Section 16(2)(c) of CGST Act: A Constitutional Quagmire & Bona Fide Purchaser’s ‘Catch-22’

Introduction

The Goods and Services Tax (GST) regime, introduced as a transformative indirect tax reform, was built on the foundational principle of a seamless flow of input tax credit (ITC) to prevent the cascading effect of taxes. At the heart of this mechanism lies Section 16 of the Central Goods and Services Tax Act, 2017 (CGST Act), which governs the eligibility and conditions for availing ITC. However, one of its sub-clauses, Section 16(2)(c), has become the epicentre of a constitutional storm. This provision mandates that for a recipient to claim ITC, the tax charged on the supply must have been “actually paid” to the Government by the supplier. While ostensibly a measure to curb tax evasion, this condition has ensnared countless bona fide purchasers in a statutory ‘Catch-22′, forcing them to bear the consequences of their suppliers’ defaults and sparking a nationwide debate on its constitutional validity.

The Statutory Paradox: A ‘Catch-22’ for the Compliant

The legal framework of Section 16 creates a paradoxical situation for a registered person. The second proviso to Section 16(2) issues a positive command: the recipient must pay the supplier the value of the goods or services, including the tax amount, within 180 days from the date of the invoice. Failure to comply results in the mandatory reversal of ITC availed, along with interest. The law thus compels the recipient to transfer the tax component to the supplier.

Within the context of GST litigation, the Second Proviso to Section 16(2) of the CGST Act acts as a mandatory command that triggers the legal “trap” for a petitioner. This provision stipulates that a registered recipient must pay the supplier the value of the goods or services, along with the tax charged, within 180 days from the date of the invoice.

The Statutory Mechanism and the “Catch-22”

The Command: The law issues a positive instruction to the petitioner to part with the tax amount and hand it over to the supplier within the 180-day window. This is not an option but a statutory obligation to secure the ITC.

The Penalty for Disobedience: Failure to comply with this 180-day payment rule results in a mandatory reversal of Input Tax Credit (ITC) along with interest, effectively penalizing the recipient for delayed payment to the supplier.

The Contradiction: While the Second Proviso compels the petitioner to pay the supplier to keep their ITC, Section 16(2)(c) simultaneously threatens to snatch that credit away if the supplier subsequently fails to deposit that very payment into the government treasury. This creates an inescapable legal dilemma, a true ‘Catch-22’, where compliance with one part of the law exposes the taxpayer to punitive action under another, despite their best efforts.

Discharge of Liability: Legal arguments assert that by complying with this 180-day rule, a bona fide petitioner has fully discharged their liability. Once the payment is made, the petitioner is considered functus officio (their task is performed) regarding that tax amount. They have fulfilled their part of the statutory bargain.

The 180-day condition effectively forces the recipient to trust the supplier as the State’s “collection agent.” Because the GST portal does not allow a buyer to pay the government directly, the law creates an “impossible demand” by making the recipient a guarantor for the supplier’s honesty after the 180-day payment is made. Courts, such as the Hon’ble Tripura High Court in M/s Sahil Enterprises vs. Union of India, have noted that when a buyer fulfills this 180-day obligation, denying them ITC due to the seller’s default is a violation of the Doctrine of Proportionality. This is because the recipient has no legal option but to pay the supplier to satisfy the statute, yet possesses no “police power” to ensure the supplier forwards that money to the State.

The Doctrine of Impossibility: Lex Non Cogit Ad Impossibilia

A cornerstone of the challenge against Section 16(2)(c) is the legal maxim lex non cogit ad impossibilia—the law does not compel a man to do that which he cannot possibly perform. The provision effectively makes the recipient a guarantor of the supplier’s fiscal honesty, a role for which the recipient has no legal authority or practical capability. A purchasing dealer lacks the statutory power to audit the supplier’s accounts, inspect their tax filings, or compel them to deposit tax. Once the recipient has paid the full invoice value, including GST, to the supplier through legitimate banking channels, they are functus officio.

This principle has been judicially recognized. In the context of the erstwhile VAT regime, the Hon’ble Delhi High Court in Arise India Limited vs. Commissioner of Trade and Taxes, a decision upheld by the Supreme Court, observed that an innocent buyer cannot be denied ITC if the seller collected tax but failed to deposit it, absent any collusion. The Court deemed the condition to ensure the seller’s compliance as “unreasonable and unrealistic.” This sentiment was echoed in Quest Merchandising India Pvt. Ltd. vs. Commissioner of Trade & Taxes, where the Court found such a condition impossible to perform, thereby rendering the denial of credit arbitrary.

A Violation of Fundamental Rights

The enforcement of Section 16(2)(c) against bona fide purchasers is being challenged as a violation of fundamental rights guaranteed by the Constitution of India.

First, it is assailed as being violative of Article 14, which guarantees equality before the law. The provision fails to create an “intelligible differentia” between a bona fide purchaser who has diligently fulfilled all statutory obligations within their control and a fraudulent purchaser who has colluded with the supplier to evade tax. By treating both on the same footing, the provision is manifestly arbitrary.

Second, it imposes an unreasonable restriction on the right to carry on trade or business under Article 19(1)(g). ITC is the lifeblood of the GST system, and its arbitrary denial severely depletes a business’s working capital, leading to a cascading tax effect that the GST regime was designed to eliminate. This creates an unsustainable business environment, infringing upon the fundamental right to trade.

