Bona Fide Purchasers Protected: Section 16(2)(c) Read Down to Prevent ITC Denial for Supplier Defaults

Issue

Whether Input Tax Credit (ITC) can be denied to a genuine purchaser under Section 16(2)(c) of the CGST Act solely because the supplier failed to deposit the tax with the Government, particularly when no fraud or collusion is alleged.

Facts (Tripura High Court, 2026)

The Transaction: The petitioner (e.g., M/s. Sahil Enterprises or Malaya Rub-Tech Industries) purchased goods from a registered supplier, received valid invoices, and paid the full consideration including GST.
The Default: The supplier reported the sales in GSTR-1 but failed to remit the tax to the Government, often filing “Nil” GSTR-3B returns.
Departmental Action: The authorities issued a Show Cause Notice (SCN) under Section 73 (non-fraud category) to recover the ITC from the purchaser, arguing that the condition of “actual payment to government” under Section 16(2)(c) remained unfulfilled.
Assessee’s Stand: The purchaser argued they had no control over the supplier’s compliance and that penalizing them for another’s default was an “impossible burden.”

Decision

The Tripura High Court, in a landmark ruling (Jan/Feb 2026), provided significant relief:

Constitutional Validity vs. Application: While the Court upheld the constitutional validity of Section 16(2)(c), it held that the provision cannot be applied mechanically.
The “Reading Down” Doctrine: To save the provision from being arbitrary (violating Article 14), the Court “read down” the section. It held that the condition for supplier payment applies only to non-bona fide, collusive, or fraudulent transactions.
Impossible Burden: The Court observed that a purchaser cannot be expected to “do the impossible”—specifically, to verify or ensure that a supplier actually remits the tax collected to the treasury.
Absence of Fraud: Since the Department initiated proceedings under Section 73 (non-fraud) rather than Section 74, it was implicitly accepted that there was no fraud or collusion by the purchaser.
Outcome: The demand orders were set aside, and the Department was directed to allow the ITC to the petitioner. [In favour of assessee]

Key Takeaways for Taxpayers

Section 73 is Your Shield: If you receive a notice for a supplier’s non-payment under Section 73, it often works in your favor as it signals that the Department has no evidence of your involvement in fraud.
Due Diligence: Always maintain a robust “compliance trail”: bank statements for payments, e-way bills for transport, and GSTR-2A/2B snapshots.
Recovery Priority: This ruling reinforces that the Revenue must first seek recovery from the defaulting supplier before proceeding against a bona fide recipient.

HIGH COURT OF TRIPURA

Malaya Rub-Tech Industries

Union of India^*

M.S. RAMACHANDRA RAO, CJ.
and BISWAJIT PALIT, J.

WP (C) No. 849 of 2022

FEBRUARY 10, 2026

Somik Deb, Ms. Adwitya Chakraborty and J. Samed, Advs. for the Petitioner. Bibhal Nandi Majumder, Sr. Adv., Bidyut Majumder, Deputy SGI, Mangal Debbarma, Addl. G.A., Biplabendu Roy and Samrat Sarkar, Advs. for the Respondent.

JUDGMENT

1. Petitioner is a partnership firm carrying on business of rubber in various parts of the country including the State of Tripura. It was registered under the CGST Act, 2017 and also under the SGST Act, 2017.

2. For the purpose of carrying on its business, it had to purchase certain materials which are used in furtherance of manufacturing of finished products from respondent No.7 for the period stretching from 08.03.2018 to 30.11.2018.

3. According to the petitioner, prior to effecting purchases of the input materials from respondent No.7, for production of the finished materials, petitioner had paid off the due taxes payable therefor, and even the materials purchased had been utilized in the course of manufacturing of the finished products, and therefore the petitioner was entitled to Input Tax Credit [“ITC”, for short].

4. It is also stated that the petitioner was under a bona fide belief that respondent No.7 had deposited the due taxes payable by the petitioner, and so the petitioner claimed benefit of ITC admissible to it.

5. But the respondent No.6, exercising powers under Section 73(1) of the CGST Act, 2017 had issued a show cause notice on 14.01.2021 to the petitioner stating that for the tax period stretching from August, 2017 to July, 2019, the due tax has either not been paid or paid short or refunded or released erroneously or the ITC was wrongly availed or wrongly utilized by the petitioner, and asked the petitioner to show cause why Rs.22,09,964.04/-should not be recovered from the petitioner.

