No Cash Recovery Under GST Rule 86B When Output Tax Is Fully Paid Through ITC

Summary: Rule 86B of the CGST Rules, introduced through Notification No. 94/2020 with effect from January 2021, restricts specified registered persons from using input tax credit (ITC) to discharge more than 99% of their output tax liability where monthly taxable supplies exceed ₹50 lakh, subject to certain exceptions. The article argues that the rule was introduced as an anti-evasion measure to curb fake invoicing, bogus ITC, and circular trading, making it procedural rather than a charging provision. It examines Sections 16, 41, and 49 of the CGST Act, which recognize a registered person’s entitlement to avail and utilize eligible ITC, and contends that these provisions do not create any substantive restriction on utilizing valid tax credit. According to the authors, Rule 86B merely regulates the manner of payment and cannot independently create an additional tax liability or authorize recovery in cash where the entire output tax liability has already been discharged through eligible ITC. They further point out that recovery provisions under Sections 73, 74, and 74A apply only where tax has not been paid, has been short paid, erroneously refunded, or ITC has been wrongly availed or utilized, and therefore cannot be invoked solely for non-compliance with Rule 86B in the absence of any tax dues. Reliance is placed on the Himachal Pradesh High Court’s decision dated 20 September 2024, which held that no cash demand can be raised when tax has already been paid through available ITC and observed that Rule 86B must have statutory backing in the Act. The article concludes that Rule 86B is procedural and cannot independently justify recovery of tax in cash.

RECOVERY IN CASH UNDER RULE 86 B OF GST ACT
WHEN TOTAL LIABILITY PAID BY ADJUSTING CREDIT BALANCE.

This New rule 86B was introduced by a Notification 94/2020 Dt 22/12/2020 with effect from January 2021 onwards. Hence this rule was not in force prior to the financial year 2020-2021.

GST Rule 86B. Restrictions on use of amount available in electronic credit ledger.-

Notwithstanding anything contained in these rules, the registered person shall not use the amount available in electronic credit ledger to discharge his liability towards output tax in excess of ninety-nine per cent. of such tax liability, in cases where the value of taxable supply other than exempt supply and zero-rated supply, in a month exceeds fifty lakh rupees:  Provided that the said restriction shall not apply where –

(a) the said person or the proprietor or karta or the managing director or any of its two partners, whole-time Directors, Members of Managing Committee of Associations or Board of Trustees, as the case may be, have paid more than one lakh rupees as income tax under the Income-tax Act, 1961(43 of 1961) in each of the last two financial years for which the time limit to file return of income under subsection (1) of section 139 of the said Act has expired; or

(b) the registered person has received a refund amount of more than one lakh rupees in the preceding financial year on account of unutilised input tax credit under clause (i) of first proviso of sub-section (3) of section 54; or

(c) the registered person has received a refund amount of more than one lakh rupees in the preceding financial year on account of unutilised input tax credit under clause (ii) of first proviso of sub-section (3) of section 54; or

(d) the registered person has discharged his liability towards output tax through the electronic cash ledger for an amount which is in excess of 1% of the total output tax liability, applied cumulatively, up to the said month in the current financial year; or

(e) the registered person is –

(i) Government Department; or

(ii) a Public Sector Undertaking; or

(iii)a local authority; or

(iv) a statutory body:

(f) the registered person other than a manufacture shall be exempted from the provision of this rule only in respect of goods specified under rule 31D, on which the tax has been paid by the supplier on the basis of retail sale price:”

So the intention of Government in introducing this rule 86B may be to control the business men not to involve or indulge to committing offense in evasion of tax on a collusion with their buyer/supplier. Interestingly this rule is effective only from January 2021.

Is this restriction u/r 86B legally valid without any justified reason?

As per Section 16 of GST (1)  Every registered person shall, subject to such conditions and restrictions as may be prescribed and in the manner specified in section 49, be entitled to take credit of input tax charged on any supply of goods or services or both to him which are used or intended to be used in the course or furtherance of his business and the said amount shall be credited to the electronic credit ledger of such person.

