K-9 Enterprises vs The State Of Karnataka on 2 April, 2024

Outcome**
The High Court of Karnataka, Dharwad Bench, allowed all the writ appeals. It set aside the common order dated 27.07.2023 passed by the learned Single Judge and quashed the impugned orders dated 27.06.2023 (and 02.06.2023 for one appellant) that blocked the Electronic Credit Ledgers (ECLs) of the appellants.

2. Core Issue
The core issues before the Division Bench were:
* Whether the revenue authorities were justified in not providing a pre-decisional hearing to the appellants before blocking their Electronic Credit Ledgers (ECLs) under Rule 86A of the Central Goods and Services Tax (CGST) Rules, 2017.
* Whether the revenue authorities were justified in blocking the appellants' ECLs by invoking Rule 86A of the CGST Rules, specifically concerning the requirement of "reasons to believe" and independent application of mind.
* Whether the impugned order of the learned Single Judge, which upheld the blocking without a pre-decisional hearing and found the invocation of Rule 86A justified, warranted interference.

3. Key Facts
* Appellants are registered under GST and engage in business involving Lead, lead scrap, and other related activities.
* They availed Input Tax Credit (ITC) on purchases, which was reflected in their Electronic Credit Ledgers (ECLs).
* On 27.06.2023 (and 02.06.2023 for one case), the Assistant Commissioner of Commercial Taxes blocked the appellants' ECLs by invoking Rule 86A of the CGST Rules, 2017.
* The blocking action was primarily based on a field visit report from an Assistant State Tax Officer in Vasco-D-Gama, Goa, which indicated that the appellants' suppliers were found to be non-existent or not conducting business from their registered places.
* The appellants challenged these blocking orders before a Single Judge of the High Court, who rejected their contentions and disposed of the petitions, upholding the revenue's action.
* These intra-court appeals were filed by the appellants against the Single Judge's common order.

4. Arguments (Taxpayer vs Revenue)

Taxpayer (Appellants - through Senior Counsel as Amicus Curiae):
* The Single Judge's order is contrary to law, especially Rule 86A and principles of natural justice.
* A pre-decisional hearing is mandatory before blocking ECL under Rule 86A, as it entails serious civil consequences. A post-decisional hearing is not a sufficient substitute.
* The power under Rule 86A is "drastic and draconian" and requires strict compliance with all conditions, particularly the existence of "reasons to believe."
* "Reasons to believe" must be based on independent inquiry and application of mind by the concerned officer, not merely "borrowed satisfaction" from another authority's investigation report (e.g., the Goa officer's report).
* Blocking was done without verifying the genuineness of the transactions, and a bonafide purchaser should not be denied ITC due to a supplier's default.
* Blocking ECL defeats the principles of Value Added Tax (VAT) and causes irreparable injury and hardship, as ITC is a valuable right.
* CBEC Circular No. CBEC-20/16/05/2021-GST/1552 dated 02.11.2021 emphasizes careful examination and objective determination, not mechanical exercise of power.
* The impugned orders were bald, vague, cryptic, unreasoned, and non-speaking, indicating a lack of independent opinion formation.
* Since the department has issued notices under Sections 73 or 74 for assessment, these proceedings should continue, but the drastic step of blocking ITC without prior hearing should be withdrawn.
* Appellants are established businesses, not "flight risks," and final adjudication allows for a 10% deposit for appeal, making immediate blocking unwarranted.

Revenue (Respondents):
* Supported the impugned order of the learned Single Judge.
* Contended that there was no merit in the appeals and they should be dismissed.
* (Implicitly, the revenue's argument, upheld by the Single Judge, was that the field visit report provided sufficient "reasons to believe" and a pre-decisional hearing was not necessary for invoking Rule 86A, or that a post-decisional hearing was adequate).

