ITC Can Be Denied To Buyer If Supplier Fails To Pay Tax: Supreme Court Upholds S.16(2)(c) Of CGST Act

The Supreme Court has recently upheld the Gujarat High Court's judgment sustaining the constitutional validity of Section 16(2)(c) of the Central Goods and Services Tax Act, 2017. In doing so, it affirmed that a registered purchaser cannot claim Input Tax Credit (ITC) unless the supplier has actually paid the tax charged on the underlying supply to the government.

Upholding the High Court's judgment, the court observed, "High Court was fully justified in holding that no grounds were made out to declare Section 16(2)(c) of the CGST Act as unconstitutional or read down the provisions thereof. We find ourselves in complete and respectful agreement with the views expressed by the High Court of Gujarat and affirm and uphold the impugned judgment."

A bench of Justice Sanjay Kumar and Justice Sanjeev Sachdeva dismissed a batch of Special Leave Petitions led by Bhandari Scrap Traders v. Union of India.

The bench noted that the Gujarat High Court had undertaken a detailed examination of the statutory framework governing availment of ITC under the GST regime and correctly concluded that Section 16(2)(c) neither warranted being declared unconstitutional nor being read down.

The challenge before the Gujarat High Court arose from a batch of writ petitions questioning the constitutional validity of Section 16(2)(c), which makes actual payment of tax by the supplier a pre-condition for availment of ITC by the recipient.

The petitioners argued that the provision was arbitrary and violated Articles 14, 19(1)(g), 265 and 300A of the Constitution because it denied ITC to bona fide purchasers solely due to the supplier's failure to deposit tax with the Government. Alternatively, they urged the court to read down the provision so that ITC would be denied only in cases involving fraud, collusion or connivance between the supplier and the purchaser.

According to the petitioners, a purchasing dealer has no statutory mechanism to verify whether the supplier has discharged its GST liability since the supplier's GSTR-3B return is inaccessible to the recipient.

Having complied with all statutory requirements by possessing a valid tax invoice, receiving the goods and ensuring the transaction was reflected in GSTR-2A and GSTR-2B, they argued that a bona fide purchaser should not lose ITC because of a default entirely beyond its control. They relied on decisions under the Delhi Value Added Tax Act, including On Quest Merchandising India Pvt. Ltd., Arise India Ltd. and Shanti Kiran India Pvt. Ltd., to contend that an innocent purchaser cannot be denied tax credit merely because of the supplier's default.

Rejecting those submissions, the Gujarat High Court compared the GST framework with the earlier VAT regime. It held that the Statement of Objects and Reasons of the CGST Act itself links the availability of ITC to "taxes paid", demonstrating that actual payment of tax forms the very foundation of the ITC mechanism.

The court also observed that Section 16(2)(c) must be read as part of an integrated statutory framework alongside Sections 41, 53 and the other provisions governing the flow and utilisation of ITC.

The Gujarat High Court also found that the GST framework is fundamentally different from the Delhi VAT regime examined in On Quest. Unlike the VAT system, GST allows ITC to move across State boundaries through the IGST settlement mechanism.

The court said that if recipients were allowed to claim ITC even when the supplier had not deposited the tax, the originating State would end up transferring revenue it had never received. That, it observed, would weaken the destination-based structure of the GST regime. For that reason, the interpretation adopted under the Delhi VAT Act could not be applied to the CGST Act.

The Supreme Court agreed with this reasoning while dismissing the special leave petitions.

It observed that the Gujarat High Court had comprehensively analysed the distinctions between the Delhi VAT Act and the CGST Act, including the scheme governing availment of ITC.

The bench also noted that the Gujarat High Court had considered Sections 41, 73 and 74 of the CGST Act, under which a purchasing dealer is entitled to re-avail reversed ITC once the supplier discharges the outstanding tax liability. Those features, the court held, clearly distinguish the GST regime from the statutory framework examined in the earlier VAT decisions.

The bench further noted that although another Special Leave Petition arising from the Tripura High Court's decision in Sahil Enterprises v. Union of India had been entertained, the Tripura High Court had not undertaken the detailed statutory analysis carried out by the Gujarat High Court.

Consequently, the court held that no parity could be drawn between the two judgments while examining the validity of Section 16(2)(c).

Finding itself in complete agreement with the Gujarat High Court, the Supreme Court dismissed the batch of Special Leave Petitions and affirmed the judgment upholding the constitutional validity of Section 16(2)(c) of the CGST Act.

For Petitioners: Advocate Uchit Sheth, Advocate Uchit Sheth, AOR Malak Manish Bhatt, Advocate Sukanya Joshi, Advocate Somya Saxena, and Advocate Chhavi Tokas.