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By: Manoj Mishra
10 Aug 2026 8 min read
The difficulty arises where the recipient has complied with every requirement within its control, yet its credit is questioned because the supplier has failed to deposit the tax collected from it.
Section 16(2)(c) of the CGST Act brings this tension into sharp focus. While it protects the exchequer by linking ITC to actual payment of tax to the Government, it also exposes the recipient’s credit to a default occurring at the supplier’s end. The controversy is not about fraudulent credit alone. It concerns whether the compliance risk of supplier default can be shifted to a purchaser who has already paid the price and tax.
This disconnect led to two divergent judicial approaches. In Sahil Enterprises, the Tripura High Court protected bona fide recipients by reading down Section 16(2)(c), drawing support from pre-GST jurisprudence. In Maruti Enterprise, the Gujarat High Court took the opposite view, holding that actual payment of tax is an independent and cumulative condition, unaffected by bona fides or practical difficulty. This article examines the evolving law on supplier-default ITC, the shift after Bhandari Scrap Traders, and the need for a workable framework for bona fide recipients.
The distinction between Section 16(2)(aa) and Section 16(2)(c) is central. Reflection of an invoice in GSTR-2B shows that the supplier has reported the supply in GSTR-1; it does not prove payment of the corresponding tax. The substituted Section 41 requires reversal of ITC where the supplier has not paid tax and permits re-availment once the tax is paid. Rule 37A addresses cases where the supplier reports the invoice but fails to furnish the corresponding return under Section 39.
The framework, however, gives the recipient limited visibility. GSTR-2B does not confirm invoice-level tax payment, and even GSTR-3B filing may not establish that tax attributable to a specific invoice has been discharged. Rule 37A is largely return filing based and does not fully address short payment, incorrect reporting or cases where the supplier becomes untraceable.
The controversy traces back to State VAT jurisprudence. In On Quest Merchandising India (P.) Ltd., the Delhi HC read down Section 9(2)(g) of the Delhi VAT Act to protect genuine purchasers transacting with registered sellers against valid tax invoices, holding that a purchaser could not be expected to ensure the seller’s subsequent tax payment. The Department’s remedy was therefore directed against the defaulting seller, while credit could still be denied in sham or collusive transactions.
This principle found support in the Supreme Court decisions in Arise India and Shanti Kiran India. At the same time, Ecom Gill Coffee Trading Pvt. Ltd. emphasised that where the statute places the burden on the claimant, genuineness may require evidence beyond invoices and banking payments. VAT jurisprudence therefore recognised two propositions: an innocent purchaser should not automatically suffer for the seller’s default, but the purchaser must prove that the transaction is genuine. Under GST, the question was whether this protection could override the express condition in Section 16(2)(c).
In Sahil Enterprises, the supplier had reported the transactions in GSTR-1 but filed nil GSTR-3B returns and did not deposit the tax collected. The Tripura HC held that applying Section 16(2)(c) without distinguishing bona fide recipients from participants in fraud imposed an onerous burden on persons with no practical means to ensure supplier compliance. While upholding the provision’s validity, the Court read it down and confined denial of ITC to non-genuine, collusive or fraudulent transactions. Bona fides were thereby treated as a substantive exception to the supplier-payment condition.
The Gujarat HC adopted the opposite approach in Maruti Enterprise, holding that each condition under Section 16(2) is independent and cumulative.
The Court rejected the challenge under Article 14 of the Indian Constitution, finding a rational nexus between actual tax payment, prevention of wrongful credit and preservation of the GST settlement mechanism. The plea under Article 19(1)(g), supported by the maxim lex non cogit ad impossibilia, was also rejected. Although a purchaser cannot compel an independent supplier to deposit tax, the Court considered reversal, re-availment, vendor diligence and contractual safeguards sufficient to prevent practical difficulty from becoming a ground to rewrite the statute.
On Article 265 of the Indian Constitution, the Court held that denial of ITC could not be characterised as an unauthorised second levy merely because it created an additional economic burden. ITC is a statutory entitlement governed by statutory conditions, and the scheme permits re-availment once the supplier discharges the tax. The Article 300A challenge was rejected on similar reasoning. Reflection in GSTR-2B or initial availment does not create an indefeasible property right detached from Section 16. The economic value of ITC cannot be separated from the conditions governing its availability.