(2) Notwithstanding anything contained in this section, no registered person shall be entitled to the credit of any input tax in respect of any supply of goods or services or both to him unless,––

 (a)he is in possession of a tax invoice or debit note issued by a supplier registered under this Act, or such other tax paying documents as may be prescribed;

¹[(aa) the details of the invoice or debit note referred to in clause (a) has been furnished by the supplier in the statement of outward supplies and such details have been communicated to the recipient of such invoice or debit note in the manner specified under section 37;

(b) he has received the goods or services or both

And as per section 41 (1) Every registered person shall, subject to such conditions and restrictions as may be prescribed, be entitled to avail the credit of eligible input tax, as self-assessed, in his return and such amount shall be credited to his electronic credit ledger.

And According to Section 49 (4) The amount available in the electronic credit ledger may be used for making any payment towards output tax under this Act or under the Integrated Goods and Services Tax Act in such manner and subject to such conditions and restriction within such time as may be prescribed.

So, no restrictions on tax payer to utilise his eligible tax credit either under Section 16 of GST Act or under section 41 of GST Act or under Section 49 of GST Act.

Hence the eligible tax credit as per section 16, utilised by the recipient under section 49 is noting but the cash collected by their supplier in the form of tax.

Therefore, the restriction in utilising tax credit under Rule 86B on turnover base is not justified.

Is it correct to recover in cash under rule 86 B when no tax dues?

Recovery of tax under Section 73 or section 74 or section 74A, can be enforced in the circumstances where the tax not paid or short paid or erroneously refunded or input tax credit wrongly availed or utilized.

So, the recovery of tax either under 73 or 74 or 74A can be enforceable only in circumstances, where the tax not paid, or short payment of tax  or wrongly availed input tax credit or erroneously taken refund. Hence the recovery of additional tax in cash specified under rule 86B can not be enforced either under section 73 or under Section 74 or under section 74A of GST act, when no tax is due.

Rule 86B was introduced primarily as an anti-evasion measure to curb fake invoicing, bogus Input Tax Credit (ITC), circular trading, and situations where a recipient claims ITC based on invoices issued by suppliers who either do not pay tax or are non-genuine entities. The rule ensures that specified taxpayers discharge at least 1% of their output tax liability through the electronic cash ledger instead of utilizing ITC entirely.

The rule proceeds on a presumption that every taxpayer crossing the threshold is a potential participant in fake ITC transactions and imposes a cash-payment restriction even on genuine taxpayers who possess valid ITC. Therefore, the rule is procedural and anti-evasion in nature rather than a charging provision

Therefore, any recovery of additional tax in cash under rule 86B must be supported by substantive provisions under GST Act.

Rule 86B is procedural, not charging Provision. A rule cannot create a fresh liability beyond Act.

Rule 86B does not create a charge of tax. The charge of GST arises only under Sections 9 (CGST) and 5 (IGST). Rule 86B merely regulates the manner of discharging tax liability by restricting utilization of ITC beyond a prescribed limit. Therefore, Rule 86B is procedural in nature and cannot be used as an independent source for creating tax liability or demanding tax. And Rule 86B is a machinery/procedural provision governing utilization of input tax credit. It is neither a charging provision nor a recovery provision. Any tax demand must be supported by substantive provisions of the GST Act and cannot be established solely upon Rule 86B

The Hon’ble Himachal Pradesh High court in the case of M/s AM ENTERPRISES Vs STATE OF HIMACHAL PRADESH Dt 20 September 2024 adjudged that No demand of payment in cash, when the tax has already been paid by using Credit input available. And Rule 86B of the act it self is not backed by any statutory provision. Rule 164 enables the rule making authority to frame the Rule 86B or other rules, but  the rules must have backing in the main body of the statue. Other wise the rule would be Ultra vires.

Conclusive Opinion

Rule 86B is procedural in nature and cannot be used as an independent source for creating tax liability or demanding tax. And It is neither a charging provision nor a recovery provision. Any tax demand must be supported by substantive provisions of the GST Act and cannot be founded solely upon Rule 86B.

Hence no recovery of cash under rule 86B, when total tax is paid by using input tax credit.

Authors:

S.V.S. Raghavendra Rao, Advocate & Tax Consultant, Nellore, Andhra Pradesh, Phone: 9440275175, Email: raghuvatconsultancy@yahoo.com

S.V.S.N. Sasidhar Rao, Chartered Accountant, Nellore, Andhra Pradesh, Phone: 9490087873, Email: sasidharca1@gmail.com.