2025 (7) TMI 264 - HC - GST

Blocking of Electronic credit ledger of the petitioner - before passing the impugned order pre-decisional hearing was not provided to the petitioner nor does the impugned order contain any reason to believe as to why it was necessary to block the Electronic credit ledger - violation of principles of natural justice - HELD THAT - In K-9-Enterprises 2024 (10) TMI 491 - KARNATAKA HIGH COURT the following points were answered in favour of the petitioner- assessee by holding that The aforesaid facts and circumstances are sufficient to come to the unmistakable conclusion that in the absence of valid nor sufficient material which constituted reasons to believe which was available with respondents the mandatory requirements/pre- requisites/ingredients/parameters contained in Rule 86A had not been fulfilled/satisfied by the respondents- revenue who were clearly not entitled to place reliance upon borrowed satisfaction of another officer and pass the impugned orders illegally and arbitrarily blocking the ECL of the appellant by invoking Rule 86A which is not only contrary to law but also the material on record and consequently the impugned orders deserve to be quashed. In the instant case since no pre-decisional hearing are provided/granted by the respondents before passing the impugned order coupled with the fact that the impugned order invoking Section 86A blocking of the Electronic credit ledger of the petition does not contain independent or cogent reasons to believe/accept by placing reliance upon reports of enforcement authority which is impermissible in law since the same is on borrowed satisfaction as held by Division Bench the impugned order deserves to be quashed. The concerned respondents are directed to unblock the Electronic credit ledger of the petitioner immediately upon the receipt of copy of this order so as to enable the petitioner to file returns forthwith - the impugned order is quashed - petition allowed.

Summary

The core legal questions considered by the Court in this matter were:

1. Whether the impugned order blocking the Electronic Credit Ledger (ECL) under Rule 86A of the Central Goods and Services Tax Rules, 2017 (CGST Rules) was legally sustainable, particularly in the absence of a pre-decisional hearing and independent reasons to believe.

2. Whether the provisions of Rule 86A of the CGST Rules are unreasonable, arbitrary, discriminatory, and violative of Articles 14 and 19(1)(g) of the Constitution of India.

3. Whether the power to block the ECL under Rule 86A requires an independent application of mind and formation of cogent reasons based on tangible material, rather than mere reliance on reports or satisfaction borrowed from other officers.

4. Whether the impugned order complied with the principles of natural justice and the doctrine of proportionality in the exercise of the power to block the ECL.

5. Whether the respondents had the authority to block the ECL based on the material before them, and if not, whether the order deserved to be quashed.

Issue-wise Detailed Analysis:

Issue 1: Validity of the Order Blocking the Electronic Credit Ledger under Rule 86A

The relevant legal framework is Rule 86A of the CGST Rules, 2017, which empowers the Commissioner or an officer authorized by him to block the electronic credit ledger of a registered person if there are "reasons to believe" that the input tax credit (ITC) available has been fraudulently availed or is ineligible. The rule mandates that such reasons must be based on cogent material and recorded in writing. The CBEC Circular dated 02.11.2021 elaborates on the grounds and procedural safeguards for invoking this rule, emphasizing the necessity of an independent application of mind and objective evaluation rather than mechanical or borrowed satisfaction.

The Court relied heavily on the Division Bench decision in K-9-Enterprises, which clarified that the power under Rule 86A is drastic and draconian, requiring strict compliance with the twin pre-requisites: (i) existence of material to form reasons to believe, and (ii) recording of reasons in writing. The Court underscored that the "reasons to believe" must arise from an independent inquiry by the competent authority and cannot be based solely on reports or investigations conducted by other officers.

In the instant case, the impugned order blocking the petitioner's ECL was passed without providing any pre-decisional hearing and was based on a field visit report by an Assistant State Tax Officer from another jurisdiction (Goa). The order lacked independent reasoning or cogent material to justify the blocking. The Court found that the order was "bald, vague, cryptic, laconic, unreasoned and non-speaking" and was passed mechanically relying on borrowed satisfaction. This violated the mandatory procedural requirements and principles of natural justice.

Thus, applying the law to facts, the Court held that the impugned order was illegal and unsustainable.

