TaxTMI 
TaxTMI 
Beyond Return Scrutiny - When Can the Department Directly Invoke Section 74A
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....eyond Return Scrutiny - When Can the Department Directly Invoke Section 74A<br>By: - Raj Jaggi<br>Goods and Services Tax - GST<br>Dated:- 16-9-2026<br>The Real Question Is the Source of the Information, Not Merely the Return Discrepancy The scrutiny of returns under Section 61 of the CGST Act is an important compliance mechanism. Where discrepancies are noticed in a return, the Proper Officer may seek an explanation from the registered person, and, depending on the response, further proceedings may follow. A recurring question, however, is whether the Department must necessarily proceed through Section 61 and Rule 99 before invoking the demand provisions of the CGST Act, 2017? The Allahabad High Court, Lucknow Bench, has examined this issue in M/s Neelkanth Entrepreneurs Private Limited Thru. Its Director Versus State Of U.P. Thru. Prin. Secy. Deptt. Of State Tax U.P. Lko. And Another - 2026 (9) TMI 731 - ALLAHABAD HIGH COURT. The 28-page judgment, including Head Notes, also addresses two closely connected questions: what a Show Cause Notice must contain before the extended penalty consequences under Section 74A(5)(ii) can be invoked, and when a High Court should interfe....
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....re with a Show Cause Notice at the threshold? The judgment draws an important distinction. If the Department possesses independent information suggesting wrongful availment of ITC, Section 61 is not necessarily a mandatory first step. On the other hand, where the Proper Officer possesses only a discrepancy arising from returns and no independent source of information, the statutory scrutiny procedure may serve as an important procedural safeguard. The decision therefore does not render Section 61 irrelevant; rather, it defines the circumstances in which that provision must, or need not, precede adjudication. Allegedly Bogus Sub-Contractors Led Directly to Section 74A Proceedings The petitioner was a registered company engaged in works-contract services and had undertaken substantial infrastructure works for NCC Limited. During FY 2025-26, portions of those works were allegedly sub-contracted to eighteen registered sub-contractors. According to the petitioner, the transactions were supported by work orders, tax invoices, measurement sheets, work-completion records, banking records, GSTR-2A/B2B details, GST registration particulars, and undertakings from the sub-contractors ....
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....confirming execution of the work and discharge of GST liability. The Department viewed the transactions differently. The Deputy Commissioner, State Tax, Lucknow, issued a Show Cause Notice dated 09.07.2026 under Section 74A(1), proposing denial of ITC along with tax, interest and penalty. The central allegation was that the works purportedly sub-contracted to the eighteen firms were bogus, that the entities were non-existent, and that ITC had consequently been wrongfully availed. Instead of first filing a detailed reply to the Show Cause Notice, the petitioner approached the High Court. One of its principal objections was jurisdictional: according to the petitioner, the Department could not bypass Section 61 read with Rule 99 and directly initiate proceedings under Section 74A. It was also argued that the notice lacked the necessary ingredients of fraud, wilful misstatement or suppression required for Section 74A(5)(ii). Thus, the case required the Court to distinguish between two very different situations-a mismatch detected through scrutiny of returns and information independently gathered by the Department suggesting fictitious transactions. Section 61 Is a Scrutiny ....
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....Mechanism, Not the Exclusive Route to Adjudication Section 61 operates at a pre-adjudicatory stage. Its purpose is to enable the Proper Officer to scrutinise returns and related particulars, identify discrepancies, and call upon the registered person to explain them. The scrutiny process is essentially verificatory; it does not itself determine or confirm a tax demand. Section 74A operates in a different field. Where it appears to the Proper Officer that tax has not been paid or has been short-paid, tax has been erroneously refunded, or ITC has been wrongly availed or utilised, the statutory machinery for determination may be invoked. The information leading to such proceedings need not necessarily originate from scrutiny under Section 61. It may emerge from audit, special audit, inspection, search, independent verification, or other legally available material. This distinction is central to the judgment. Treating Section 61 as a compulsory gateway in every case would effectively mean that even where the Department independently discovers material suggesting bogus invoices, fictitious suppliers, or fraudulent ITC, it must first convert that information into a return-scruti....