5. Court’s Reasoning
The Division Bench meticulously analyzed the requirements of Rule 86A and the principles of natural justice:

• On Pre-decisional Hearing:

  • While Rule 86A does not explicitly mandate natural justice, the Court held that the requirement of a pre-decisional hearing must be read into the provision. This is because blocking an ECL for up to one year leads to serious "civil consequences" for the taxpayer.
  • Citing Supreme Court precedents (e.g., C.B. Gautam, Sahara India (Firm), K.I. Shephard, H.L. Trehan), the Court affirmed that natural justice is a pragmatic requirement of fair play, applicable even to administrative actions that have adverse civil consequences, unless expressly excluded by statute or in exceptional, urgent circumstances.
  • The Court clarified that a post-decisional hearing is generally not a substitute for a pre-decisional hearing, as there is a natural tendency to uphold an already taken decision.
  • The Court noted that ECL utilization is not instantaneous like bank account withdrawals; therefore, emergent blocking without a prior hearing was not justified. Revenue could monitor and intervene if necessary during a pre-decisional hearing process.
  • The Single Judge erred by concluding that a pre-decisional hearing was not required.

• On "Reasons to Believe" and Justification under Rule 86A:

  • The Court emphasized that Rule 86A requires the competent officer to have their own independent "reasons to believe" that ITC has been fraudulently or ineligibly availed. This belief must be based on objective material, not merely "borrowed satisfaction" or directions from another authority (e.g., the Goa field visit report).
  • The power under Rule 86A is "draconian" and must be exercised with "utmost circumspection and maximum care and caution" and based on "objective determination."
  • The Court reiterated the CBEC Circular dated 02.11.2021, which mandates "proper application of mind" and "careful examination of all facts" before exercising powers under Rule 86A.
  • The impugned orders were found to be mechanical, based on borrowed satisfaction, and failed the test of independent opinion formation. This violates the administrative law principle that "when a thing is directed to be done in a particular manner, it must be done in that manner or not at all."
  • The revenue failed to verify the genuineness of the transactions or establish that the appellants deliberately availed fraudulent ITC. A bonafide purchaser cannot be denied ITC solely due to the supplier becoming non-existent, especially if the transaction was genuine at the time.
  • Citing Xiaomi Technology India (P) Ltd. (which referenced Radha Krishan Industries), the Court highlighted that such draconian powers require a "proximate and live nexus" between the need for attachment/blocking and the purpose of protecting revenue, ensuring proportionality.
  • Consequently, the blocking orders were held to be bald, vague, cryptic, laconic, unreasoned, non-speaking, and contrary to law.

6. Statutory References
* Central Goods and Services Tax Rules, 2017: Rule 36, Rule 86A (1), (2), (3)
* Central Goods and Services Tax Act, 2017: Section 49, Section 73, Section 74, Section 107(6), (7), Section 83, Section 62, Section 63, Section 64, Section 67
* Constitution of India: Article 14, Article 226
* Income Tax Act: Chapter XX-C, Section 269UD (1), (2), Section 142(2A), (2D), Section 44AB, Section 136, Section 281, Section 281B, Section 153A
* Indian Penal Code, 1860: Sections 193, 228, 196
* Code of Criminal Procedure, 1973: Section 195
* Bombay Municipal Corporation Act, 1888: Section 314
* Banking Regulation Act, 1949: Section 45
* Chartered Accountants Act, 1949
* Gujarat Value Added Tax Act, 2003: Section 45(1)
* Himachal Pradesh Goods and Services Tax Act: Section 74
* Circulars: CBEC Circular No. CBEC-20/16/05/2021-GST/1552 dated 02.11.2021
* Legislative Documents: Agenda of 38th GST Council Meeting, Para 35.2 of Minutes of 38th GST Council, Statement of objects and reasons appended to Constitution (122nd Amendment) Bill, 2016, Statement of Objects and Reasons appended to the Bill introducing the CGST Act.

