Addressing Royalty Upon Royalty in the Mining Sector: A Case for Judicial Rectification

I. Introduction

After implementation of the Mineral Concession Rules 2016 (‘MCR’), royalty over minerals is charged in a manner which results in a compounding effect – royalty is charged over already paid royalty. This is absurd because royalty has been determined to be a price consideration. In Kirloskar Ferrous Industries Ltd. v. UoI (2024) (‘Kirloskar I’), the Supreme Court (‘SC’) observed the existing anomaly within the current royalty framework. It refused to interfere based on the Centre’s assurance to address the anomaly while granting petitioners the liberty to approach the court if the Centre fails to act. However, as no change followed, concerned parties have again approached the SC. This piece argues that the current regime is susceptible to constitutional challenge under Article 14, and needs judicial intervention for rectification.

II. The Current Royalty Regime

In Mineral Area Development Authority v. SAIL (2024), the SC held royalty as the price consideration paid for the transfer of the right to extract natural resources belonging to the public and vested in the State as trustee. Therefore, unlike tax, royalty is not imposed for public purposes and is rather a contractual element between the state and mining lessee.

Section 9 of the Mines and Minerals (Development and Regulation) Act, 1957 (“MMDR Act”) is the principal basis for royalty determination on minerals. For most major minerals, royalty is levied ad valorem (as a percentage of the mineral’s value) — at the rate fixed in the Second Schedule.

Further, the mineral’s value is operationalised through the Average Sale Price (“ASP”) of minerals, periodically notified by the Indian Bureau of Mines (“IBM”), which becomes the statutory benchmark for royalty. Rule 42 of MCR provides the statutory basis for determining ASP. It is derived from the reported transaction values of minerals sold in the market and reflects the representative ex-mine price of a mineral during a specified period (sub-rule 2). The royalty is computed as a prescribed percentage of this ASP. The ex-mine price refers to the mineral value at the mine-head, and excludes expenses incurred beyond the mining lease area, such as transportation, loading, handling, and related post-extraction charges, from the sale value or export price of the mineral.

Beyond royalty, the framework imposes contributions to the District Mineral Foundation (“DMF”) under Section 9B and the National Mineral Exploration Trust (“NMET”) under Section 9C, each fixed as a percentage of royalty and therefore derived from it. For auctioned leases under the Mineral (Auction) Rules, 2015, lessees also pay an auction premium calculated as a percentage of ASP. Since royalty itself is calculated in accordance with the rates prescribed under the Second Schedule of the MMDR Act, the contributions to DMF and NMET are directly dependent on and derived from the royalty. Consequently, the quantum of these charges does not arise independently but varies in proportion to the royalty payable by the mining lease holder.

The anomaly lies in the definition of “sale value”, on which ASP ultimately depends. Rule 38 of the MCR 2016 and Rule 45(8)(a) of the Mineral Conservation and Development Rule 2017 (‘MCDR’) define ‘sale value’ as the gross amount realised from the sale of minerals. While the main definition excludes taxes, the explanation added to the provision clarifies that it should include the royalty, contributions to the DMF, and payments to the NMET from the reported sale value (hereinafter referred to as ‘extra payment’).

This produces the compounding effect, as each ASP cycle absorbs the statutory payments made in the previous one. For simplicity, assume that the royalty rate for a mineral is 10%. Further, with DMF, NMET, and auction premium, suppose the mining lease holder effectively pays a total of 12% of the ASP. Because of the operating definition of “sale value”, the subsequent calculation of ASP includes not only the intrinsic value of the mineral but also the 12% of extra payment.

This means that the base value itself becomes inflated. When the royalty and other statutory charges are applied again, the 12% is calculated on this inflated value rather than the original mineral value. Over time, this creates a cascading/compounding effect, where each cycle of computation increases the base for the next cycle, even while the statutory rate is constant.

III. Kirloskar I and Subsequent Developments

The compounding effect was challenged in Kirloskar I through a writ under Article 32. The Union accepted that the framework was prima facie inconsistent (see ¶77). Indeed, before the petition, the Ministry of Mines had already begun a public consultation on the ASP methodology. A 2021 committee had found that the existing method results in “cascading effect of royalty on royalty,” because sale value already includes royalty, DMF and NMET; it recommended computing ASP after excluding these levies for both existing leases and future auctions. The consultation that followed included mineral-rich States whose revenues turn on ASP. It concluded that charging royalty and auction premium on a sale value already containing royalty was “not an appropriate way to collect revenue”.

On the Centre’s assurance, the Court declined to interfere and directed the Union to conclude the consultation and take a decision, with liberty to the petitioners to return. No change was made; the prospective fiscal loss to the States, if the extra payment were removed from sale value, was the principal reason for maintaining the status quo. The petitioners have now exercised that liberty and reapproached the Court.

IV. Constitutional Validity of 'Sale Value'

In Kirloskar I, the court rightly pointed that determining royalty over mineral extraction is an economic policy. As held in R.K. Garg and followed subsequently, the judiciary is expected to follow a policy of deference in such economic policy matters and the bar for interference should be kept high. However, as Vivek Narayan Sharma holds, this deference does not excuse the absence of adequate reasons and justification, even in economic policy (see ¶224). An unreasoned economic policy can still induce constitutional challenge under Article 14 on two different grounds: unreasonable classification and manifest arbitrariness. This section shows the fallibility of the current royalty regime on both grounds.

a) Unreasonable Classification:

The SC, as early as Anwar Ali Sarkar, established that Article 14 forbids class legislation but permits reasonable classification. After Budhan Choudhry and Ram Krishna Dalmia, it was developed into a two-pronged test, as follows:

1. Intelligible Differentia: The classification must objectively distinguish included and excluded groups.

2. Rational Nexus: The distinction must logically relate to the statute’s purpose.

For a valid classification, both prongs should be fulfilled.