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....ny exercise before issuing a demand notice. The statutory scheme does not impose such a universal sequence. The expression "where it appears to the proper officer" in Section 74A assumes importance in this context. The formation of the statutory view is not confined to discrepancies that appear on the face of the returns. If credible information from another source gives rise to the statutory conditions for initiating Section 74A proceedings, the provision can operate independently of Section 61. Rule 99 Becomes Mandatory When Section 61 Scrutiny Has Actually Been Invoked The ruling should not be read as holding that Section 61 and Rule 99 are merely optional provisions that the Department can disregard at will. The Court drew a more careful distinction. Rule 99 of the CGST Rules, 2017 prescribes the procedure for scrutiny of returns under Section 61. Its mandatory requirements therefore apply only when scrutiny under Section 61 has actually been initiated. In such a situation, the Department cannot commence the scrutiny process and thereafter disregard the statutory procedure governing that very process. The petitioner relied upon M/s. Qualicum Solutions Pvt. Ltd. V....
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....ersus The Chief Commissioner of CT and GST, Odisha, Cuttack and others - 2025 (1) TMI 209 - ORISSA HIGH COURT ; Amex Services & Anr. Versus Deputy Commissioner, State Tax, Assansol Charge & Ors. & Ors. - 2024 (6) TMI 663 - CALCUTTA HIGH COURT; Goverdhandham Estate Private Limited Versus State Of Rajasthan, Through Chief Commissioner, Joint Commissioner, Union Of India, Jaipur - 2024 (1) TMI 1434 - RAJASTHAN HIGH COURT; M/s. Pepsico India Holdings Pvt. Ltd. Versus The Union of India And 3 Ors, The Additional Commissioner Office of Principal Commissioner GST And Excise Commissionerate, Superintendent Range 1f Goods And Services Tax Guwahati Division-I Guwahati, Principal Commissioner CGST And Excise Commissionerate, Guwahati - 2025 (9) TMI 1593 - GAUHATI HIGH COURT ; and M/s Ramhari And Brothers Versus The Joint Commissioner (State Tax), Circle-Karauli, Deputy Commissioner (State Tax), Circle-Karauli, State Of Rajasthan, Union Of India and Goods And Service Network (Gstn), Delhi - 2026 (7) TMI 1758 - RAJASTHAN HIGH COURT. The petitioner argued that where the alleged discrepancy arose from returns and GST portal data, an opportunity to explain it thr....
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....ough the scrutiny mechanism should precede Section 74A proceedings. Those decisions were distinguished because scrutiny under Section 61 had already been undertaken in the cases concerned, and the prescribed statutory procedure had thereafter not been followed. The present case stood on a materially different footing: the petitioner's returns had admittedly never been selected for scrutiny, and the Show Cause Notice arose from independent verification concerning the eighteen sub-contractors allegedly found to be bogus and non-existent. The reasoning was consistent with M/s Nagarjuna Agro Chemicals Pvt. Ltd. Versus State of U.P. and Another - 2023 (5) TMI 712 - ALLAHABAD HIGH COURT , and M/s Devi Traders Versus The State of Andhra Pradesh, Rep. by its Principal Secretary to Government, State Tax Department - 2023 (6) TMI 1300 - ANDHRA PRADESH HIGH COURT. Reference was also made to Mandarina Apartment Owners Welfare Association (MAOWA) Versus Commercial Tax Officer/State Tax Officer And M/s. Gani Fashion Represented by its Proprietor, Mr. Mohamed Gani Versus The Assistant Commissioner (ST) Nandanam Assessment Circle, Chennai - 2024 (7) TMI 1158 - MA....
