Facts of the Case

The petitioners, a group of proprietorship/partnership businesses dealing in lead and lead scrap and registered under the Karnataka Goods and Services Tax Act, 2017, had their Input Tax Credit (ITC) blocked by the Assistant Commissioner of Commercial Taxes, Belagavi, by orders dated between 02.06.2023 and 27.06.2023. The blocking, ranging in amounts across the connected petitions (one order blocked ITC of Rs. 30,88,089), was made in exercise of powers under Rule 86A of the Central Goods and Services Tax Rules, 2017, on the ground that the petitioners had availed ITC from suppliers in Goa who were found, on a field visit report of the Assistant State Tax Officer, Vasco-da-Gama, to be non-existent or not conducting business from their registered premises. No prior notice or hearing was given before the ITC was blocked.

Issues Involved

  1. Whether the pre-requisites for invoking Rule 86A — availability of ITC in the electronic credit ledger and recorded "reason to believe" — were satisfied.
  2. Whether Rule 86A permits blocking of ITC without affording any hearing to the assessee, given its serious civil consequences.

Petitioner's Arguments

  • The impugned orders were passed without any opportunity of hearing, violating Articles 14 and 19(1)(g) of the Constitution.
  • Even if the selling dealers were found fraudulent, the purchasing petitioners could not be penalised absent proof of their own complicity.
  • The action amounted to impermissible "negative blocking" of ITC, a power not provided under the statute, relying on Samay Alloys, S.S. Industries, New Nalbandh Traders, Dee Vee Projects and Rajnandini Metal.

Respondent's Arguments

  • The orders were based on credible field reports referred to in the orders themselves, and Rule 86A is a preventive, temporary measure to protect Revenue interest.
  • Neither the CGST Act nor the Rules require adherence to natural justice before invoking Rule 86A.
  • ITC is a concession, not a vested right, and the petitioners remained free to conduct business by paying tax in cash; only the credit ledger was frozen, and only for a maximum of one year.

Court Order / Findings

  • The Court held that Rule 86A has twin pre-requisites — availability of ITC in the ledger, and a recorded "reason to believe" based on objective material — both of which appeared, prima facie, to be satisfied on the strength of the field visit report.
  • However, given the drastic and civil-consequence-laden nature of Rule 86A, the Court held that even though the Rule does not expressly provide for a hearing, principles of natural justice must be read into it, and a post-decisional/remedial hearing is mandatory, following the Bombay High Court's reasoning in Dee Vee Projects Ltd.
  • The writ petitions were disposed of directing the second respondent to grant the petitioners a post-decisional hearing, permitting them to file objections and supporting material, and to pass a reasoned order confirming or revoking the blocking orders.

Important Clarification

Although Rule 86A of the CGST Rules does not expressly mandate a pre-decisional hearing before blocking the electronic credit ledger, courts will read a post-decisional or remedial hearing into the provision because the power has serious civil consequences for the taxpayer. An order blocking ITC must also disclose the twin pre-requisites — credit actually available in the ledger, and reasons to believe recorded in writing — failing which it is liable to be set aside.

Sections Involved

  • Rule 86A, CGST Rules, 2017 — empowers the Commissioner to disallow debit from the electronic credit ledger where ITC is believed to be fraudulently availed or ineligible.
  • Section 16, CGST Act, 2017 — governs eligibility and conditions for availing ITC.
  • Sections 73 & 74, CGST Act, 2017 — provide the machinery for actual recovery of ITC following determination after the Rule 86A stage.

Decision – In Favour of

Disposed of with directions, in part in favour of the Assessee — the ITC blocking orders were not quashed on merits, but the assessees secured the right to a post-decisional hearing before the blocking could be confirmed, with liberty to the department to proceed under Sections 73/74 thereafter.

Case Details

  • Court: High Court of Karnataka, Dharwad Bench
  • Case Number: WP No. 104242 of 2023
  • CNR / Citation: WP No. 104242 of 2023 (T-RES)
  • Coram: Hon'ble Mr Justice S. Vishwajith Shetty
  • Date of Order: 27 July 2023

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