Online Games of Chance vs Games of Skill: What Supreme Court Staying Karnataka High Court Order Means

The CJI DY Chandrachud-led Bench was acting on the GST department’s plea against the Karnataka HC order, which had quashed the department’s show-cause notice to the online gaming company GamesKraft Technologies for dues worth Rs 21,000 crore.

What is the Karnataka High Court ruling?

On May 11, a single-judge Bench of Justice S R Krishna Kumar of the Karnataka HC dealt with the question of whether online games would be considered games of skill or chance under Entry 6 of Schedule III of the Goods and Services Act, 2017, which entails that lottery, betting, and gambling are taxable as actionable claims. Notably, games of skill attract 19% GST, while games of chance attract 28% GST.

The plea challenging the GST department’s notice was filed by Gameskraft, an online intermediary company incorporated in June 2017 and headquartered in Bangalore, which allowed over 10 lakh users across the country to play skill-based online games against each other. The company also stated that it was registered under the Central Goods and Services Tax Act, 2017, and the Karnataka Goods and Services Tax Act, 2017.

According to Gameskraft, a majority of these were rummy games, previously held to be games of skill. Meanwhile, the GST department argued that rummy was a game of chance and thus liable to 28% taxation.

However, the court ruled that rummy “is substantially and preponderantly a game of skill and not of chance” in its 325-page judgment. It also added that whether the players were playing with stakes or not, rummy is not gambling. The same would apply in online and offline modes of the game alike, it added.

Terming the GST department’s show-cause notice dated September 23, 2022, as “illegal, arbitrary, and without jurisdiction”, the court set it aside.

Significantly, it added that “a perusal of the impugned show cause notice as well as contentions and submissions of the respondents” clearly indicated that they were an “outcome of a vain and futile attempt” to “cherry pick stray sentences from the judgments of various courts” in an attempt to “build up a non-existent case out of nothing which clearly amounts to splitting hairs and clutching at straws which cannot be countenanced and is impermissible in law”.

What did the GST department’s notice state?

On September 8 last year, the GST department issued an intimation notice under Section 74(5) of the CGST Act, calling upon GamesKraft to deposit a sum of Rs. 2,09,89,31,31,501 along with interest and penalty by September 16, 2022.

Section 74 deals with the “Determination of tax not paid or short paid or erroneously refunded or input tax credit wrongly availed or utilised by reason of fraud or any willful misstatement or suppression of facts”. Section 74 (5) specifies that “The person chargeable with tax may, before service of notice under sub-section (1), pay the amount of tax along with interest payable under section 50 and a penalty equivalent to fifteen per cent of such tax on the basis of his own ascertainment of such tax or the tax as ascertained by the proper officer and inform the proper officer in writing of such payment.” Meanwhile, Section 50 entails the interest to be paid on delayed payment of tax.

Consequently, the intimation notice was challenged before the Karnataka High Court, which ordered an interim stay on September 23 of that year.

Immediately after the court-imposed stay, the GST department issued the show-cause notice under challenge, which was issued under Section 74(1) of the CGST Act to GamesKraft and its founders, CEOs, and CFOs.

Section 74 (1) allows a “proper office” to serve notice when tax hasn’t been paid, has been short-paid, has been erroneously refunded, or an input tax credit has been wrongly availed of or utilized through “fraud, or any wilful-misstatement or suppression of facts to evade tax”. This notice requires the person to “show cause as to why he should not pay the amount specified in the notice along with interest payable thereon under section 50 and a penalty equivalent to the tax specified in the notice.”

Thus, it was this show-cause notice that led the gaming company to approach the Karnataka HC again. In its ruling, the court also drew a distinction between games of skill and chance.

How are games of skill different from games of chance?

The Karnataka High Court also said that there is a distinct difference between games of skill and games of chance, particularly referring to the two-judge Bench Karnataka HC verdict in All India Gaming Federation vs. State of Karnataka (2022). The said ruling is “a total and complete answer” to the issues in the case, the court said.
In the 2022 decision, the HC struck down parts of the Karnataka Police (Amendment) Act 2021, which amended the principal Act of 1963 to treat games of skill on par with games of chance and resulted in the criminalisation of playing or facilitating online games.

The 2022 ruling also cited the Kerala HC’s 2021 decision by a single judge in Head Digital Works Pvt. Ltd. vs. State of Kerala, which said, “..As such playing for stakes or playing not for stakes can never be a criterion to find out whether a game is a game of skill… The game of Online Rummy will also have to be held to be a game of skill…”

Before this, in 2020, the top court in Skill Lotto Solutions vs. UOI held that lottery, betting, and gambling can be subjected to tax. However, the Karnataka HC in the present case observed that the question of whether a game of skill, either wholly or predominantly, could still be classified as lottery, betting, and gambling remained to be seen.