AMIT BAJAJ ADVOCATE

Introduction

The decision of the Gujarat High Court in Maruti Enterprise v. Union of India and its subsequent affirmation by the Supreme Court in Bhandari Scrap Traders v. Union of India have undoubtedly become the most significant pronouncements on Section 16(2)(c) of the Central Goods and Services Tax Act, 2017. The constitutional challenge mounted by a large number of purchasing dealers against the validity of Section 16(2)(c) has now come to an end. The Supreme Court has affirmed the view that input tax credit is a statutory concession subject to the conditions prescribed by the legislature and that Section 16(2)(c) cannot be declared unconstitutional nor read down to confine its operation only to cases involving fraudulent or collusive transactions.

Following these decisions, a perception has emerged in certain quarters that every pending dispute concerning denial of input tax credit on account of supplier default has also reached its inevitable conclusion. Such a perception, however, deserves closer examination.

A careful reading of both judgments suggests that while the constitutional validity of Section 16(2)(c) has attained finality, numerous questions concerning its factual application continue to remain open. Neither the Gujarat High Court nor the Supreme Court has laid down that every allegation of supplier default must necessarily result in denial of input tax credit to the recipient irrespective of the facts of the individual case.

The purpose of this article is not to question the correctness of the judgments. Rather, it seeks to identify the legal and factual issues which continue to survive despite the constitutional challenge having failed.

I. Constitutional Validity and Statutory Application are Two Different Questions

The first and perhaps the most fundamental distinction emerging from the judgments is between the validity of a statutory provision and its application in an individual case.

The constitutional challenge before the Gujarat High Court was directed against Section 16(2)(c) itself. The Court examined whether the legislature was competent to impose the condition that tax charged in respect of a supply must actually have been paid to the Government before the recipient becomes entitled to input tax credit. The Court answered this question in the affirmative. The Supreme Court has now affirmed that conclusion.

However, neither Court was called upon to determine whether Section 16(2)(c) stood violated in each of the numerous individual cases forming part of the batch of petitions. Indeed, the Gujarat High Court expressly clarified that it was not examining the merits of the individual matters and that the judgment was confined to the constitutional validity of Section 16(2)(c).

Consequently, appellate authorities and courts continue to retain jurisdiction to determine, on the evidence available in each case, whether the statutory condition contained in Section 16(2)(c) has in fact been violated.

This distinction is likely to assume considerable importance in future litigation.

II. Does Cancellation of Supplier Registration Establish Violation of Section 16(2)(c)?

One of the most common grounds on which input tax credit has been denied in recent years is that the supplier's registration was cancelled, often retrospectively, or that the supplier was subsequently found to be non-existent.

Whether these circumstances by themselves establish violation of Section 16(2)(c) remains an important question.

Section 16(2)(c) does not prescribe cancellation of registration as the condition for denial of credit. The statutory language is precise. It requires that "the tax charged in respect of such supply has actually been paid to the Government."

The emphasis, therefore, is upon payment of tax and not upon the subsequent status of registration.

Cancellation of registration may undoubtedly constitute an important circumstance. It may also provide the foundation for further investigation. Nevertheless, cancellation of registration and non-payment of tax are not legally synonymous.

Similarly, a finding that the supplier was non-existent cannot automatically establish that tax corresponding to the disputed invoices was never deposited in the Government treasury.

The distinction assumes significance because tax liability under the GST law is determined through adjudicatory proceedings. Unless there exists material demonstrating that tax relating to the disputed supplies has remained unpaid, the factual foundation for invoking Section 16(2)(c) may itself require closer scrutiny.

Neither Maruti Enterprise nor Bhandari Scrap Traders appears to dispense with this requirement.

III. Whether Revenue Must Establish Actual Non-Payment of Tax

The judgments proceed on the premise that Section 16(2)(c) links entitlement to credit with actual payment of tax to the Government.

An equally important question, however, concerns the nature of evidence necessary to establish such non-payment.

Can the Department merely rely upon retrospective cancellation of registration?

Can it rely only upon non-filing of returns?

Can it rely upon general intelligence reports?

Or must it establish, through adjudication against the supplier or other cogent evidence, that tax corresponding to the recipient's invoices remains unpaid?

The judgments do not answer these questions.

In many adjudication orders, the Department proceeds directly from cancellation of registration to denial of credit without demonstrating whether tax corresponding to the disputed invoices was ever determined to be payable by the supplier and remained unpaid after adjudication.

Whether such an approach satisfies the requirements of Section 16(2)(c) is an issue that appears to remain open.

IV. The Continuing Relevance of Proceedings Against the Supplier

The Gujarat High Court rejected the contention that recovery proceedings against the supplier must necessarily precede action against the recipient. It also accepted the legislative scheme contained in Sections 41, 53 and Rule 37A while distinguishing the earlier decisions rendered under the Delhi VAT Act.

Nevertheless, the judgments do not appear to hold that proceedings against the supplier have become wholly irrelevant.

