Buyer’s ITC & Supplier’s Default: Protection Proposal Before GST Council

Buyer’s Input Tax Credit and Supplier’s Default: Protection Proposal Before GST Council

Few provisions of the CGST Act, 2017 have produced as much avoidable litigation as Section 16(2)(c). A registered buyer pays the full invoice value to the supplier, tax included, receives the goods, holds a valid invoice and files returns on time. Two or three years later, a notice in Form DRC-01A arrives proposing reversal of the credit because the supplier never deposited that tax with the Government. The buyer, in other words, is asked to pay the same tax twice, with interest, for a default it neither committed nor could have prevented. Every practitioner who handles GST assessments has a file, and usually several, that fits this description exactly.

That may finally be about to change. In the second week of July 2026, it was widely reported that the Law Committee of the GST Council has cleared a proposal to protect the buyer’s input tax credit where the supplier defaults on payment of tax, after the Fitment Committee had earlier examined it. The proposal is expected to be placed before the GST Council at its next meeting. I should say at the outset, and I return to this point later, that as on the date of writing this remains a committee-level clearance reported in the press; it has not yet been recommended by the Council, and it is not yet law. Nothing in this article should be acted upon until the Council’s official press release and the consequent statutory amendments are issued.

The statutory position as it stands

Section 16(2) sets out cumulative conditions for availing credit, and it is worth seeing in one place how many of them turn on the supplier’s conduct rather than the buyer’s.

Clause (aa), inserted with effect from 1st January 2022, made GSTR-2B the practical gateway to credit: if the supplier does not report the invoice, the credit simply does not arrive. Clause (c) goes a step further. Even where the invoice is duly reported and appears in the recipient’s GSTR-2B, the credit remains conditional on the tax having actually been paid to the Government. Section 41(2) reinforces this by requiring reversal, with interest, where the supplier has not paid the tax, and Rule 37A operationalises one specific version of it, reversal by 30th November of the following year where the supplier filed GSTR-1 but defaulted on the corresponding GSTR-3B. The 180-day payment rule under the second proviso to Section 16(2), read with Rule 37, is a separate discipline altogether and deals with the buyer’s failure to pay the supplier; it is not affected by the present proposal.

The department’s position in scrutiny and audit has been straightforwardly textual: clause (c) says what it says, and where the supplier has not paid, the recipient’s credit is not admissible. The recipient’s bona fides, the banking trail, the e-way bills, the receipt of goods, all of it becomes material the buyer must marshal in its defence rather than a shield the statute provides.

What the courts have said

The judicial trend has run against mechanical reversal for some years now. The Delhi High Court, dealing with the analogous provision in Section 9(2)(g) of the Delhi VAT Act in Arise India Limited, read the provision down so as not to penalise bona fide purchasers who had no means of knowing the seller’s default, and the Special Leave Petition against that decision was dismissed. The Madras High Court in D.Y. Beathel Enterprises set aside orders reversing the buyers’ credit where the department had made no serious attempt to proceed against the defaulting sellers first. The Calcutta High Court in Suncraft Energy held that reversal at the recipient’s end, without any inquiry against the supplier, should be reserved for exceptional situations such as collusion or a missing supplier, and the department’s challenge to that decision did not succeed before the Supreme Court. Readers should verify the citations and the current status of these decisions on the respective High Court websites and on digiscr.sci.gov.in before placing reliance on them in proceedings.

Yet none of this stopped the flow of notices, because the statutory text remained unamended and field formations are not bound to follow a High Court ruling of another State. The result has been an enormous volume of Section 73 proceedings, now Section 74A for later periods, in which substantially the same facts are litigated again and again. It is this dead weight that the present proposal is designed to remove.

The proposal, as reported

The contours reported are these. A buyer’s input tax credit would be protected notwithstanding the supplier’s failure to deposit the tax, provided two conditions are met. First, the supplier must have reported the invoice, so that it is reflected in the recipient’s GSTR-2B. Second, the buyer must be able to establish that payment of the invoice, including the GST component, was made through banking channels or other prescribed payment documents. Where both conditions hold, the tax authorities would pursue recovery from the defaulting supplier, using the machinery already available to them under Sections 73/74A, 79 and allied provisions, instead of denying credit to the purchaser.

