Refund of input services not available under inverted duty structure – Madras High court.
Recently a ruling has been passed by Madras High court wherein it has been held that 54(3)(ii) does not infringe Article 14 and thus refund of only inputs is available under inverted duty structure (“IDV”) (section 54(3)(ii). This judgement is in contrast to the judgement of Gujarat high court in case of VKC Footsteps.
The Judgement of VKC Footsteps was that rule 89(5) which denies the refund of input services accumulated on account of inverted duty structure is ultra vires the provision of Section 54(3) of the CGST Act, 2017.
While the judgement of Madras high court in case of Tvl. Transtonnelstroy afcons joint venture vs Union of India, it has been held that
a. Section 54(3)(ii) does not infringe Article 14.
b. Refund is a statutory right and the extension of the benefit of refund only to the unutilised credit that accumulates on account of the rate of tax on input goods being higher than the rate of tax on output supplies by excluding unutilised input tax credit that accumulated on account of input services is a valid classification and a valid exercise of legislative power.
c. Therefore, there is no necessity to adopt the interpretive device of reading down so as to save the constitutionality of Section 54(3)(ii).
d. Section 54(3)(ii) curtails a refund claim to the unutilised credit that accumulates only on account of the rate of tax on input goods being higher than the rate of tax on output supplies.
e. Rule 89(5) is not ultra vires to section 54(3)(ii). As a corollary, Rule 89(5) of the CGST Rules, as amended, is in conformity with Section 54(3)(ii). (contrary to VKC Footsteps Judgement)
Let’s have a look at Section 54(3) to understand the arguments covered next…
Section 54 (3) reads as under:
‘(3) 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.
Provided that no refund of unutilised input tax credit shall be allowed in cases other than-
(i) zero rated supplies made without payment of tax;
(ii) where the credit has accumulated on account of rate of tax on inputs being higher than the rate of tax on output supplies (other than nil rated or fully exempt supplies), except supplies of goods or services or both as may be notified by the Government on the recommendations of the Council.’
Some interesting Takeaways and arguments from Madras high court decision.
1. Role of proviso and substantial enactment – On the question that while substantial enactment section 54(3) allows refund of any unutilized input tax credit that is input tax credit of input, input services and capital goods while the provisio section 54(3)(ii) allows refund where the credit has accumulated only on account of rate of tax on inputs being higher than the rate of tax on output supplies.
So per petitioners proviso does not curtail the entitlement to the entire Input tax credit. Infact proviso only states eligibility condition and once the eligibility condition is satisfied by registered perison, claim to entire ITC is allowed by section 54(3).
In response to this in the analysis part of the judgment, the high court held that the “proviso to Section 54(3) does not merely set out the two cases in which registered persons become eligible for a refund of unutilised input tax credit. The proviso performs the larger function of also limiting the entitlement of refund to credit that accumulates as a result of the rate of tax on input goods being higher than the rate of tax on output supplies”. The high court also held that “Section 54(3)(ii) qualifies the enacting clause by also limiting the source/type and, consequently, quantity of unutilised input tax credit in respect of which refund is permissible.
A interesting analysis made by high court on above matter was that if the contention of the petitioners that provision only states eligibility condition then words “credit accumulation on account of” would be rendered otiose or redundant and then provisio would have been “where the rate of tax on inputs being higher than the rate of tax on output supplies”.
The landmark case of S. Sundaram Pillai v. V.R. Pattabiraman, (1985) 1 SCC 591 (Sundaram Pillai), was referred in relation to rule of proviso with reference to substantial enactment.
2. Rule 89(5) whether ultra vires or intra vires – In para no. 45, High court held that “In our view, Rule 89(5), as amended, is fully in line with Section 54(3)(ii). In fact, if the words input services are read into Rule 89(5), in our opinion, Rule 89(5) become ultra vires Section 54(3)(ii).” Thus, contradictory judgment to VKC Footsteps judgment.
3. The constitutional challenge to meaning of the term inputs in proviso .i.e. Section 54(3)(ii) – On the question that whether the word “inputs” in Section 54(3)(ii) should be read in its common parlance meaning even after definition of word input in statue so as not to render Section 54(3)(ii) as violative of article 14 and thus word inputs to include input services as well. The high court held that
“In our view, there are multiple factors that militate against reading the word “inputs” against the meaning per definition. The first is that the definition expressly excludes capital goods, whereas if the common parlance meaning, is adopted, capital goods would be included. The second reason Section 54 contains terms “inputs” and “input services” in other sub-sections of Section 54 like in section 54(8) and explanation to section 54.
Hence, we conclude that both the statutory definition and the context point in the same direction, namely, that the word “inputs” encompasses all input goods, other than capital goods, and excludes input services”.
4. Nature of refund under section 54(3)(ii) – High court held that “This is clearly in the nature of a benefit or concession and cannot be equated with a refund claim for excessive taxes that were paid inadvertently or any other claim for a debt due to the registered person from the tax authorities.”
5. Violation of Article 14 or not – The high court held that non-conferment of the right of refund to the unutilised input tax credit from the procurement of input services does not violates Article 14. Why not violative.?? Court in its analysis part held that “we find that, under the GST laws, goods and services are treated similarly in certain respects but differently in other respects. Even with regard to rate of tax, almost all services attract a uniform rate of 18%, whereas goods are taxed at rates that vary considerably”. Hence such differentiation justified by High court.
1. This judgment is in a contradictory to VKC footsteps. However, both are different in the sense that in current Madras high court judgement has analyzed section 54(3), 54(3)(ii) and Rule 89(5) while Gujarat high court has analyzed the amended Rule 89(5) with reference to section 54(3) only and not 54(3)(ii) in detail. In VKC Footsteps, focus of court was on output supplies in 54(3)(ii) and not preceding part of proviso. Thus, this analysis was bound to happen.
2. Appellants were true that contention of Act was to provide refund of any unutilized ITC through substantial enactment of section 54(3) thus including inputs, input services and capital goods since 54(3)(i) provides refund of complete ITC and thus 54(3)(ii) is a eligibility criteria only and accordingly inputs should be read in common parlance. Appellants also argued that expression “in the cases” in the proviso to Section 54(3) indicates that the proviso is intended to specify the classes of registered persons who would be entitled to a refund of unutilized input tax credit and not to curtail the quantum or type of unutilized input tax credit in respect of which refund may be claimed. However, against this court held that proviso can limit substantial enactment by referring to landmark judgement of S. Sundaram Pillai (1985). It will be interesting to see the analysis of this issue in Apex court.
3. On analysis of this decision, a question does arise that since ITC being a vested right and in case of IDV, whether benefit of unutilized ITC due to IDV through refund granted to one person and not granted to another person and both of whom are supplier of goods or services and thus a differentiation created. Whether such differentiation holds ground as justified by Madras High court judgment.
4. However, on the basis of GST framework this is a clear cut differentiation in refund between goods and services and goes against the spirit of GST law .i.e. seamless flow of credit since refund not granted for input services and capital goods is surely a permanent blockage of working capital. On application of this judgment significant amount of working capital gets not only blocked but will not have any use in business.
5. Many more high courts are about to deliver judgment on this issue as writ petitions are pending before Patna High court, Rajasthan High court and more will be filed after current judgement.
This Judgment has opened a long battle for Refund of ITC in case of inverted duty structure and has put taxpayers in a unfavorable situation.
Thus, GST council should come out with amendment to retrospective effect else revenue will use such judgments as a measure to deny refund of ITC availed but still not utilized or else this issue will be settled by supreme court in future.
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