Landmark judgement by Gujarat High Court on refunds on account of inverted duty structure under GST in the case of VKC Footsteps India Pvt. Ltd. Vs. Union of India.

Gujarat High Court declared Rule 89(5) of CGST Rules ultra vires the provisions of Section 54(3) of CGST Act, which denies the refund of ‘unutilised input tax’ paid on ‘input services’ as part of ‘input tax credit’ accumulated on account of inverted duty structure.

Court held that refund of GST paid on ‘input services’ shall also be considered for the refund calculation under Rule 89(5) of CGST Rules.

High Court directed to allow the claim of the refund made by the petitioners considering the unutilised input tax credit of “input services” as part of the “net input tax credit” (Net ITC) for the purpose of calculation of the refund of the claim as per Rule 89(5) of the CGST Rules, 2017 for claiming refund under Sub-section 3 of Section 54 CGST Act, 2017.

Facts of Case

The Petitioner is engaged in the business of manufacture and supply of footwear which attracts GST at the rate of 5%. The Petitioner procures input services such as job work service, goods transport agency service etc. and inputs such as synthetic leather, PU Polyol, etc., on payment of applicable GST for use in the course of business and avails input tax credit of the GST paid thereon. Majority of the inputs and input services attract GST at the rate of 12% or 18%. Thus, GST rate paid by the Petitioner on procurement of input is higher than the rate of tax payable on their outward supply of footwear. Therefore, in spite of utilization of credit for payment of GST on outward supply, there is accumulation of unutilized credit in electronic credit ledger of the Petitioners.

Sub-section 3 of Section 54 of the CGST Act provides for refund of unutilized input tax credit where the credit is accumulated on the account of tax rate on inputs being higher than the tax rate on output supplies.

Rule 89(5) of the CGST Rules, 2017 is enacted to provide formula for determining the refund on account of inverted duty structure and an assessee is entitled to refund of the unutilized input tax credit availed during the relevant period proportionate to the turnover of inverted rated supply of goods vis-à-vis total turnover of the assessee for that period. The provision of Rule 89(5) of the CGST Rules, 2017 as originally introduced was substituted vide Notification No. 21/2018-CT dated 18.4.2018 prescribing a revised formula for determining the refund on account of inverted duty structure which was given retrospective effect from 1.7.2017 vide Notification No. 26/2018-CT dated 13.6.2018The revised formula inter alia excluded input services from the scope of ‘net input tax credit’ for computation of the refund amount under the Rule. Thus, the substituted Rule 89(5) of the CGST Rules,2017 denied refund on the input tax credit availed on input services and allow relief of refund of input tax credit availed on inputs alone.

Amended Rule 89(5) is as below.

Rule 89(5) of CGST Rules, 2017

In the case of refund on account of inverted duty structure, refund of input tax credit shall be granted as per the following formula:-

Maximum Refund Amount = {(Turnover of inverted rated supply of goods and services) x Net ITC ÷ Adjusted Total Turnover} – tax payable on such inverted rated supply of goods and services.

Explanation:- For the purposes of this sub-rule, the expressions –

(a) Net ITC shall mean input tax credit availed on inputs during the relevant period other than the input tax credit availed for which refund is claimed under sub-rules (4A) or (4B) or both; and

[(b) “Adjusted Total turnover” and “relevant period” shall have the same meaning as assigned to them in sub-rule (4).]]

Reference:

Rule 89 of CGST Rules, 2017

Section 54 of CGST Act, 2017

Arguments by Revenue

Mr. Nirzar S. Desai, the learned standing counsel for the respondent submitted that the petitions are not maintainable as Rule 89(5) of the CGST Rules only provides the mode of calculation of refund available to the assessee on account of inverted duty structure and the same is not contrary to the provisions of Sub-section 3 of Section 54 of the CGST Act in any manner because Sub-section 3 of Section 54 only provides that subject to the provisions of sub-section (10), a registered person may claim refund of any unutilised input tax credit at the end of any tax period and Proviso to Sub-section 3 of Section 54 of the CGST Act makes an embargo on the claim of the refund of unutilised input tax credit as it shall be allowed in cases other than- zero-rated supplies made without payment of tax and where the credit has accumulated on account of rate of tax on inputs being higher than the rate of tax on output supplies, except supplies of goods or services or both as may be notified by the Government on the recommendations of the GST Council.