Issue 2: Constitutional Validity of Rule 86A under Articles 14 and 19(1)(g)

The petitioner challenged Rule 86A as being unreasonable, arbitrary, and discriminatory, infringing Article 14 (Right to Equality) and Article 19(1)(g) (Right to Practice Profession or Carry on Business) of the Constitution. The Court, while not explicitly invalidating the rule, read down its provisions in light of the principles of natural justice and the requirement of independent satisfaction before blocking the ECL.

The Court emphasized that the power under Rule 86A must be exercised with utmost circumspection and cannot be arbitrary. The absence of a pre-decisional hearing and failure to record independent reasons rendered the exercise of power violative of the petitioner's fundamental rights. The Court's approach ensured that Rule 86A is applied in a manner consistent with constitutional guarantees.

Issue 3: Requirement of Independent Application of Mind and Formation of Opinion

The Court reiterated that the expression "reasons to believe" entails a subjective satisfaction grounded in objective material. The competent authority must form an independent opinion after applying mind to the facts and circumstances of the case, rather than acting on the basis of another officer's findings or mere suspicion.

The impugned order failed this test as it was based solely on the field visit report indicating that the supplier was a "bill trader" and the business premises were non-existent. The Court held that such borrowed satisfaction is impermissible, especially since the transactions in question could have been genuine at the time they were entered into, and closure of business at a later date cannot be a sole ground to deny ITC.

The Court drew support from the CBEC Circular and prior judicial pronouncements emphasizing the need for an objective and independent determination before blocking the ECL.

Issue 4: Compliance with Principles of Natural Justice and Doctrine of Proportionality

The Court emphasized that Rule 86A's power to block the ECL is a drastic measure that affects a taxpayer's valuable right to avail ITC. Therefore, the procedure must incorporate principles of natural justice, including the right to be heard before such an order is passed.

The absence of pre-decisional hearing in the present case was a fatal infirmity. Further, the Court applied the doctrine of proportionality, requiring a proximate and live nexus between the need for blocking the ECL and the purpose of protecting government revenue. Mere apprehension or suspicion without tangible material is insufficient.

The impugned order failed this test as it did not establish why the petitioner's ITC would be ineligible or fraudulent, nor did it demonstrate how the blocking was necessary to protect revenue interests. The order was thus arbitrary and disproportionate.

Issue 5: Authority of Respondents and Quashing of the Impugned Order

Considering the above analysis, the Court concluded that the respondents lacked valid authority to block the petitioner's ECL under Rule 86A in the absence of independent reasons to believe and pre-decisional hearing.

The impugned order was quashed, and the respondents were directed to unblock the petitioner's ECL immediately to enable filing of returns. However, liberty was reserved to the respondents to proceed against the petitioner in accordance with law and the principles laid down in the Division Bench judgment in K-9-Enterprises.

Significant Holdings:

"The power of disallowing debit of amount from electronic credit ledger must not be exercised in a mechanical manner and careful examination of all the facts of the case is important to determine case(s) fit for exercising power under rule 86A. The remedy of disallowing debit of amount from electronic credit ledger being by its very nature extraordinary, has to be resorted to with utmost circumspection and with maximum care and caution."

"When a thing is directed to be done in a particular manner, it must be done in that manner or not at all is the well-established principle of administrative law."

"The formation of the opinion must bear a proximate and live nexus to the purpose of protecting the interest of the government revenue."

"Mere apprehension that huge tax demands are likely to be raised on completion of assessment is not sufficient for the purpose of passing a provisional attachment order."

"The impugned order discloses that the same has been passed mechanically and is based on borrowed satisfaction and does not meet the test of formation of an opinion of the Assessing Officer who seems to have been influenced by the findings of the Investigation Wing and have not independently formed an opinion."

"The impugned order which is bald, vague, cryptic, laconic, unreasoned and non-speaking order deserves to be set aside."

In conclusion, the Court underscored that the exercise of power under Rule 86A to block the Electronic Credit Ledger is a serious and drastic step that must be preceded by independent, reasoned satisfaction based on tangible material and must comply with the principles of natural justice and proportionality. Failure to adhere to these requirements renders such orders illegal and liable to be quashed.