Where no determination of supplier liability exists, or where the Department itself has not established that tax remains unpaid and the Department relies upon a mere fact that the supplier’s registration is cancelled for disallowance  of the ITC claimed by recipient, in such scenario, the recipient may legitimately contend that the factual requirements of Section 16(2)(c) have not yet been established.

The constitutional validity of Section 16(2)(c) has been upheld substantially on the strength of the statutory mechanism contained in Section 41(2), which permits reversal of credit upon non-payment of tax by the supplier and re-availment upon subsequent payment. The operation of this mechanism necessarily presupposes an identifiable determination that tax payable in respect of the relevant supplies has remained unpaid and, subsequently, has been discharged. In the absence of any adjudication or other legally sustainable determination quantifying the supplier's unpaid tax liability in relation to the disputed supplies, the statutory right of re-availment risks becoming incapable of practical implementation. Consequently, where the Department proceeds merely on the basis of cancellation of registration or allegations regarding the supplier, without establishing that tax in respect of the recipient's invoices remains unpaid, a substantial question arises whether the factual foundation for invoking Section 16(2)(c) and the consequential operation of Section 41(2) has been established.

V. The Significance of the Substituted Section 41

A notable feature of the Gujarat High Court judgment is its reliance upon the substituted Section 41 and the mechanism of reversal and re-availment introduced with effect from 1 October 2022. The Court observed that the substituted provision removes the concept of provisional credit while simultaneously permitting the recipient to re-avail the credit once the supplier subsequently discharges the tax liability.

This naturally raises an interesting issue concerning transactions pertaining to periods prior to 1 October 2022.

The statutory framework governing availment of input tax credit before substitution of Section 41 was materially different. Whether the reasoning adopted in Maruti Enterprise, founded substantially upon the substituted Section 41, applies with equal force to earlier tax periods may become a matter requiring judicial consideration.

The judgments themselves do not expressly address this question.

VI. Whether Partial Default by the Supplier Necessarily Defeats the Entire Credit Chain

Perhaps the most unexplored issue concerns situations where the supplier has discharged tax liability only partially.

Suppose a supplier is found liable to pay tax of ₹2 crore for a financial year. Suppose further that, after adjudication, it is held that tax amounting to ₹50 lakh alone remained unpaid.

Can every recipient who purchased goods from such supplier be denied the entire input tax credit?

Should the denial be proportionate?

Should it be invoice-specific?

Should it be restricted only to those invoices corresponding to unpaid tax?

The Act does not appear to provide an express mechanism for allocating such deficiencies. Neither Maruti Enterprise nor Bhandari Scrap Traders addresses this situation.This issue is therefore likely to assume considerable practical importance in future adjudication.

VII. Invocation of Section 74 Against Bona Fide Recipients

Another important aspect concerns the frequent invocation of Section 74.

Section 74 proceeds upon allegations of fraud, wilful misstatement or suppression of facts.

Supplier default, however, does not automatically establish fraud on the part of the recipient.

Where the Department relies exclusively upon defaults committed by the supplier, without producing evidence demonstrating collusion, connivance or knowledge attributable to the recipient, an important factual issue may arise regarding the very applicability of Section 74.

The constitutional validity of Section 16(2)(c) does not automatically resolve this question.

It continues to depend upon the evidence available in the individual case.

VIII. Burden of Proof Under Section 155

The Gujarat High Court has placed considerable reliance upon Section 155 while holding that the burden of proving entitlement to input tax credit rests upon the claimant.

An equally important question concerns the stage at which such burden stands discharged.

Where the recipient produces tax invoices, proof of payment, transportation documents, e-way bills, books of account, and establishes actual receipt of goods, does the evidentiary burden thereafter shift to the Department to establish non-payment of tax?

Or does the burden continue to remain entirely upon the recipient even in relation to matters lying exclusively within the knowledge of the supplier and the tax administration?

The judgments do not expressly resolve this evidentiary issue.

Future litigation may therefore focus not merely upon the existence of Section 155 but also upon the principles governing shifting burdens of proof.

Conclusion

The constitutional debate surrounding Section 16(2)(c) has, for all practical purposes, reached its conclusion. The Supreme Court has affirmed that Parliament was competent to impose actual payment of tax as a condition for availment of input tax credit and has declined to read down the statutory provision. That position now constitutes binding law.

However, it would be an overstatement to conclude that every pending dispute involving denial of input tax credit has automatically been decided by these judgments.

The constitutional validity of a statutory provision and its factual application in individual cases are conceptually distinct. The latter continues to depend upon the evidence adduced before the adjudicating authority and the appellate forums.

Questions concerning proof of actual non-payment of tax, the evidentiary value of retrospective cancellation of registration, the necessity of establishing supplier liability, the effect of partial tax defaults, the applicability of Section 74, the operation of Section 155, and the implications of the substituted Section 41 for earlier tax periods remain capable of generating substantial legal debate.

It is therefore likely that while Maruti Enterprise and Bhandari Scrap Traders have settled the constitutional controversy, they have by no means brought to an end the litigation concerning Section 16(2)(c). The next phase of GST jurisprudence is likely to be shaped not by constitutional challenges, but by judicial examination of these unresolved factual and evidentiary issues.