The inconsistency arises from the differential treatment accorded to coal vis-à-vis other major minerals. Through a specific amendment, these statutory levies from the base computation used for determining royalty on coal have already been excluded. However, no corresponding correction was introduced for other minerals, despite the computation mechanism being substantially similar. The SC itself, in Kirloskar I, relying on Tata Steel v. UoI (2015), noted that there is no “fine distinction” justifying a separate computational mechanism between coal and other minerals, and that the divergence stemmed from a regulatory anomaly.

Further inconsistency is visible within the regulatory framework itself. Out of 71 minerals mentioned in Schedule II to the MMDR Act, 57 of them are charged royalty based on an ad valorem basis. Out of these, only 43 minerals are subjected to the anomalous royalty computation through ASP. The remaining 14 are excluded from this mechanism, within which 9 minerals are subjected to a different mechanism for royalty under Rule 44 of the MCR 2016. Their pricing mechanisms are linked to international indices or alternative valuation methods, thereby preventing statutory levies being embedded within the ASP.

Therefore, the absence of a coherent principle guiding this differential treatment for charging of royalty leading to compounding effect only on certain minerals undermines the requirement of intelligible differentia, defeating the first prong itself. Further, if the object of royalty is to secure consideration for the extraction of mineral resources, there is no rational nexus between that objective and a system that subjects only certain minerals to a cascading computation while insulating others from it, defeating the second prong as well. The classification, therefore, appears to be the product of unreasonableness rather than reasoned policy.

b) Manifest Arbitrariness

Manifest arbitrariness, as established in E.P. Royappa, recognises that state actions cannot be capricious, irrational, or operate without adequate determining principle(s) which is excessive and disproportionate. As Tarunabh Khaitan shows, SC for a long time used this doctrine sparingly, mainly to test the vires of the subordinate legislations. Further several cases (see Re Natural Resources Allocation (2012), ¶103, Andhra Pradesh v. McDowell & Co (1996), ¶ 43) have ruled that arbitrariness cannot be an independent ground for challenging vires legislations and other constitutional infirmities should be proved. However, within the last decade the SC has clarified the scope of arbitrariness as independent ground for challenge. Further it has been recognised as an independent ground for invalidating primary legislations, observing that there is no distinction between them entailing the use of the doctrine for one but not for the other (See Shayara Bano v. UoI (2017), ¶55; Manish Kumar v. UoI (2021), ¶49).

The compounding effect created by the present definition of the sale value fits squarely into this formulation. By including components of extra payment within the definition of “sale value,” the regulatory framework causes the base for royalty computation to expand with every cycle. The consequence is that a levy imposed on mineral value becomes a levy imposed partly on prior levies. This produces an outcome that is disconnected from the object of royalty itself, which is consideration for the depletion of natural resources belonging to the State, i.e., every time a mineral is removed, the share for the quantity removed is paid to the government.

Further, the National Mineral Policy of 2019, under clauses 6 & 7, also mandates promoting export competitiveness by supporting the domestic industry of the mining sector and attracting foreign investment. The current way of calculating royalty clearly does not align with these policy objectives and, conversely, impinges upon the economic objectives of the country regarding minerals. Therefore, the above analysis clarifies that no rational economic or statutory basis explains why the price consideration paid for minerals extracted in the past should be included in the price consideration for subsequent mineral extraction.

Moreover, the overall impact of rules leads to violation of Quando aliquid prohibetur ex directo, prohibetur et per obliquum (‘What is prohibited directly, it is also prohibited indirectly’). As explained by the SC in General Officer Commanding-in-Chief (1988), this principle entails that a subordinate legislation cannot do what is prevented through the main legislation. Section 9(3) of the MMDR Act restricts the Centre’s power to enhance the royalty rates more than once in every three years, to maintain price stability. The current structure leaves the royalty rate untouched, but by considering prior extra payments into “sale value”, it effectively raises the royalty actually paid in each successive payment. The increase cannot be attributed to ASP, as its formula cannot legitimately include royalty or other extra payments and therefore, indirectly violates Section 9(3).

V. Conclusion

Overall, the above analysis shows that the current royalty regime for minerals operates without any determining principle imposing a disproportionate and unjustified burden, rendering it manifestly arbitrary under Article 14. As the legislature has already failed to address this anomaly, it is the prerogative of the SC to intervene. The current explanation of the definition of the sale value under Rule 38 of MCR 2016 and 45 (8)(a) of MCDR 2017 needs to be scrapped based on the grounds explained in this piece. Additionally, the main provision should be expanded to include the word ‘royalty or other similar charges’ along with the exclusion of taxes. By overruling the current framework, the SC would be setting an important precedent regarding the scope of judicial deference in economic policy. While the Court is traditionally expected to follow a policy of deference toward the state in matters of economic policy, it cannot serve as a shield to protect arbitrary and unjust regulations.

About the Author

Shivam Gupta is a third-year law student at the National Law School of India University, Bengaluru

Editor

Tanay Hindocha, Senior Editor