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Introduction
In a long-contested dispute of whether the Input Tax Credit (ITC) should be denied to the purchaser on the sole reason that the supplier failed to deposit GST, the Gujarat High Court has pronounced its significant ruling in Maruti Enterprise v. Union of India. In its ruling, the High Court has upheld the validity of Section 16(2)(c) of the Central Goods and Services Tax (CGST) Act; however, the court has also sounded a loud warning to the Government that this predicament faced by bona fide purchasers must be addressed by the legislature, and a more robust, technology-driven compliance mechanism must be implemented.
This blog examines the judgment in detail and then offers a considered opinion on the steps the Government can take.
Background and Facts
The case arose out of a cluster of writ petitions filed before the Gujarat High Court by purchasing dealers who had suffered denial of ITC on the ground that their respective suppliers had not deposited GST with the Government. The petitioners had satisfied every other condition under Section 16(2) of the CGST Act, as per clause a, they held valid invoices, as per clause aa, the supplies were reflected in GSTR-2A and GSTR-2B, as per clause b, they had actually received the goods or services, and as per clause ba, no restrictions had been flagged under Section 38. The ITC was denied solely on the non-fulfilment of Section 16(2)(c), a condition entirely outside the purchaser's control.
Petitioners Arguments
Petitioners' main argument was that the CGST Act creates a mechanical, GSTIN-linked system in which the purchasing dealer has no access to a supplier's GSTR-3B (the return through which tax is actually paid). As per Rule 20 of the CGST Rules, the purchasing dealer only has access to GSTR-2A and GSTR-2B, which are auto-populated from the supplier's GSTR-1. The petitioners submitted that there is no statutory mechanism for a purchaser to verify a supplier's actual tax payment. Compelling the purchaser to ensure the payment of the supplier, or otherwise suffer consequences, is an impossibility in law (lex non cogit ad impossibilia).
The petitioners argued that clauses (a), (aa), (b), and (ba) of Section 16(2) collectively establish the genuineness of a transaction. By the time clause (c) is triggered, the transaction has already been certified as genuine by the statute itself. Therefore, clause c actually penalises a bona fide purchaser for a third party's default, which is an act completely outside the scope of the purchaser. It was argued that this amounts to discrimination on grounds of hostility under Article 14, since it treats honest and dishonest purchasers alike.
The petitioners also relied on the Delhi High Court's decision in On Quest Merchandising India Pvt. Ltd., Suvasini Charitable Trust, Arise India Limited, Vinayak Trexim, K.R. Anand, Aparici Ceramica, Arun Jain (HUF), Damson Technologies Pvt. Ltd., Solvochem, M/s. Meenu Trading Co., & Mahan Polymers Versus Government of NCT of Delhi & Ors. & Commissioner of Trade & Taxes, Delhi And Ors. - 2017 (10) TMI 1020 - DELHI HIGH COURT, which had read down an identical provision (Section 9(2)(g) of the DVAT Act), and the Supreme Court's affirmation thereof in The Commissioner Trade And Tax Delhi Versus M/s. Shanti Kiran India (P) Ltd. - 2025 (10) TMI 607 - SC Order.
Another argument by the petitioners was that denying ITC in this regard would amount to double taxation. The purchaser first pays the tax to the supplier. Then the government recovers it from the purchaser, which is contrary to the very objective of the GST framework: to eliminate such cascading taxation.
The Revenue's Arguments
The Revenue was represented by Advocate General Mr. Kamal Trivedi, and argued that ITC is a statutory concession, not a vested constitutional right. Therefore, conditions attached to such a statutory concession must be strictly complied with.
The Revenue heavily relied upon the interplay between Section 16(2)(c) with Section 41(2) of the CGST Act (as substituted by the Finance Act, 2022) and Rule 37A of the CGST Rules, 2017. Section 41(2) says that if a supplier defaults on depositing tax, the purchaser must reverse the ITC claimed, along with interest. Crucially, however, the proviso to Section 41(2) allows the purchaser to avail of the reversed ITC once the supplier has paid tax. Rule 37A, introduced on December 26, 2022, gives purchasers a grace period until November 30 of the following financial year to reverse ITC, with interest accruing only if they miss this deadline. Revenue argued that the provisions, therefore, are very reasonable, purchaser-friendly, and do not unjustly enrich the government.
The Revenue also distinguished the GST regime from the VAT regime under which On Quest Merchandising was decided. Revenue argued that, unlike VAT, GST allows cross-state border ITC through the IGST mechanism. This mechanism is codified in Section 53 of the CGST Act, which requires the originating state to transfer funds to the destination state equal to the credit utilised. If a supplier defaults and the purchaser is still allowed ITC, the originating state is forced to transfer money it never received, causing systemic fiscal collapse. The Revenue also relied on Section 155 of the CGST Act, which places the burden of proving ITC eligibility on the purchaser, a provision conspicuously absent from the DVAT Act.
