Input Tax Credit Under GST: An Analysis of B.K. Traders v. State of Gujarat

The Goods and Services Tax regime in India introduced a revolutionary concept of seamless input tax credit, designed to eliminate the cascading effect of taxes that plagued the previous indirect tax system. However, the practical implementation of these provisions has given rise to numerous disputes, particularly when tax authorities deny input tax credit based on the conduct or status of suppliers. The Gujarat High Court’s judgment in B.K. Traders v. State of Gujarat represents a significant judicial intervention that addresses the fundamental principles of natural justice in tax assessment proceedings and protects the rights of bona fide taxpayers who may be penalized for circumstances beyond their control.

Background of the Case

B.K. Traders, a sole proprietary concern engaged in trading edible oil, found itself embroiled in a dispute that would test the boundaries of tax jurisprudence in Gujarat. The petitioner had been regularly filing periodic and annual self-assessment reports as mandated under Sections 29 to 33 of the Gujarat Value Added Tax Act, 2003. Having not been selected for audit assessment under Section 34(2)(b) of the Act, there was a reasonable expectation that the self-assessment reports had been accepted by the authorities. However, on December 23, 2019, the petitioner received a notice for reassessment under Section 35(1) of the VAT Act, marking the beginning of a legal battle that would highlight serious procedural irregularities in tax administration.

The reassessment notice itself was problematic as it failed to specify any reasons for initiating the proceedings, leaving the taxpayer in the dark about the allegations being leveled. When the petitioner responded on March 13, 2020, seeking detailed information and documents that formed the basis for reassessment, the tax authority chose to disregard this communication entirely. In a move that would later be criticized by the High Court, the assessing officer passed the final assessment order on March 24, 2020, just one day before the nationwide lockdown was imposed due to the COVID-19 pandemic. This order imposed a staggering liability of Rs. 1,27,45,512, including tax, interest, and penalties.

The crux of the matter lay in the denial of input tax credit claimed by B.K. Traders on purchases made from M/s. Maa Oil Mills, Gondal, during the financial years 2014 and 2015. The tax authority’s decision was based solely on the fact that the registration of Maa Oil Mills had been cancelled retrospectively with effect from July 21, 2007, on allegations of issuing bogus bills. Critically, neither the cancellation order nor any supporting documents were provided to B.K. Traders, and no opportunity was given to cross-examine representatives of Maa Oil Mills or to present evidence establishing the genuineness of the transactions [1].

Legal Framework Governing Input Tax Credit

The Gujarat VAT Act and Reassessment Provisions

The Gujarat Value Added Tax Act, 2003, established a comprehensive framework for levy and collection of value added tax within the state. Section 35 of the Act specifically deals with reassessment and provides the Commissioner or any officer authorized by him with the power to reassess a dealer when there is reason to believe that taxable turnover has escaped assessment, been under-assessed, assessed at a lower rate, or where deductions or tax credits have been wrongly allowed. However, this provision must be read in conjunction with the fundamental principles that govern all quasi-judicial proceedings, particularly the adherence to natural justice.

The VAT Act’s provisions relating to input tax credit were designed to ensure that taxes paid at earlier stages of the supply chain could be set off against output tax liability, thereby preventing the cascading effect of taxes. This mechanism is fundamental to the VAT system and has been carried forward into the GST regime through Section 16 of the Central Goods and Services Tax Act, 2017. Under the CGST Act, every registered person is entitled to take credit of input tax charged on any supply of goods or services used in the course or furtherance of business, subject to fulfillment of prescribed conditions [2].

Conditions for Availing Input Tax Credit under GST

The eligibility to claim input tax credit is governed by specific conditions that must be satisfied by the recipient. First and foremost, the registered person must be in possession of a valid tax invoice or debit note issued by a supplier registered under the Act. The recipient must have actually received the goods or services, and in cases where goods are received in installments, the credit can be claimed only upon receipt of the last installment. Additionally, the tax charged must have been actually paid to the government by the supplier, either in cash or through utilization of input tax credit. The recipient must also have furnished the return under Section 39 of the CGST Act within the prescribed time limits.

These conditions create a dependency between the purchasing dealer and the supplier, where the actions or omissions of the supplier can directly impact the purchaser’s ability to claim legitimate tax credits. This interdependency becomes particularly problematic when the supplier’s registration is cancelled retrospectively, as was the case in B.K. Traders. The question that arises is whether a bona fide purchaser who has fulfilled all conditions on their part should be penalized for irregularities or fraud committed by the supplier, especially when the purchases were made during a period when the supplier held valid registration [3].