6. In the same notice, the petitioner was asked to furnish reply, and the petitioner submitted a reply on 29.12.2021.

7. Thereafter, an order dt.17.02.2022 was passed by the sixth respondent saying that the petitioner had unauthorizedly claimed ITC, and directed the petitioner to make the payment of the above mentioned amount.

8. Challenging the same, this Writ Petition has been filed.

9. It is the contention of the petitioner that the wording of the show cause notice dt.14.01.2021 itself is vague, evasive, and the allegations are mutually contradictory, and because it is vague, the show cause notice itself cannot be sustained.

10. Petitioner also contended that Section 16(2)(c) has been wrongly invoked to deny ITC to the petitioner, since the transaction between the petitioner and the seventh respondent was a bona fide transaction, and there was no mechanism under the CGST/SGST Act, 2017 by which the petitioner could compel the seventh respondent to discharge to the respective governments’ duty to make over the tax collected by him from the petitioner, and for the default of the seventh respondent in making over the tax paid by the petitioner for the purchase of materials to the respective governments, petitioner cannot be penalized.

11. Counsel for the petitioner also placed reliance on a recent Division Bench judgment of this Court in Sahil Enterprises v. Union of India (TRIPURA)/WP(C) No.688 of 2022 dt.06.01.2026.

12. In that judgment, the Supreme Court considered certain judgments of the Supreme Court, Delhi High Court and also the Gauhati High Court, and opined that the Parliament had failed, while enacting Section 16(2)(c) of the Act, to make a distinction between purchasing dealers who have bona fide transacted with the selling dealer by taking all precautions as required by the Act, and those who did not.

It held that there is need to restrict denial of ITC only to the selling dealers who have failed to deposit the tax collected by them, and not punish bona fide purchasing dealers. It reasoned that a purchasing dealer cannot be asked to do the impossible i.e. to identify a selling dealer, who will not deposit with the Government, a tax collected by him from purchasing dealers, and avoid transacting with such selling dealers.

It was also held that alternatively what Section 16(2)(c) of the Act requires the purchasing dealer to do, is that after transacting with the selling dealer, somehow ensure that the selling dealer does in fact deposit the tax collected from the purchasing dealer; and if the selling dealer fails to do so, undergo the risk of being denied the ITC.

It held that it would be extremely difficult for a purchasing dealer to ensure that the selling dealer deposits the GST collected from him with the Government. It thus concluded that Section 16(2)(c) of the Act places an onerous burden on a bona fide purchasing dealer, and in such circumstances if the law seeks to visit disproportionate consequences on a bona fide purchasing dealer, it will become vulnerable to invalidation on the touchstone of Article 14 of the Constitution of India.

It therefore held that the principle of reading down the said provision has to be applied, to save it from the vice of unconstitutionality. It concluded that there is nothing in the language in the Act which expressly enables the respondents to tax a purchaser, who has already paid taxes to the seller, a second time by denying him ITC in all situations, and that Parliament never intended to punish a taxpayer by denying him ITC, if the transaction entered into by him with a seller or supplier, is bona fide.

It therefore upheld the constitutional validity of Section 16(2)(c) of the Act, but held that the said provision cannot be interpreted to deny ITC to purchasers in a bona fide transaction, and it should be read down and applied only where the transaction is found to be not bona fide, or is a collusive transaction or fraudulent transaction to defraud the revenue.

13. The show cause notice dt.14.01.2021 issued by the sixth respondent to the petitioner in the instant case, as well as the order passed on 17.02.2022 by the said officer, do not contain any findings therein that the transaction between the parties i.e. the petitioner and the seventh respondent, is not bona fide, or is a collusive, or a fraudulent transaction to defraud the revenue.

14. If such a situation had been there, certainly the sixth respondent would not have invoked Section 73 of the Act which lays down the procedure for determination of tax for reasons other than fraud or any wilful misstatement or suppression of facts. He would certainly have invoked Section 74 of the Act which lays down the procedure for determination of tax not paid or short paid or erroneously refunded or input tax credited wrongly availed or utilized by reason of fraud or any wilful misstatement or suppression of facts.

15. Therefore, the ratio of the judgment in Sahil Enterprises ( supra) is clearly attracted, and the transaction between the parties i.e. the petitioner and the seventh respondent in the instant case, has to be held to be a bona fide transaction, and consequently for the failure of the seventh respondent to make over the tax collected by it from the petitioner, the petitioner cannot be punished by applying Section 16(2)(c) of the Act.

16. Therefore, the Writ Petition is allowed, and the order dt.17.02.2022 passed by the sixth respondent is set aside, and the respondents are directed to forthwith allow the petitioner ITC to the extent of Rs.22,09,964/-. No costs.