GST UPDATE NO. 74TH ON SC DECISION IN CASE OF VKC FOOTSTEPS INDIA PVT LTD

The issue as regards inclusion of input services for the purpose of claiming refund of accumulated input tax credit on account of inverted duty structure was covered by contrary decisions of Madras High Court and Gujarat High Court. While the hon’ble Gujarat High Court declared the Rule 89(5) of the CGST Rules, 2017 restricting refund of input services under inverted duty structure as ultra vires the section 54(3) of the CGST Act, 2017 and unconstitutional but the hon’ble Madras High Court upheld the validity of Rule 89(5) of the CGST Rules, 2017. The trade and industry had their eyes on the verdict of Supreme Court on this issue and recently, the Supreme Court conceded with the view of Hon’ble Madras High Court thereby confirming the validity of Rule 89(5) of the CGST Rules, 2017. The reasoning adopted by the Hon’ble Apex Court is the subject matter of discussion of our present update. The department mainly contended that the legislature has consciously used the term ‘unutilised input tax credit’ in section 54(3) and the first proviso in order to enable refund of inputs and input services in case of accumulation in credit on account of zero-rated supplies whereas restricting the refund to the extent of input goods in case of inverted duty rate structure. It was also pleaded that the refund of taxes is neither a fundamental right nor a constitutional right and rather it is a matter of statutory prescription and can be regulated by the statue subject to conditions and limitations. It was also submitted that there is no violation of Article 14 of the Constitution of India as goods and services are altogether different and the benefits, concessions and exemptions granted to them can vary. The assessee contended that the reason for mentioning only input under clause for inverted duty ratestructure is that input services are mainly taxable at 18% and so if the input services were also required to be seen for considering the eligibility to claim refund of inverted duty rate structure, practically all assessees would claim the same. However, once an assessee utilises inputs having higher rate of GST, they become eligible for refund under inverted duty rate structure and even accumulation on account of input services should be considered for the purpose of granting refund. It was pleaded that the proviso only lays the cases when refund is admissible but the quantum of refund is to be determined from the main segment of section 54(3) using expression ‘any unutilised input tax credit’. It was also contended that Rule 89(5) originally provided for refund of ITC paid both on input goods and input services but it was amended with retrospective effect to restrict refund only to ITC availed on input goods. After the amendment in terms of the formula, the ratio of proportionate turnover is applied only to ITC availed on input goods. However, after arriving at the proportionate value, the entire amount of tax paid on the output supplies is deducted. The formula erroneously assumes that the entire output tax will be paid from ITC availed on input goods and the credit on input services will not be utilised for payment of output tax which is wrong. It was suggested that in the formula which is prescribed under Rule 89(5), while reducing the “tax payable on such inverted rated supply of goods or services” the tax payer should be allowed to first utilise the ITC accumulated on account of input services, which is otherwise not eligible for refund. The assessee further contended that the principle contained in Article 14 of the Constitution are violated by discriminating between input goods and input services. It was contended that there is no distinction between ITC on goods or services either at the time of availing or taking of the credit or at the time of utilisation of credit. Therefore, it could not have been the intention of the Parliament to differentiate between the two only at the time of refund in the case of an inverted duty structure envisaged under clause (ii) to the first proviso to section 54. It was stated that the present case is an incident of class legislation wherein the class consists of registered persons having unutilised ITC. The class comprises of the following species- (i) domestic suppliers; and (ii) exporters. The subspecies are (i) input goods ; and (ii) input services. Hence, discrimination is not possible as ITC comes within the fold of electronic credit ledger and micro distinction cannot be carried out. However, the Hon’ble High Court held that the precedents of this Court provide abundant justification for the fundamental principle that a discriminatory provision under tax legislation is not per se invalid. A cause of invalidity arises where equals are treated as unequally and unequals are treated as equals. Both under the Constitution and the CGST Act, goods and services and input goods and input services are not treated as one and the same and they are distinct species. It was held that the Parliament is entitled to make policy choices for granting exemptions, concessions and benefits on such terms as it considers appropriate. The hon’ble High Court interpreted the provision contained in section 54(3) of the CGST Act, 2017 and held that the expression used “in cases other than” is clear indicator that clauses (i) and (ii) are restrictive and not conditions of eligibility. The High Court stated that the Explanation 1 indicates that with reference to exports, the legislature has brought within its fold ITC on input goods and input services. In contrast, in the case of domestic supplies it has contemplated refund of unutilized ITC “as provided under sub-section (3). The Explanation is a clear indicator that in respect of domestic supplies, it is only unutilized credit which has accumulated on the rate of tax on input goods being higher than the rate of output supplies of which a refund can be allowed. Clause (ii) of the first proviso in other words is a restriction and not a mere condition of eligibility. The High Court also refused to refer circular dated 31st December, 2018 wherein it was clarified that even if one input in the basket of inputs of a manufacturer results in inverted duty structure, whole of accumulated ITC can be availed. It was pleaded by the assessee that similar analogy is to be applied for including input services also. However, the high court held that it is not possible for the Court to restrict the ambit of clause (ii) of the