It was submitted that Section 164 of the GST empowered the Central Government to make rules on the recommendations of the Council, by notification, for carrying out the provisions of this Act. It was submitted that this Rule making power is conferred upon the Government in the widest possible manner to make rules for carrying out the provisions of the GST Act.

It was further pointed out that Sub- section 2 of Section 164 also empowers the Government without prejudice to the generality of the provision of sub-section (1) to make rules for all or any of the matters which by CGST Act,2017 are required to be, or may be, prescribed or in respect of which provisions are to be or may be made by the Rules and sub-Section 3 of Section 164 empowers the Government to have retrospective effect of such rules. It was therefore, submitted that the Government has framed the CGST Rules, 2017 in exercise of this rule making power conferred under Section 164 of the CGST Act. In such circumstances, it was submitted that the Rule 89(5) cannot be held to be ultra vires as it only provides the method of calculating the refund on account of inverted duty structure.

Held by High Court

From the conjoint reading of the provisions of Act and Rules, it appears that by prescribing the formula in Sub-rule 5 of Rule 89 of the CGGST Rules, 2017 to exclude refund of tax paid on “input service” as part of the refund of any unutilised input tax credit is contrary to the provisions of Sub-section 3 of Section 54 of the CGST Act,2017 which provides for claim of refund of “any unutilised input tax credit”. The word “Input tax credit” is defined in Section 2(63) means the credit of input tax. The word “input tax” is defined in Section 2(62), whereas the word “input” is defined in Section 2(59) means any goods other than capital goods and “input service” as per Section 2(60) means any service used or intended to be used by a supplier. Whereas “input tax” as defined in section 2(62) means the tax charged on any supply of goods or services or both made to any registered person. Thus “input” and “input service” are both part of the “input tax” and “input tax credit”. Therefore, as per provision of sub-section 3 of Section 54 of the CGST Act,2017, the legislature has provided that registered person may claim refund of “any unutilised input tax”, therefore, by way of Rule 89(5)of the CGST Rules, 2017, such claim of the refund cannot be restricted only to “input” excluding the “input services” from the purview of “Input tax credit”. Moreover, clause (ii) of proviso to Sub-section 3 of Section 54 also refers to both supply of goods or services and not only supply of goods as per amended Rule 89(5) of the CGST, Rules

In view of the above analysis of the provisions of the Act and Rules keeping in mind scheme and object of the CGST Act, the intent of the Government by framing the Rule restricting the statutory provision cannot be the intent of law as interpreted in the Circular No. 79/53/2018-GST dated 31.12.2018 to deny the registered person refund of tax paid on “input services’ as part of refund of unutilised input tax credit.

We are of the opinion that Explanation (a) to Rule 89(5) which denies the refund of “unutilised input tax” paid on “input services” as part of “input tax credit” accumulated on account of inverted duty structure is ultra vires the provision of Section 54(3) of the CGST Act, 2017.

In view of the above, Explanation (a) to the Rule 89(5) is read down to the extent that Explanation (a) which defines “Net Input Tax Credit’ means “input tax credit” only. The said explanation (a) of Rule 89(5) of the CGST Rules is held to be contrary to the provisions of Section 54(3) of the CGST Act. In fact the Net ITC should mean “input tax credit” availed on “inputs” and “input services” as defined under the Act.

The respondents are therefore, directed to allow the claim of the refund made by the petitioners considering the unutilised input tax credit of “input services” as part of the “net input tax credit” (Net ITC) for the purpose of calculation of the refund of the claim as per Rule 89(5) of the CGST Rules,2017 for claiming refund under Sub-section 3 of Section 54 CGST Act, 2017.

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