On September 13, 2021, a Division Bench of the Supreme Court in the case of, Union of India v. VKC Footsteps India Private Limited, [Civil Appeal No. 4810 of 2021] has upheld the validity of Rule 89(5) of the Central Goods and Services Tax Rules, 2017 (‘the CGST Rules’), thereby disallowing the refund of ‘input services’ under inverted duty structure. Consequently, the earlier judgment of the Gujarat High Court reported in case of VKC Footsteps India Private Limited v. Union of India, [R/ Special Civil Application No. 2792 of 2019], which had held that Rule 89(5) of the CGST Rules is ultra-vires Section 54 of the Central Goods and Services Tax Act, 2017 (‘CGST Act’), has been overruled and the decision of the Madras High Court reported in the case of, Transtonnelstroy Afcons Joint Venture v. Union of India, [WP No. 8596 of 2019), disallowing the refund of input services, has been affirmed.

The Supreme Court vide its afore-mentioned judgment, has thus, observed and held as follows:

1. While enacting Section 54(3) of the CGST Act, the Parliament has envisaged a claim for the refund of unutilized input tax credit (‘ITC’) by a registered person at the end of the tax period. The first proviso thereto, which begins with the expression “no refund of unutilized ITC shall be allowed in cases other than”, operates as a limitation or restriction for the refund and not as a condition of eligibility for the refund;
2. The said proviso is followed by clauses (i) and (ii), which deals with zero-rated supplies made without payment of tax and credit which has accumulated on account of the rate of tax on inputs being higher than the rate of tax on output supplies, respectively. The legislative draftsperson has clearly distinguished the said clauses in as much as in the case of exports, dealing with clause (i) for zero-rated supplies, no distinction between input goods or input services has been made, whereas in case of domestic supplies, clause (ii) relates to credit accumulation on account of rate of tax on inputs being higher than rate of tax on output supplies and not input services;
3. When the first proviso to Section 54(3) of the CGST Act has provided for a restriction on the entitlement to refund only in case of ‘inputs’ in case of inverted duty structure, it is impermissible for the Court to redraw the boundaries or to expand the provision for refund beyond what the legislature has provided. Accordingly, to construe ‘inputs’ to include both input goods and input services, would be violative to the provisions of Section 54(3) and would lead to recognizing an entitlement to refund, beyond what was contemplated by the Parliament;
4. Refund is a matter of statutory prescription. When there is neither a constitutional guarantee nor a statutory entitlement to refund, the submission that, goods and services must necessarily be treated at par on a matter of refund of unutilized ITC cannot be accepte  Therefore, the validity of Section 54(3) of the CGST Act was upheld by the Apex Court;
5. The use of the formula provided under Rule 89(5) of the CGST Rules for determining the refund on account of inverted duty structure is a familiar terrain in fiscal legislation including delegated legislation under parent norms and is neither untoward nor ultra-vires. While there are anomalies in the formula for determining the refund in case of inverted duty structure which excludes ‘input services’ from the scope of ‘Net ITC’, an anomaly per se cannot result in the invalidation of a fiscal rule which has been framed in exercise of the delegated legislation;
6. 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 a case that, the practical effect of the formula might result in certain inequities. The reading down of the formula by prescribing an order of utilisation would involve recrafting the formula and walking into the shoes of the executive or the legislature, which is impermissible. Therefore, given the anomalies, the Supreme Court, strongly urged the GST Council to reconsider the formula and take a policy decision regarding the same.

Argus view:

With due respect to the aforesaid decision of the Apex Court, the issue that, Section 54(3) of the CGST Act read with Rule 89(5) of the CGST Rules places manufacturer/ traders at an advantageous position vis-à-vis the service provider and therefore, the same being in violation of Article 14 and Article 19(1)(g) of the Constitution of India, have not been argued before the Court. Hence, in our view, the refund provisions have not attained finality and are liable to be tested again before the Apex Court.

Please find attached a copy of the judgment.

This update has been contributed by Ajay Sanwaria (Counsel) and Shreya Mundhra (Senior Associate).

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