Introduction
The GST framework is often described as a system that allows credit to move seamlessly across transactions, with each participant in the supply chain passing on tax in a continuous flow. In practice, this depends on a basic assumption: that each link in the chain performs its part as expected.
That assumption begins to break down when compliance is uneven. A purchaser may complete a transaction, pay the tax component to the supplier, and reflect the credit in its returns. Yet the continuity of credit does not depend only on what the purchaser has done. It depends on whether the supplier has, in fact, deposited that tax with the Government.
It is at this point that the structure of input tax credit (“ITC”) under the Central Goods and Services Tax Act, 2017 becomes more restrictive than it appears. Section 16(2)(c) makes entitlement to ITC conditional on actual payment of tax to the Government. The provision does not distinguish between cases where the purchaser has complied fully and those where the supplier defaults.
This issue was decided by the Gujarat High Court in the case of Maruti Enterprise v. Union of India (C/SCA/18080/2023), where the Hon’ble Court upheld the denial of ITC to purchasing dealers on account of supplier default. The decision brings into focus a more fundamental question within the GST framework: whether entitlement to credit is determined by the conduct of the individual taxpayer, or by the reliability of the supply chain as a whole.
The Statutory Framework
The statutory scheme does not treat ITC as automatic. Section 16 permits credit subject to a set of conditions; possession of invoice, receipt of goods or services, and filing of returns. Alongside these, clause (c) requires that the tax must have been paid to the Government.
On paper, this appears as one condition among others. In operation, however, it functions differently. Credit is claimed on the basis of GSTR-2B, which reflects what the supplier has reported. It does not indicate whether the supplier has actually discharged the tax liability. The purchaser therefore operates within a system where compliance is assessed through available data, while entitlement depends on a fact that remains outside that data.
The condition of actual tax payment is therefore decisive, but the system through which ITC is claimed does not allow the purchaser to confirm whether that condition has been met.
The Issue in Cases of Supplier Default
The difficulty becomes visible in cases where the supplier collects tax but does not deposit it. From the purchaser’s perspective, the transaction is complete. Payment has been made, goods or services have been received, and returns have been filed. Yet the condition under Section 16(2)(c) remains unsatisfied.
In the batch of petitions before the Gujarat High Court in Maruti Enterprise v. Union of India, this outcome was directly challenged. The petitioners argued that the provision operates harshly where the purchaser has acted in good faith but has no means of verifying supplier compliance.
The argument was not framed as a rejection of conditions on ITC, but as a limitation on how far those conditions can extend. By linking entitlement to an act performed by another party, the provision was said to impose a burden that the purchaser cannot realistically discharge.
This was reinforced through reliance on the principle lex non cogit ad impossibilia and on pre-GST era decisions such as On Quest Merchandising India Pvt. Ltd. v. Government of NCT of Delhi [2018] 10 GSTL 182 (Del), where courts had protected bona fide purchasers and “innocent buyers” in similar circumstances.
The Decision of the Hon'ble High Court
The Hon’ble Court did not engage with these arguments by expanding the scope of protection for purchasers. Instead, it returns to the structure of the statute. Section 16(2) is read as setting out strict, cumulative conditions, meaning all of them must be met before input tax credit can be claimed. Within this structure, actual payment of tax is not seen as a mere formality but as something fundamental to the very existence of the credit. The Hon’ble Court acknowledged that buyers have no real way to verify whether the supplier has paid the tax, but it does not treat this as a reason to dilute the requirement. Instead, it sticks closely to the wording of the statute.
The Hon’ble Court also draws a clear line between GST and the earlier VAT system. Under GST, credit flows across states and depends on taxes actually being realised, so allowing credit without payment would disrupt the system. Section 41 is used to soften the impact: since credit can be reversed and later reclaimed once the supplier pays, the denial is framed as temporary rather than absolute.
On this basis, the provision is upheld.
Effect of the Ruling
The decision clarifies that ITC under GST does not arise at the point where the purchaser completes its part of the transaction. Instead, entitlement depends on whether the tax has actually entered the system. The flow of credit is therefore not triggered by individual compliance alone, but by the completion of the tax chain. This also means that the framework does not distinguish between different types of purchasers. The consequence of supplier default applies uniformly, regardless of whether the purchaser acted in good faith or otherwise.
The Limits of the Statutory Safeguard
A central part of the Hon’ble Court’s reasoning is the mechanism under Section 41 of the CGST Act. The provision operates on a simple sequence. A registered person may avail ITC on a self-assessment basis, but where it is later found that the supplier has not paid the tax, the credit is required to be reversed along with applicable interest. The same credit can be re-availed only after the supplier subsequently discharges the tax liability.
In effect, Section 41 converts the consequence of supplier default into a temporary denial of credit rather than a permanent loss. This is what the Hon’ble Court relies on to justify the validity of Section 16(2)(c): the purchaser is not deprived of ITC altogether, but only until the tax is actually paid.
The consequences, however, are more significant.
First, the burden falls squarely and immediately on the purchaser. Once the supplier’s non-payment is flagged, the purchaser must reverse the ITC and may also have to pay interest for the period the credit was used. This creates an immediate cash flow hit, even though the purchaser has already paid the tax to the supplier.
Second, getting the credit back depends entirely on the supplier. The law gives the purchaser no real way to force payment and sets no timeline for the supplier to fix the default. If the supplier delays or never pays, the credit effectively remains out of reach.
Third, even if the supplier eventually pays, the purchaser still bears the interim strain on working capital. Section 41 restores the entitlement in principle, but it does nothing to offset that temporary financial burden.
In that sense, Section 41 keeps the door to credit open, but it does not remove the commercial risk that comes with supplier default.
AMLEGALS Remarks
The ruling in Maruti Enterprise v. Union of India confirms that ITC under GST is anchored in actual tax realisation rather than in the completion of an individual transaction. This strengthens the internal logic of the system by ensuring that credit flows only where tax has been paid. At the same time, it redistributes risk within the supply chain, making entitlement dependent on factors that lie beyond the purchaser’s control. The result is a framework in which GST does not operate solely through individual compliance, but through the reliability of the network as a whole.