The Court's Judgement
On all issues, the Gujarat High Court ruled in favour of the revenue.
Constitutional Validity- The High Court was persuaded by the Revenue's arguments and also referred to the Statement of Objects and Reasons of the CGST Act. It held that Section 16(2) merely gives statutory form to this foundational design, and hence it is not arbitrary and has a clear legislative purpose.
Reading-down Section 16(2)- The Court, in its judgment, declined to agree with the approach of the Tripura High Court in the matter of M/s. Sahil Enterprises Versus Union of India, through its Secretary, Government of India, Ministry of Finance, Department of Revenue, New Delhi., Commissioner, Central Goods & Services Tax, Tripura Assistant Commissioner, Tripura M/s. Sentu Dey, Represented by its Proprietor Sri Sentu Dey, Bairagi Bazar, Jumerdhepha. - 2026 (1) TMI 385 - TRIPURA HIGH COURT , which had read down Section 16(2)(c). The Court reasoned that the Tripura High Court failed to consider the interplay between Sections 41, 53 and 155. Further, the Court held that a provision can be read down only when, if read literally, it would produce a constitutional infirmity.
Double Taxation- The Court reasoned that as ITC is a statutory concession and the law provides for reversal and eventual re-availment, there is no double taxation. The purchaser's loss is temporary and not permanent.
VAT Analogy- The court dismissed all precedents on VAT laws, distinguishing them from GST on structural grounds.
The Court's Concern: A Call That Cannot Be Ignored
While the Court ruled in favour of the Revenue, it did not shut its eyes to the hardship faced by honest purchasers. In paragraph 88, the Court made a strongly worded observation that deserves to be quoted in full spirit:
'It is high time that the Government undertakes a comprehensive re-evaluation of the dicey situation which purchasers are facing. There is a pressing need for legislative amendments or clarifications... the Government should implement a robust, technology-driven tracking mechanism enabling verification of payments made by suppliers against specific invoices in real time... the Government has to take prompt and immediate steps for recovery of tax from the erring suppliers, instead of compelling the purchasers to avail themselves of alternate cumbersome remedies.'
While the Court has upheld that law, it is now for the legislature to improve it.
Opinion: What Must Be Done
- Adopt Axel Kittel Standard in Indian Law
The Court itself, in Paragraph 87, acknowledged the wisdom of the European Court of Justice's ruling in Axel Kittel v. Belgian State (ECJ). The ECJ held that ITC may be denied when the purchaser knew, or ought to have known, that the transaction was connected with fraud. This creates a principal balance, as the 'means of knowing' test penalises complicity rather than innocence.
- Build Real-Time Supplier Compliance Verification on GSTN Portal
One of the roots of this whole controversy is that the purchaser cannot verify in real time whether the supplier has deposited tax against a specific invoice. The GSTN infrastructure already captures GSTR-1 and GSTR-3B data; therefore, with strategic investment, the portal can be upgraded to provide invoice-level payment to the purchasers as well. This would address the major technological gap and convert the arbitrary burden under Section 16(2)(c) into a manageable one for purchasers.
- Create Statutory Indemnity Rights for Bona Fide Purchasers
The Court, in paragraph 76, suggested that purchasers could protect themselves against supplier default through contractual indemnity clauses. While this is useful advice, contractual remedies are no substitute for statutory protection - particularly for small and medium enterprises that lack bargaining power with their suppliers. Parliament should consider introducing a statutory right of recovery, similar in spirit to Section 205 of the Income Tax Act, 1961 (which protects employees from being taxed again on TDS deducted but not deposited), allowing a bona fide purchaser to recover from the defaulting supplier the exact amount of ITC denied to them.
- The GST Council Must Act on Its Own Record
In their submissions, the petitioners brought into record the minutes of the 26th GST Council Meeting held on 10th March, 2018. The difficulties faced by the buyer that were brought to the court's attention had already been highlighted at the said meeting. It is high time now that the GST Council treated this issue not as a policy footnote but as an urgent agenda item.
Conclusion
The Gujarat High Court's judgment is constitutionally sound. Read with Section 41(2), Rule 37A, and the wider GST framework, Section 16(2)(c) does not suffer from any constitutional infirmity, and the Court was right not to read it down. But legal validity is not the same as administrative fairness, and the two should not be confused. The judgment itself shows that the present framework hurts honest buyers. The responsibility now lies with Parliament, and the Government should take heed: a tax system that punishes the honest for the defaults of the dishonest is not only legally fragile, but economically corrosive.
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This article is written by Daksh Kumar Bafna, a third-year law student at Gujarat National Law University, Gandhinagar.