7. Precedents Cited
1. Auto and General Engineering Citizen Society Vs State of Andhra Pradesh (AIR 1988 AP 266)
2. State Bank of Patiala Vs. S.K. Sharma ((1996) 3 SCC 364)
3. Canara Bank Vs. Devasis Das ((2003) 4 SCC 557)
4. Charan Lal Sahu Vs. Union of India (AIR 1990 SC 1480)
5. Sara India (Firm) Vs. Commissioner of Income Tax (2008(226)ELT 22(SC)) (also referred to as Sahara India Firm)
6. C.B. Gautham Vs. Union of India (1992 (65) taxman 440) (SC) (also referred to as CB Gautam)
7. K.I. Shephard Vs. Union of India ((1987) 4 SCC 431) (also referred to as K.I.Shepherd)
8. H.L. Trehan Vs. Union of India ((1989) 1 SCC 764)
9. Dee Vee Project Ltd Vs. Government of Maharashtra (2022(135) taxman.com 189(Bom))
10. Calcutta Discount co Ltd. Vs. ITO (1961(41) ITR 191(SC))
11. Century Metal Recycling Ltd vs. Union of India (2019(367) ELT 3 (SC))
12. CIT Vs. Kelvinator of India Limited ((2010) 2 SCC 723)
13. New Nalbandh trader Vs. State of Gujarat (2022 (66) GSTL 334 (Guj))
14. Rajanandini Metal LTD Vs. Union of India (2022(64) GSTL 301(P&H))
15. Parity Infotech Solutions (P) Ltd Vs Govt of National Capital Territory of Delhi (2023(151) taxman.com 349(Del))
16. Xiaomi Technology India(P) Ltd, Vs DCIT (2022 - 2022(145) taxman.com 501 (kar)) (also referred to as Xiaomi's case)
17. Bright State Plastic Industries vs Addl. Commr of Sales Tax (Appeal) (2022(57) GSTL 226 (Ori))
18. Arhaan Ferrous and Non-Ferrous Solutions (P) Ltd, vs Deputy Assistant Commissioner-1 (ST) (2023(9) Centax 171(AP))
19. State of Maharashtra vs Suresh Trading Company ((1997) 11 SCC 378)
20. On Quest Merchandising India Pvt.Ltd, vs. Government of NCT of Delhi ((2018) 10 GSTL 182(Del))
21. Sanchita Kundu vs. Asst. Commissioner of State Tax (2022(63) GSTL 413 (Cal))
22. LGW Industries Ltd vs Union of India (WPA No.23512/2019(Cal))
23. Vodafone International Holdings BV vs Union of India ((2012) 6 SCC 613)
24. Commissioner of Central Excise Vs. Kay Kay Industries ((2013) 295 ELT 177)
25. M/s.DY Beathel Enterprises Vs state Tax Officer (2022(58) GSTL 269 (Mad))
26. Suncraft Energy Pvt Ltd vs.AC - State Tax (2023(9) Centax 48 (Cal))
27. Collector of Central Excise vs. Dai Inchi Karkaria Ltd (1999(112) ELT 353 (SC))
28. Eicher Motors vs Union of India (1999 (106) ELT 3 (SC))
29. Samay Alloys India (P) Ltd., vs. State of Gujarat ((2022) SCC OnLine Guj 2595) (also referred to as Samay Alloys' case)
30. A. K. Kraipak v. Union of India
31. ITO v. Madnani Engineering Works Ltd
32. Swadeshi Cotton Mills Co. Ltd. v. Union of India
33. State of Orissa v. Dr. Miss Binapani Dei
34. Canara Bank v. V. K. Awasthy
35. Union of India v. J. N. Sinha
36. Mohinder Singh Gill v. Chief Election Commissioner
37. Olga Tellis v. Bombay Municipal Corporation
38. Union of India v. Col. J. N. Sinha
39. Rajesh Kumar (Supreme Court decision, referred to in the context of Section 142(2A) of the Income Tax Act)
40. Radha Krishan Industries (Supreme Court decision, referred to in the context of Section 83 of the CGST Act)
41. Indian Minerals Case (High Court decision, referred to in the context of Section 281B of the I.T. Act)
42. Vishwanath Realtor v. State of Gujarat (2015 SCC OnLine Guj 6564)