The Court held that reading down cannot be used merely to cure hardship. It is available only where statutory language permits a narrower interpretation necessary to save constitutionality; it cannot neutralise a clear condition enacted by Parliament. The Gujarat HC accordingly confined its common judgment to the vires and interpretation of Section 16(2)(c).
The central reasoning in Maruti Enterprise was structural. The Gujarat HC viewed Section 16(2)(c) as part of an integrated credit, collection, recovery and inter-governmental settlement framework. Under State VAT, a seller’s default ordinarily remained within the same State’s revenue account. Under GST, utilisation of credit may affect revenue allocation between originating and destination jurisdictions through the settlement mechanism under Section 53. Recognising credit without corresponding tax receipt may therefore require fiscal settlement against revenue never collected. Comparable hardship under VAT and GST does not make the two regimes legally equivalent. Judicially removing the supplier-payment condition would alter the wider fiscal architecture, not merely resolving an individual credit dispute.
In Bhandari Scrap Traders, the Supreme Court approved the Gujarat HC’s reasoning and clarified why the Tripura approach could not stand as an equal line of authority. The Court endorsed three propositions: first, the Delhi VAT Act and the CGST Act are materially different and there is “no possibility of drawing parity” between them to protect a bona fide purchaser where the supplier fails to pay tax; second, Sections 41, 73 and 74 form part of the statutory framework for supplier-side recovery and subsequent re-availment of reversed credit; and third, there was no basis to declare Section 16(2)(c) unconstitutional or read it down in favour of bona fide recipients. The decision settles the constitutional question, but not the administrative mechanics of supplier-default disputes particularly proof of supplier non-payment, invoice-wise linkage and quantification, prior recovery from the supplier, restoration of credit, and prevention of duplicate recovery.
The Supreme Court’s reference to Sahil Enterprises appears deliberate. Although it was informed that an SLP had been entertained, the Court proceeded to decide the challenges against Maruti Enterprise and noted that the Tripura HC had not undertaken the detailed statutory analysis carried out by the Gujarat HC. This strongly indicates that Sahil Enterprises cannot continue as a general precedent on an equal footing with Maruti Enterprise.
That does not mean the taxpayers in Sahil Enterprises must necessarily lose all relief. The dispute relates to 2017-19, before the substituted Section 41 and Rule 37A framework, where the recipient was proceeded against under Section 73 and the transaction was found genuine. These nuances were not adjudicated in Bhandari Scrap Traders. The Supreme Court may therefore set aside the broad reading-down direction while separately considering limited relief, particularly where tax has already been recovered from the supplier or denial of credit would result in duplicate recovery.
For businesses, the ruling heightens the need for robust supplier-compliance governance. Pending disputes should be reassessed in light of Bhandari Scrap Traders, while preserving fact-specific arguments on transaction genuineness, supplier-side recovery, re-availment once tax is paid, and prevention of duplicate recovery. Businesses should also strengthen vendor onboarding, contractual indemnities, payment-linked compliance covenants, periodic supplier monitoring and documentation for future re-availment.
The larger policy gap remains. The Department holds supplier-payment information, while the recipient bears the statutory and evidentiary consequences of that information. Even while upholding Section 16(2)(c), Gujarat HC acknowledged the need for legislative and technological intervention. This strengthens the case for invoice-level visibility of tax payment, prompt recovery from defaulting suppliers, automatic restoration of credit upon payment or recovery, and safeguards against duplicate recovery.
The Supreme Court’s decision marks a decisive shift in the jurisprudence under Section 16(2)(c). A recipient’s bona fides can no longer substitute actual payment of tax by the supplier, nor can the statutory condition be diluted through judicial reading down. The pending Sahil Enterprises matter may clarify the scope of fact-specific relief and the consequences of ITC reversal. The debate has therefore moved from constitutional validity to implementation fairness. A mature GST system must protect revenue while providing invoice-level visibility, automatic restoration upon payment or recovery, and safeguards to ensure that supplier default does not become an irreversible burden for a bona fide purchaser.
Saksham Bhutani, Consultant, Tax, and Priya Rani, Associate Director, Grant Thornton Bharat, have also contributed to this article.
This article first appeared in the Taxsutra on 10 August 2026.
The tax and regulatory environment continues to evolve rapidly, with significant developments on both federal and state fronts.
The August 2026 edition of the Grant Thornton Bharat Monthly Tax Bulletin provides a concise summary of key developments in direct taxes, FEMA, transfer pricing, and indirect taxes for July 2026.
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