Proposed Section 38 of GST cast impractical obligations and restrictions on recipients!!

By the proposed amendments in the Finance Bill, 2022, the intention is to remove the provisions about matching and the interactive system originally envisaged. Instead, the aim seems to be the codification of the various measures taken by the government for curtailing credit availment to the extent of tax paid by the suppliers. The Finance Bill seeks to insert a condition as clause (ba) under Section 16(2) of the CGST Act, requiring that credit be availed only if such credit has not been restricted under Section 38 of the CGST Act.

The erstwhile Section 38 of the CGST Act has been substituted with a provision for communication of an auto-generated statement (i.e. GSTR-2B) to the recipient, which will specify supplies where the recipient can take credit and those where the supplier cannot take credit. Read with Section 16(2)(ba); this would mean that the recipient will now be statutorily bound by the unilateral communication in GSTR-2B regarding the availability of their credits. It leaves no scope for the recipient to ‘self-assess’ their credits as envisioned in the newly substituted Section 41 of the CGST Act.

In addition to the above, the amended Section 38 lists several cases where it will be communicated to the recipient that credit cannot be availed due to various defaults of the supplier. For example, credit of a supply received from:

A registered person, who has defaulted in payment of GST and the default continues for the prescribed period.

A registered person whose GST payable as per his GSTR-1 exceeds GST paid by him as per GSTR-3B during the prescribed period and such excess is beyond the prescribed limit.

A registered person who has availed credit as per GSTR-3B in excess of credit that can be availed by him as per GSTR-2B and such excess is beyond the prescribed limit.

A registered person who has defaulted in discharging his GST liability by utilizing excess credit than the permissible limit.

These provisions essentially enforce a policing system, where recipients have to constantly monitor their supplier’s compliances to ensure their credits remain intact instead of the authorities pursuing defaulting suppliers.

Moreover, the defaults mentioned in the proposed change are no longer limited to non-payment of tax liability or non-declaration of supplies in GSTR-1 by the supplier, but also include excess availment of credit by the supplier or payment of tax liability by the supplier using credit beyond the permissible limit. Notably, the amending provisions seek to restrict credit on defaults of the supplier which do not even have a direct nexus with the supply received. This means that post amendment, recipients could be denied credit on factors beyond their control and for which they have no visibility. In absence of this visibility, it begs the question of whether recipients can now rely on declarations from the suppliers, as was being done thus far.

In the past, there has been sustained jurisprudence where courts have held that the tax authorities are to pursue the defaulting sellers and not the bonafide recipients. For instance, in the case of Arise India Ltd, the Supreme Court upheld the Delhi High Court’s decision to hold a similar restriction under the Delhi VAT Act unconstitutional. Even under the GST regime, the Calcutta High Court in the case of LGW Industries Ltd held that benefit of credit should be given to genuine recipients having valid documents.

The proposed amendments in the Finance Bill, 2022 cast impractical obligations and restrictions on recipients, which may open them to challenge before the courts of the country. Here it remains to be seen whether the abovementioned judgments could aid in a challenge to these provisions.

Another restriction proposed under Section 38 is to restrict credit in the hands of the recipient if the GST payable as per GSTR-1 of its supplier exceeds the tax paid in GSTR-3B by the supplier beyond permissible limits. GSTR-3B is a summary document and does not allow for invoice-wise bifurcation of the payment. The supplier may have paid some liabilities (including the supply to the relevant recipient) but not others or may have paid part of liability on the supply to the recipient. However, on a strict reading of Section 38, if the supplier has defaulted, none of his recipients would be able to take credit.