Principles of Natural Justice in Tax Proceedings

Constitutional Underpinnings

The principles of natural justice, though not explicitly mentioned in the Indian Constitution, find their expression in Articles 14 and 21. Article 14 guarantees equality before law and equal protection of laws, while Article 21 ensures that no person shall be deprived of life or personal liberty except according to procedure established by law. The Supreme Court has consistently held that the procedure must be just, fair, and reasonable. These constitutional provisions form the bedrock upon which all administrative and quasi-judicial actions must be founded.

In the landmark case of Maneka Gandhi v. Union of India, the Supreme Court established that any procedure depriving a person of their rights must conform to the principles of natural justice. This principle has been repeatedly affirmed in the context of tax proceedings. In State of Kerala v. K.T. Shaduli Yusuf, the Supreme Court explicitly stated that tax authorities discharge quasi-judicial functions and are bound to observe the principles of natural justice while passing orders. The Court emphasized that assessment proceedings are judicial in nature, and all incidents of such proceedings must be observed before any conclusion is reached [4].

The Audi Alteram Partem Rule

The doctrine of audi alteram partem, which translates to ‘hear the other side’, is a cornerstone of natural justice. This principle mandates that no person should be condemned unheard and that every party must be given a reasonable opportunity to present their case. In tax proceedings, this translates into several specific requirements. The assessing authority must issue a proper show cause notice that clearly specifies the grounds on which adverse action is proposed. The notice must be specific and unambiguous so that the assessee can make proper compliance.

Furthermore, the assessee must be provided with copies of all documents and materials that form the basis of the adverse decision. In Dhakeshwari Cotton Mills Ltd. v. CIT, the Supreme Court held that it was surprising that the Tribunal relied on statements of gross profit rates of other cotton mills without showing the statement to the assessee and without giving an opportunity to show that the statement had no relevance to the case. This principle directly applies to the B.K. Traders case, where the cancellation order of the supplier’s registration was not provided to the petitioner [5].

The Requirement of Reasoned Orders

Another critical aspect of natural justice is the requirement that orders affecting the rights of individuals must be speaking orders containing reasons for the decision. A reasoned order ensures that the principles of natural justice are followed and reduces arbitrariness in decision-making. The Supreme Court has repeatedly emphasized that giving reasons for a decision is an essential requirement of the principles of natural justice. In Kishan Lal v. Union of India, the Court observed that a reasoned order speaks for itself and embodies the principles of natural justice. The absence of reasons in an order can amount to depriving a party of the right to an effective appeal, as the appellant would not know the grounds on which the adverse decision was based.

The Gujarat High Court’s Analysis

Judicial Findings on Natural Justice Violations

The Division Bench comprising Justice S.G. Gokani and Justice N.V. Anjaria conducted a thorough examination of the procedural lapses in the reassessment proceedings. The Court identified multiple violations of natural justice that rendered the impugned order unsustainable. First, the reassessment notice dated December 23, 2019, failed to specify any reasons for initiating the proceedings, leaving the petitioner without adequate information to prepare a defense. When the petitioner sought clarification and documents through its reply dated March 13, 2020, these legitimate requests were completely ignored by the assessing officer.

Most critically, the Court noted that the entire basis for denying input tax credit was the cancellation of registration of Maa Oil Mills with retrospective effect from 2007. However, neither the cancellation order nor any materials related to the alleged bogus billing activities of Maa Oil Mills were provided to the petitioner. This denial of crucial documents meant that the petitioner was unable to effectively respond to the allegations or demonstrate the genuineness of its transactions. The Court observed that the petitioner had furnished substantiating documents including transport receipts, bills, vouchers, and evidence of payments through banking channels, all of which indicated legitimate business transactions [6].

Application of Precedent: The Shree Bhairav Metal Corporation Case

The Court drew significant support from its earlier decision in Shree Bhairav Metal Corporation v. State of Gujarat, which dealt with remarkably similar facts. In that case, the petitioner had purchased materials from Lucky Enterprise, whose registration was subsequently cancelled ab initio from February 22, 2006, on grounds that it was not a genuine dealer and had indulged in billing activities only. The input tax credit claimed by the purchasing dealer was denied based on this cancellation.

The Court in Shree Bhairav Metal Corporation held that while the revisional authority may be justified in drawing inferences about bogus transactions based on the supplier’s cancellation order, the purchasing dealer must be given an opportunity to establish the genuineness of the transactions. The Court emphasized that the purchasing dealer should be served with the order cancelling the supplier’s registration and the findings recorded therein, and must be given an opportunity to prove the genuineness of the transaction by producing evidence of actual movement of goods and supporting documentation. The judgment clarified that merely producing bills and vouchers is insufficient unless accompanied by evidence establishing actual movement of goods from the supplier’s place to the purchaser’s place [7].