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....DRAS HIGH COURT. These authorities support the proposition that Section 61 scrutiny is not an indispensable condition precedent to initiating demand proceedings in every case. Return-Based Discrepancy and Independent Information Must Not Be Treated Alike Perhaps the most significant aspect of the ruling is the qualification attached to the Court's conclusion. The Court did not lay down an absolute rule that Section 61 can always be bypassed. It expressly recognised that where the Proper Officer possesses only return-based discrepancy material and there is no independent source of information, Section 61 and Rule 99 may operate as a mandatory procedural safeguard. This qualification gives the judgment its proper balance. Suppose the Department merely compares GSTR-3B with another return or statement and notices a difference. If nothing beyond that electronic discrepancy is available, the statutory scrutiny mechanism assumes considerable importance because it gives the taxpayer an opportunity to explain reconciliation differences, timing issues, amendments or other matters before formal adjudication begins. The position is different where an investigation or independe....
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....nt verification allegedly reveals that suppliers do not exist, invoices are fictitious or the underlying transactions themselves are fabricated. In such a case, the Department is not merely asking the taxpayer to reconcile two electronic figures. It is alleging an independent factual basis for wrongful ITC. Requiring Section 61 scrutiny as an inflexible preliminary step in such circumstances would import into Section 74A a condition that the statutory scheme does not prescribe. The practical test emerging from the judgment is therefore the source and character of the information forming the basis of the Show Cause Notice. The mere fact that GST returns or portal data may also form part of the evidentiary material does not necessarily convert an independently generated investigation into a Section 61 scrutiny proceeding. Fraud Cannot Be Invoked Merely by Using Statutory Expressions - But the SCN Need Only Disclose the Foundational Case The second major issue concerned Section 74A(5)(ii). The petitioner argued that the Show Cause Notice lacked sufficient material to establish fraud, wilful misstatement or suppression with intent to evade tax. According to the petitioner, the....
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.... transactions were genuine, the subcontractors were registered and operational, payments were made through banking channels, and the works were actually executed. A key legal distinction exists between the absence of jurisdictional allegations and a dispute about the truth of those allegations. If a notice merely reproduces expressions such as "fraud", "wilful misstatement" or "suppression" without disclosing any factual basis connecting the taxpayer with the alleged conduct, a jurisdictional objection may arise. Statutory labels cannot substitute for foundational facts. But that was not how the impugned notice was viewed in the present case. The notice specifically alleged that the works purportedly subcontracted to eighteen firms were bogus, that the entities themselves were non-existent, and that substantial ITC had been availed on fictitious invoices. An allegation that an entire chain of subcontracting and invoices was structured around fictitious entities was, at the Show Cause Notice stage, capable of supplying the factual foundation for invocation of Section 74A(5)(ii). Reference was made to Tvl. K. Ezhil Arasan, Contractor Versus The Joint Commissioner (ST) Intell....
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....igence, Salem, The Commercial Tax Officer, Salem, Tamil Nadu. - 2026 (6) TMI 1462 - MADRAS HIGH COURT ; (decided on 08.06.2026). At the initiation stage, the statutory requirement is satisfied where the notice expressly alleges fraud, wilful misstatement, or suppression, and those allegations are traceable to the material forming the basis of the proceeding. This does not mean that the allegations stand proved merely because they appear in the notice. It means only that the jurisdiction to initiate proceedings and the ultimate proof of the allegations are different questions. A Jurisdictional Defect Is Different from a Disputed Factual Defence The Court's distinction is particularly useful for GST litigation. If the Show Cause Notice contains no foundational ingredients for invoking the relevant statutory provision, the defect may go to jurisdiction and can justify interference at the notice stage. Where those ingredients are specifically pleaded, however, and the taxpayer says they are factually incorrect, the dispute ordinarily moves into adjudication. The Court cannot, without examining the complete evidentiary record, determine in writ proceedings whet....
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....her eighteen sub-contractors genuinely executed the works, whether measurement sheets establish actual performance, whether banking transactions correspond to genuine supplies, or whether invoices represented real transactions. The petitioner possessed work orders, tax invoices, measurement sheets, completion records, bank statements, GSTR-2A/B2B particulars, and other documents, which, according to it, established the genuineness of the transactions. Those documents may ultimately prove important. But their evidentiary effect has to be tested against the Department's material alleging that the sub-contractors were fictitious. That exercise belongs primarily to adjudication. Accordingly, the ruling maintains an important distinction: a Show Cause Notice must disclose the factual foundation necessary for invoking the statutory provision, but the High Court need not decide at the notice stage whether that factual foundation will ultimately be proved. Supplier Default and Fictitious Supplier Are Legally Different Situations The petitioner also relied on Suncraft Energy Private Limited And Another Versus The Assistant Commissioner, State Tax, Ballygunge Charge And ....