Third, it is argued that ITC, once the conditions within the recipient’s control are met (possession of invoice, receipt of goods, payment to supplier), becomes a vested right, equivalent to “property” under Article 300A. Depriving a taxpayer of this vested right due to the unilateral default of a third party, over whom they have no control, amounts to an unconstitutional expropriation of property without the due process of law.

Fourth, the provision fails the test of proportionality. While the state has a legitimate interest in preventing tax evasion, the means employed by Section 16(2)(c) are disproportionate to the end sought. It places an undue and impossible burden on the recipient, far exceeding what is necessary to achieve the objective, especially when other robust recovery mechanisms exist against the defaulting supplier.

The Supplier as State’s Agent and the Peril of Double Taxation

A compelling argument advanced is that a supplier registered under the CGST Act functions as a collection agent for the State. The Government, by granting a GSTIN, authorizes the supplier to collect tax on its behalf. If this designated agent misappropriates the funds collected, the principal (the State) cannot demand a second payment from the innocent taxpayer who has already discharged their liability by paying the agent. The State’s remedy lies in initiating recovery proceedings against its defaulting agent, not in penalizing the compliant buyer.

Furthermore, the mechanical application of Section 16(2)(c) leads to double taxation and unjust enrichment of the State. The Revenue authorities retain the right to recover the unpaid tax from the defaulting supplier under Section 73 or 74 of the CGST Act, while simultaneously recovering the same amount from the recipient by reversing their ITC. The State cannot be permitted to enrich itself twice for the same taxable event at the expense of a private citizen. The enforcement of Section 16(2)(c) without proving collusion often leads to double taxation and unjust enrichment of the State. Critics argue this creates an environment of “Tax Terrorism” where honest businesses pay for the State’s inability to monitor its own registered dealers. For a writ petition to succeed, the focus must remain on the buyer’s bona fide intent, the doctrine of impossibility, and the requirement for the State to proceed against the actual defaulter first.

The Evolving Judicial Precedent

The constitutionality of Section 16(2)(c) has resulted in a fractured judicial landscape, with various High Courts offering divergent interpretations.

The Hon’ble Madras High Court in DY Beathel Enterprises vs. State Tax Officer and the Hon’ble Calcutta High Court in Suncraft Energy Private Limited vs. The Assistant Commissioner of State Tax have championed the “recover first” doctrine. These courts have held that before reversing ITC from the recipient, the Revenue must first exhaust all recovery remedies against the defaulting supplier. The demand against the buyer is unsustainable without demonstrating that recovery from the seller is impossible.

In a significant ruling, the Hon’ble Tripura High Court in M/s Sahil Enterprises vs. Union of India held that while the provision is constitutionally valid, it must be “read down” to protect bona fide taxpayers. The denial of ITC should be restricted to transactions that are non-bona fide or collusive in nature. This aligns with the principles laid down by the Supreme Court in the context of the DVAT Act in Commissioner of Trade & Taxes, Delhi v. M/s Shanti Kiran India Pvt. Ltd., where the Apex Court protected bona fide purchasers from the sins of their suppliers.

Conversely, some High Courts, notably the Kerala High Court, have upheld the constitutionality of the provision, viewing it as a necessary condition for availing the concession of ITC. However, the Gauhati High Court has recently struck down similar provisions, finding them to impose an unreasonable burden on genuine purchasers. This conflict was acknowledged by the Hon’ble Bombay High Court in Christie’s India Private Limited Versus Union of India And Ors., where it issued notice to the Attorney General to address the vires of the provision, underscoring the unsettled nature of this critical legal issue.

My interpretation….The statutory framework of the GST regime creates a systemic “Catch-22” that subverts the principle of fairness by penalizing a bona fide buyer for fulfilling their legal obligations. While the Second Proviso to Section 16(2) issues a mandatory command to pay the supplier within 180 days—threatening ITC reversal and interest for disobedience—Section 16(2)(c) simultaneously creates a punitive trap that snatches away that credit if the supplier, acting as the State’s authorized collection agent, fails to remit the tax. This results in “Double Dipping” and Unjust Enrichment of the State, as the Revenue seeks to recover the same tax twice—once from the supplier through its potent recovery powers and once from the compliant buyer through ITC reversal. Legally, this contradicts the Doctrine of Impossibility (Lex Non Cogit Ad Impossibilia), as a purchaser has no statutory “police power” to audit a seller’s internal filings, and as held by the Supreme Court in Shanti Kiran (2025), an innocent taxpayer cannot be made to suffer for the “fiscal delinquency” of a third party over whom they exercise no administrative control.

Conclusion

Section 16(2)(c) of the CGST Act, 2017, in its current form, places an inequitable and impossible burden on honest taxpayers. It subverts the law of agency, violates fundamental rights, and leads to the unjust enrichment of the State. While the legislative intent to safeguard revenue is paramount, the mechanism employed penalizes the compliant for the crimes of the non-compliant, fostering a climate of tax uncertainty. The judiciary has, in a majority of cases, leaned in favour of the bona fide purchaser by reading down the provision or mandating that the Revenue first pursue the actual defaulter. A definitive pronouncement from the Hon’ble Supreme Court on the constitutional validity of this provision is imperative to settle the law and restore the promise of a seamless and fair input tax credit system, which remains the cornerstone of the Goods and Services Tax regime.