The Question of Alternative Remedy

The respondent authorities argued that the petitioner had an alternative efficacious remedy in the form of an appeal under Section 73 of the VAT Act, and therefore the writ petition should not be entertained. However, the Court rejected this argument by relying on the principle established in Vinod Arvind v. Income Tax Officer that writ jurisdiction is essentially discretionary, and the availability of an alternative remedy does not automatically preclude the exercise of writ jurisdiction. The Court held that writ jurisdiction can be exercised when the alternative remedy is found to be illusory or burdensome, or when there is a violation of principles of natural justice or fundamental rights, or when the action of the authority is arbitrary or lacks jurisdiction.

The Court noted that the appellate authority under the VAT Act does not possess original powers of assessment or powers of further inquiry comparable to those available to appellate authorities under Sections 250 and 251 of the Income Tax Act, 1962. This limitation on the appellate authority’s powers, combined with the clear violation of natural justice principles, justified the exercise of extraordinary jurisdiction under Article 226 of the Constitution [8].

Implications and Legal Position

Protection of Bona Fide Taxpayers

The judgment in B.K. Traders establishes important safeguards for genuine taxpayers who may find their input tax credit claims jeopardized due to actions of their suppliers. The ruling clarifies that retrospective cancellation of a supplier’s registration, by itself, cannot be sufficient grounds to deny input tax credit to a purchasing dealer who has conducted transactions in good faith during the period when the supplier held valid registration. The purchasing dealer must be given a fair opportunity to establish the genuineness of transactions through evidence of actual movement of goods, banking transactions, transport documents, and other corroborating materials.

This principle finds support in the broader jurisprudence on input tax credit under GST. The Supreme Court in State of Karnataka v. Ecom Gill Coffee Trading Private Limited emphasized that a dealer claiming input tax credit must prove the actual transaction beyond doubt by furnishing comprehensive documentation including details of the selling dealer, vehicle information, payment particulars, and acknowledgment of delivery. However, this burden of proof can only be fairly discharged when the assessing authority provides the dealer with all relevant materials and a genuine opportunity to present evidence [9].

Procedural Fairness in Tax Administration

The judgment reinforces the principle that tax administration must be conducted with fairness and transparency. The Supreme Court’s observation in Pannalal Binjraj v. Union of India that a humane and considerate administration of tax provisions would go a long way in allaying the apprehensions of assessees remains highly relevant. The Court emphasized that if tax authorities administer provisions in the true spirit of fairness, no assessee would be in a position to charge the Revenue with administering the provisions with an evil eye and unequal hand. The B.K. Traders judgment operationalizes this principle by mandating that tax authorities must provide all relevant documents to the assessee, specifically respond to requests for information, and allow adequate opportunity for the assessee to cross-examine witnesses where necessary.

Conclusion

The B.K. Traders v. State of Gujarat judgment represents a significant contribution to the jurisprudence on input tax credit and procedural fairness in tax proceedings. By quashing the reassessment order and remanding the matter for fresh consideration with specific directions to provide all relevant documents and afford adequate opportunity to the petitioner, the Court has reinforced the principle that no taxpayer should be penalized without being given a fair hearing. The judgment strikes a balance between the Revenue’s legitimate interest in preventing tax evasion and the taxpayer’s fundamental right to a fair and transparent assessment process.

The case serves as a reminder that while tax authorities have wide powers to investigate and prevent fraudulent transactions, these powers must be exercised within the constitutional framework that mandates adherence to principles of natural justice. A purchasing dealer who has conducted genuine business transactions, maintained proper documentation, and paid consideration through legitimate banking channels should not be automatically denied input tax credit merely because the supplier’s registration is subsequently cancelled. The authorities must examine each case on its individual merits, provide all relevant materials to the dealer, and give adequate opportunity to establish the genuineness of transactions before reaching an adverse conclusion. This approach ensures both effective tax administration and protection of legitimate business interests, thereby promoting trust and compliance in the tax system.

References

[1] B.K. Traders v. State of Gujarat, Special Civil Application No. 7944 of 2020, Gujarat High Court

[2] Section 16 of the Central Goods and Services Tax Act, 2017

[3] Guide on Section 16 of CGST Act – Eligibility and conditions for taking input tax credit, GST Gyaan

[4] Analysis on natural justice in relation to tax proceedings in India, iPleaders Blog

[5] Principles of Natural Justice in Taxation Proceedings, TaxGuru

[6] Latest Cases on Principles of Natural Justice – Faceless Assessment, TaxGuru

[7] Shree Bhairav Metal Corporation v. State of Gujarat, Special Civil Application No. 2149 of 2015, Gujarat High Court (as cited in B.K. Traders judgment)

[8] Natural Justice in Taxation, All India Federation of Tax Practitioners

[9] Input Tax Credit Challenges Under Section 16(2)(c) of CGST Act, TaxTMI

Authorized and published by Sneh Purohit