levying cess. Additional Solicitor General (ASG) N Venkataraman submitted that the pan masala sector was notorious for tax evasion. The approach adopted under the Cess Act was meant to address such revenue leakage at its root, by moving the taxable event from transactions that could be suppressed to evade tax, to machine ownership..The Court, however, was not convinced and relied on a hypothetical scenario to illustrate why such a levy of cess was arbitrary. In one petitioner's case, the Court noted that a machine capable of producing 65 pouches per minute would manufacture 31,200 pouches if operated for eight hours a day, and 7,80,000 pouches over 25 days.Under the Act, the manufacturer would be liable to pay ₹1.01 crore as cess based on the machine's presumed output. Including GST, the total tax liability would rise to ₹1.09 crore. However, the maximum retail value of those 7,80,000 pouches would be only ₹31.20 lakh."Therefore, the levy of cess on the machinery has led to grave discrepancy. This discrepancy borders upon arbitrariness," the Court ruled..The Union government argued that the Rules also contained an abatement mechanism under which manufacturers could seek a reduction in cess if a machine remained inoperative and did not generate the expected output. However, such relief was available only if the manufacturing activity remained suspended continuously for at least fifteen consecutive days.The Court rejected this defence, holding that the requirement ignored genuine cases where production could be suspended for shorter periods due to machinery breakdowns, shortage of raw materials or labour, factory maintenance or other operational reasons. Manufacturers in such situations would still be liable to pay the cess despite not producing goods during the shutdown, the Court noted."The prescription of a minimum period of fifteen days, proceeds solely on the presumption that assessees are likely to indulge in tax evasion. Administrative difficulties in preventing tax evasion cannot, by themselves, justify the prescription of such an arbitrary threshold under the Rules," the Court said..The Court further observed that manufacturers using machines with lower production capacity were liable to pay the same cess as those using machines with higher production capacity, resulting in an arbitrary classification.It therefore held that levying the cess on the basis of the presumed output of pan masala pouch-packing machines, rather than actual production, was unconstitutional and violative of Article 14 of the Constitution.However, the Court clarified that its ruling would not prevent the Union government from enacting a fresh law to levy the cess, provided it was in conformity with the observations made in the judgment..Senior Advocate G Shivadass, was instructed by Prashanth Shivadass, Partner at Shivadass & Shivadass along with his team Rishab J, Sampath K Mutthalageri, Sneha Suresh along with advocates Tarikar Praveen and Siddaling Reddy Patil, appeared for the various petitioners.ASG N Venkataraman along with senior standing counsel Aravind V Chavan represented the Union of India and Central Board of Indirect Taxes and Customs..[Read Judgment]