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....Others - 2023 (8) TMI 174 - CALCUTTA HIGH COURT; affirmed by the Supreme Court in THE ASSISTANT COMMISSIONER OF STATE TAX, BALLYGUNJGE CHARGE & ORS. Versus SUNCRAFT ENERGY PRIVATE LIMITED & ORS. - 2023 (12) TMI 739 - SC Order , to contend that ITC should not be automatically denied to a bona fide purchaser merely because of a default attributable to the supplier. The distinction in the present case is important. Suncraft Energy concerned a genuine supplier who had collected tax but allegedly failed to deposit it. The present Show Cause Notice questioned something more fundamental-the very existence and genuineness of the supplying entities and the underlying transactions. These two situations should not be conflated. In a supplier-default case, the recipient may contend that it purchased genuine goods or services, possessed valid invoices, made payment, and had no control over the supplier's subsequent failure to discharge tax. However, where the Department alleges that the supplier itself is fictitious and no genuine supply occurred, the first question is whether the underlying transaction ever existed. This does not mean that the Department's alleg....
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....ation of a fictitious supplier is conclusive. The taxpayer remains entitled to establish the genuineness of the transaction through contractual documents, evidence of actual execution, movement or receipt of supplies, banking records, and other relevant material. The judgment merely recognises that Suncraft Energy cannot automatically determine such a factual controversy at the Show Cause Notice stage. A Show Cause Notice Is Ordinarily the Beginning of Adjudication, Not Its Conclusion The third issue concerned the High Court's jurisdiction under Article 226. Judicial review against a mere Show Cause Notice is ordinarily exercised sparingly. The underlying reason is straightforward: a notice ordinarily makes allegations and calls for an explanation; it does not finally determine liability. The Court referred to Union of India and another Versus Kunisetty Satyanarayana - 2006 (11) TMI 543 - Supreme Court; STATE OF U.P. Versus BRAHM DATT SHARMA & ANR - 1987 (2) TMI 507 - Supreme Court ; and Special Director Versus Mohd. Ghulam Ghouse - 2004 (1) TMI 378 - Supreme Court. The recognised exceptions to the alternative-remedy principle, including those expla....
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....ined in Whirlpool Corporation Versus Registrar of Trade Marks, Mumbai & Ors. - 1998 (10) TMI 510 - Supreme Court, were also considered. The petitioner had not even filed its reply to the Show Cause Notice before approaching the High Court. Its principal defences-the genuineness of the sub-contractors, actual execution of works, payment through banking channels, reflection of transactions in GSTR-2A, and supporting documentary evidence-required examination by the Adjudicating Authority. The writ petition was therefore dismissed. Importantly, dismissal did not amount to confirmation of the allegations in the Show Cause Notice. The petitioner was permitted to file a detailed reply within four weeks, raising all factual and legal contentions. The Adjudicating Authority was required to consider the reply independently, provide an adequate opportunity of hearing, and permit relevant documents to be placed on record. All rights and contentions on the merits of the Show Cause Notice were expressly kept open. Independent Information Can Bypass Scrutiny - Not Adjudication Neelkanth Entrepreneurs clarifies that Section 61 is not a mandatory gateway to Section 74A when proceed....
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....ings are based on independent information. However, where the case rests solely on return-based discrepancies, Section 61 read with Rule 99 may serve as an important procedural safeguard. The broader principle is simple: independent information may justify the direct initiation of proceedings, but liability can arise only after proper adjudication, taking into account the taxpayer's defence and the evidence on record. *** =============<br> Scholarly articles for knowledge sharing by authors, experts, professionals ....