Structurally, giving effect to this would require an amendment to, or a proviso carving out relief from, Section 16(2)(c), with consequential changes to Section 41(2) and Rule 37A. Whether the Council recommends a retrospective or purely prospective application, and what it does with the large body of pending demands and appeals on this very issue, will matter as much as the principle itself. The precedent of sub-sections (5) and (6) of Section 16, inserted by the Finance (No. 2) Act, 2024 to regularise time-barred credit retrospectively, shows that the Council is willing to legislate backwards where the equities demand it; whether it does so here remains to be seen.

Two limitations are worth anticipating. The protection, as described, is for genuine transactions evidenced by a banking trail. Cases involving fake invoicing, circular trading or collusion between the parties will remain fully exposed, and rightly so; clause (c) was inserted precisely because of the volume of fraudulent credit the system encountered in its early years. Equally, transactions settled otherwise than through banking channels, in cash, by book adjustment or barter, may fall outside the protection unless the “other prescribed payment documents” limb is drafted generously. The drafting of that phrase will repay careful reading when the amendment appears.

What businesses should do in the interim

Until the amendment is enacted and notified, the law remains what it is, and I would caution clients against treating press reports as a reason to relax vendor discipline. If anything, the reported conditions tell us exactly what the department will ask for even under the new regime: an invoice reflected in GSTR-2B and a clean banking trail for the full invoice value including tax. Both are within the buyer’s control today. Monthly reconciliation of GSTR-2B, active review of the Invoice Management System dashboard rather than passive deemed acceptance, payment of every material invoice through banking channels, and a retrievable file of invoices, payment proofs, transport documents and contracts remain the entire defence, both under the current law and, evidently, under the proposed one.

For matters already under dispute, the proposal is a reason to keep proceedings alive rather than concede. A demand under Section 73 for supplier default, where the buyer’s payment trail is clean, is worth contesting on the strength of the judicial position discussed above, and an eventual amendment, particularly if given any retrospective operation or accompanied by a regularisation scheme, may resolve pending matters favourably. [Placeholder: anonymised client anecdote — a Section 73 demand for FY 2019-20 arising purely from a supplier’s GSTR-3B default, current stage of proceedings, and how the documentation assembled at the procurement stage shaped the reply.]

Concluding view

The principle that a tax collected by one person and not deposited should be recovered from that person, and not from the counterparty who has already borne it, is so elementary that it is remarkable it has taken nine years of the GST regime to reach the Council’s table. The reported proposal does not abandon the anti-evasion architecture; it redirects it at the defaulter, where it always belonged, and rewards precisely the behaviour the system has been trying to encourage, invoice reporting and banking-channel payment. If the Council approves it at its forthcoming meeting and the amendment is drafted with the same clarity as the principle, it will rank among the most significant ease-of-doing-business corrections since the regime began. Until the official press release of the GST Council is issued and the amendment receives legislative form, however, it remains a proposal, and taxpayers should plan on the law as it stands.

Sources

Central Goods and Services Tax Act, 2017, Sections 16, 41, 73, 74A and 79, and the Central Goods and Services Tax Rules, 2017, Rules 37 and 37A, as available on the CBIC-GST portal (cbic-gst.gov.in); GST Council press releases and meeting records (gstcouncil.gov.in); Press Information Bureau releases (pib.gov.in); and the GST common portal (gst.gov.in) for GSTR-2B and Invoice Management System functionality. The status of the proposal, being at committee stage, is as reported in the financial press during July 2026 and stands to be confirmed by the official press release of the GST Council when issued; readers should rely on the official release and the amending legislation, and not on this article, for the final position.

******

Disclaimer: This article is for general informational and educational purposes only and does not constitute professional advice or a legal opinion. The proposal discussed herein had not been approved by the GST Council or enacted into law as on the date of writing, and the position stated is based on the statutory provisions in force and publicly reported developments as on that date. Readers are advised to verify the current legal position from official sources and to consult their professional advisor before acting on any matter discussed herein. Neither the author nor the firm accepts any liability for any loss arising from reliance on this article.