Sales Tax Officer, Banaras v Kanhaiya Lal Mukund Lal Saraf (1958)

S. 72 is nine lines long and looks unremarkable: "A person to whom money has been paid, or anything delivered, by mistake or under coercion, must repay or return it." The whole of Indian restitution law for mistaken payments has been built out of the single word "mistake".

In England the rule from Bilbie v Lumley (1802) was that money paid under a mistake of law could not be recovered; only a mistake of fact would do. Indian High Courts were split on whether s. 72 imported that limitation, and the split had teeth, because the largest category of mistaken payments in India is tax paid under a statute later held ultra vires.

Kanhaiya Lal is the decision of the Supreme Court that settled it: s. 72 draws no distinction between a mistake of law and a mistake of fact. For an MU paper it is the anchor case on quasi-contract, and it is also the standard illustration of the brief in this course — a place where Indian statute and English common law visibly part company.

Kanhaiya Lal Mukund Lal Saraf was a firm at Banaras dealing in bullion and forward contracts. Under the U.P. Sales Tax Act the sales tax authorities assessed and collected sales tax on the firm's forward transactions — contracts for future delivery in which no goods actually changed hands. The firm paid, in instalments, over three assessment years. It paid because it, and the department, both believed the tax was lawfully due.

It was not. In Budh Prakash Jai Prakash v Sales Tax Officer the Allahabad High Court held that the levy of sales tax on forward transactions was beyond the legislative competence of the State — a decision the Supreme Court afterwards confirmed. The statutory foundation of the demand simply fell away.

The firm then asked for its money back and, when refused, sued. The State's answer was not that the tax was due. Its answer was that the payment had been made under a mistake as to the law, that English, American and Australian law refused restitution in that situation, that the money had long since gone into the consolidated fund and been spent, and that the firm was in any case estopped by its own voluntary payment.

1. Does the word "mistake" in s. 72 include a mistake of law, or only a mistake of fact?
2. Is s. 72 cut down by s. 21, which says that a contract is not voidable because it was caused by a mistake as to any law in force in India?
3. Can the recipient resist repayment on the ground that he has changed his position — that he no longer has the money?
4. Is a taxpayer who paid without protest estopped from claiming a refund?

For the State the argument ran through s. 21. If a mistake of law leaves a contract untouched, it was said, the Act cannot have intended that the same mistake should found a claim to recover money paid; to hold otherwise would make s. 72 swallow s. 21. The State also relied on the Nagpur High Court's reasoning that restitution rests on conscience, so that once the receiver has spent the money on his own purposes it is no longer against conscience for him to keep it.

For the firm the answer was textual and short. The section says "mistake". It does not say "mistake of fact". Where the framers wanted to confine a rule to mistakes of law they said so expressly, as in s. 21. And the equitable gloss the State wanted read into the section was nowhere in its language.

The Supreme Court allowed recovery. Bhagwati J, delivering the judgment, held that "the section in terms does not make any distinction between a mistake of law or a mistake of fact. The term 'mistake' has been used without any qualification or limitation whatever." Once a mistake of either kind is established, the payer is entitled to recover and the recipient is bound to return, "irrespective of any other consideration."

The Court declined to import a change-of-position defence. Of the Nagpur reasoning it said that "no such equitable consideration can be imported when the terms of Section 72 are clear and unambiguous." Nor was there any estoppel: where the mistake as to the legal position is shared by the taxpayer and the taxing authority alike, neither has represented anything to the other.

Money paid under a mistake of law is recoverable under s. 72 in the same way as money paid under a mistake of fact. The mistake that matters is the mistake in believing that the money was due when in truth it was not.

Two subsidiary propositions come with it: the fact that the payee has spent the money is not, by itself, a defence to a claim under s. 72; and voluntary payment without protest does not, without more, raise an estoppel where both parties laboured under the same misapprehension of the law.

Two features of the reasoning are worth understanding properly, because both are examinable.

First, the interaction of ss. 21 and 72. The Court adopted the answer the Privy Council had already given in Shiba Prasad Singh v Srish Chandra Nandi (1949), and the passage is worth carrying into an answer:

"Payment 'by mistake' in Section 72 must refer to a payment which was not legally due and which could not have been enforced; the 'mistake' is in thinking that the money paid was due when, in fact, it was not due."

The two sections operate on different subject-matter. S. 21 is about the validity of a bargain: a contract entered into under a mistaken view of Indian law stands, because otherwise no agreement would ever be safe from later judicial reinterpretation. S. 72 is about a payment for which there was no obligation at all — no contract, no statute, nothing. There is no inconsistency in saying that a bargain survives a shared mistake of law while a payment made under no bargain does not. The Privy Council added a knock-down point: if the argument from inconsistency with s. 21 were good, the identical argument from s. 22 (mistake of fact by one party only) would prove that s. 72 does not cover mistakes of fact either — which nobody suggests.

Second, the departure from Bilbie v Lumley. Before Shiba Prasad the Bombay and Madras High Courts, influenced by s. 21 and by English authority, had held that s. 72 could not reach a mistake of law, while the Calcutta High Court had held the opposite. The Privy Council and then the Supreme Court preferred the Calcutta view — not by criticising Bilbie v Lumley on its own ground, but by pointing out that in India the question is governed by a statute, and the statute is unqualified. This is the classic Indian answer to a question about English influence: where the Contract Act speaks plainly, English case law is at best persuasive background.

It is worth adding that Shiba Prasad itself contained a warning that the Supreme Court did not disturb: "their Lordships' judgment does not imply that every sum paid under mistake is recoverable, no matter what the circumstances may be. There may in a particular case be circumstances which disentitle a plaintiff by estoppel or otherwise." That sentence is the doorway through which the later qualifications walked in.

Tilokchand Motichand v H.B. Munshi, (1969) 1 SCC 110 : AIR 1970 SC 898 — delay. A firm had paid sales tax on out-of-State sales, having collected that tax from its own customers. It was ordered to refund the money to the customers, failed to produce their receipts, and was made to pay the amount back to the State; it did so only when an attachment order arrived. The statute under which the recovery was made was afterwards declared ultra vires. The firm then sought its money back under Article 226.

The Supreme Court refused. It held that the firm had not made a payment under any mistake in the s. 72 sense — it had understood the legal position perfectly well throughout and had paid under compulsion. That took the case out of "mistake" and into "coercion", which s. 72 also covers; but by the time the firm moved, the claim was stale. The majority, speaking through Mitter J, measured time from the date the offending Act came into force, and the petition was well outside three years. Hegde J dissented, holding that time should run from the date the Act was declared void. The practical lesson survives whichever view one prefers: a s. 72 claim can be defeated by delay and laches, and a writ petitioner in particular must move promptly.

Mafatlal Industries Ltd v Union of India, (1997) 5 SCC 536 — unjust enrichment and passing on. A nine-judge Bench, reviewing the whole law of indirect-tax refunds, held that restitution is not automatic merely because a levy is found to be unlawful. A claimant must show that he has suffered loss or injury. Where a manufacturer or dealer has passed the burden of the tax on to his customers by building it into the price, a refund to him would enrich him unjustly at the expense of consumers who can never be traced; a claim for refund of tax paid under a mistake of law is not maintainable in that situation. Sen J dissented, taking the view that refund should follow in any event. Mafatlal also confined refund claims largely to the machinery of the taxing statute itself.

The trend Mafatlal represents was already visible: refunds have been refused where the fee had been collected from consumers and could not be returned to them, while refunds have been allowed where the payment came out of the claimant's own pocket. Where the money can be routed back to those who really bore it, courts have devised schemes to do so.