proviso, based on a circular which has been issued by the Ministry of Finance on 31 December 2018. Reading the expression ‘input’ to cover input goods and input services would lead to recognising an entitlement to refund, beyond what was contemplated by Parliament. The assessee also challenged the validity of Rule 89(5) of the CGST Rules in exercise of the rule-making power under section 164 of the CGST Act, 2017. It was urged that the rulemaking power under section 164 of the CGST Act can only be used if specific authority for making the rule is granted by the particular section of the CGST Act. It was pleaded that various sections expressly employ the word “prescribed” to indicate that rules may be formulated by way of delegated legislation for that particular section. However, the high court rejected this submission on the grounds that a statutory provision may not visualise every eventuality which may arise in implementing the provisions of the Act. Hence, it is open to the rule making authority to frame rules, so long as they are consistent with the provisions of the parent enactment. It was held that the powers under Section 164 are not restricted to only those sections which grant specific authority to frame rules. The assessee also questioned the validity of the formula prescribed in Rule 89(5) of the CGST Rules, 2017. It has been submitted that the formula prescribed in Rule 89(5) which seeks to grant refund of the ITC accumulated on account of input goods, is inherently flawed and will lead to anomalous results. The formula prescribes that from the quantum of ITC on input goods, the tax payable by the supplier on inverted rated supplies of goods and services is reduced to arrive at the quantum of credit accumulating on account of inverted rate structure, which is eligible for refund. The submission of assessee is that in the formula prescribed under Rule 89(5), while reducing “tax payable on such inverted rated supplies of goods or services”, the taxpayer should first be allowed to utilize the ITC availed on input services which is otherwise not eligible for refund. If the formula prescribed under Rule 89(5) is not construed in the above manner, it will lead to inequality between taxpayers dealing with outward supplies involving only an inverted rate structure (single line of goods) and taxpayers dealing with outward supplies having both an inverted rate structure and those not having inverted rate structure. The discrimination occurs due to the fact that where a registered person with a single product with an inverted duty structure is neither able to use the unutilized ITC for the payment of tax on output supply nor is allowed a refund. On the other hand, a registered person with products involving an inverted duty structure and otherwise, is in a position to utilise the ITC availed on input services for payment of tax on turnover not having an inverted rate structure. The assessee pointed that the tax payable on output supplies would have been discharged by utilising the ITC on input goods and input services but the formula under Rule 89(5) presumes that nothing has been utilised from the ITC on input services and the entire tax on output supplies is discharged by utilising ITC on input goods which is wrong. As a solution to the said anomaly, the counsel for the assessee has proposed that for the purposes of Rule 89(5), an assumption must be made that ITC accumulated on account of input services, which is not refundable under Section 54(3), is used for discharging the output tax payable on inverted rate supply of goods and services. The remaining balance of output tax, must be then presumed to have been discharged from the ITC accumulated on account of input goods and it is only this remaining balance that should be deducted from the formula to calculate the refund. It was also urged that the formula in Rule 89(5) creates a distinction between suppliers of services having a higher component of input goods than input services as against suppliers of services having a higher component of input services than input goods.The hon’ble Apex Court conceded with the fact that the formula is favourable to revenue as it reduces the refund granted. However, it also held that suggestion put forth by the counsel for the assessee will tilt the balance entirely in favour of the assessee thereby leading to higher refund. Consequently, a possible solution can be that the Rule itself provides for a statutory assumption or a deeming fiction of utilisation of certain percentage of ITC on input services towards the payment of output tax for the purpose of calculation of refund. It was concluded that an anomaly in the formula per se cannot result in invalidation of Rule 89(5) which has been framed in exercise of the power of delegated legislation. Resultantly, the Supreme court held that in the present case, the formula is not ambiguous in nature or unworkable, nor is it opposed to the intent of the legislature in granting limited refund on accumulation of unutilised ITC. It is merely the case that the practical effect of the formula might result in certain inequities. The suggestion by the counsel for the assessee that this court should prescribe an order of utilisation of credit for the purpose of computation of refund would take this court down the path of recrafting the formula and walk into the shoes of the executive or the legislature, which is impermissible. Accordingly, the Apex court refrained from declaring any amendment in the formula prescribed in Rule 89(5) of the CGST Rules, 2017. However, given the anomalies pointed out by the assessees, the high court strongly urged the GST Council to reconsider the formula and take a policy decision regarding the same. Therefore, the decision given by the Madras High Court was affirmed. There are instances wherein the favourable decision rendered by High Court is being reversed by the Apex Court as in the present case. The consequences of such a binding judicial precedent are very adverse as number of assessees had started claiming refund of input services, particularly in the jurisdiction of Gujarat under inverted duty rate structure. This decision will be the reason for rejection of such refund claims and recovery of refund already sanctioned to the assessees by placing reliance on the decision given by Gujarat High Court.

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GST UPDATE NO. 74TH ON SC DECISION IN CASE OF VKC FOOTSTEPS INDIA PVT LTD

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