The Gujarat High Court bench of Justice J.B. Pardiwala and Justice Nisha M. Thakore has held that the department cannot block the Input Tax Credit (ITC) without assigning any reason to the assessee.

The writ petitioner/assessee, a proprietary concern, is in the business of trading in M.S. scrap for the past 13 years. The proprietary firm purchases the scraps from different suppliers and sells them to different entities.

The assessee had purchased M.S. Scrap from one of its suppliers, namely, M/s Anmol Enterprise, during the period between 22.12.2020 and 27.03.2021. 

When the assessee received the goods from the supplier along with the tax invoices, weighment slips, e-way bills, etc., which are the documents prescribed for the purchase under the provisions of the CGST Act, 2017. The purchases made were duly reflected on the Form GSTR-3B, Form GSTR-2A, and Form GSTR-2B, respectively. 

One day, it came to the notice of the assessee that the respondent/department had blocked the ITC in the exercise of power under Rule 86A of the CGST Rules to the tune of Rs. 97,17,290 on the purchases made from M/s. Anmol Enterprise.

The assessee came to know about the blocking of the ITC through e-mail and SMS on 28.07.2021. Upon receipt of an e-mail and SMS, the assessee checked up with the GST portal wherein it was displayed that the ITC had been blocked by the department without assigning any reasons. 

The assessee inquired with the department on what basis the ITC was blocked, but there was no response at the end of the department. 

Counsel appearing for the assessee contended that it was expected of the department to at least convey the reasons, if not in detail, at least in brief, for blocking the ITC under Rule 86A of the CGST Rules.

Counsel appearing for the assessee submitted that, without any reasons, how would a dealer come to know why his ITC has been blocked? All the transactions of his client with M/s. Anmol Enterprise were clean. If there was any information or material with the department to doubt the credentials of M/s. Anmol Enterprise, then for that reason alone, the ITC of the assessee could not have been blocked. The assessee was a bona fide purchaser of the goods. The goods were delivered in accordance with the law. 

On the other hand, the counsel for the respondent contended that the satisfaction arrived at by the authorities was based on some information or material, and it cannot be said that the action on the part of the department in blocking the ITC was illegal.

Counsel for the respondent urged that the inquiry be in progress. He conceded that although 7 months have elapsed, since the ITC came to be blocked, no show cause notice has been issued till this date under Section 73 or 74 of the CGST Act. 

Counsel for the respondent submitted that the object of blocking the ITC in the exercise of power under Rule 86A of the CGST Rules was to protect the interest of the Revenue.

Rule 86A of the CGST Rules has conferred drastic powers upon the proper officers if they have reason to believe that the activities or invoices are suspicious. Rule 86A is based on "reason to believe". "Reason to believe" must have a rational connection with or relevant bearing on the formation of the belief. It is a subjective term and can be interpreted differently by different individuals. Prima facie, it appears that Rule 86A does not even contemplate the issue of any show-cause notice or intimation notice. In such circumstances, the person affected may be taken by surprise when he goes to the portal to pay taxes and finds that his ITC is not usable.

Rule 86A of the CGST Rules has two prerequisites to be fulfilled before the power of disallowing debit of a suitable amount to the Electronic Credit Ledger or blocking of ECL to the extent of the amount fraudulently or wrongly availed of is exercised. 

Firstly, pre-requisite is of the Competent Authority or the Commissioner having been satisfied on the basis of the material available before him that blocking of electronic credit ledger (ECL) is necessary. 

Secondly, the pre-requisite is to record the reasons in writing for such an exercise of the power. From the language used in Rule 86-A of the CGST Rules it becomes very clear that unless both these pre-requisites are fulfilled, the authority cannot disallow the debit of the determined amount to the ECL or cannot block the ECL even to the extent of the amount found to be fraudulently or wrongly availed of.

The court observed that the order blocking the ITC was bereft of any reasons, and there was no question of any reflection of the authority passing the order on being satisfied about the necessity of passing it. When the first requirement of Rule 86A of the CGST Rules is "having reasons to believe" and it has manifestly not been followed, the impugned order would have to be treated as erroneous in law. The second requirement regarding the recording of reasons in writing is also followed in breach. In such circumstances, it can be said that the case on hand is one of an arbitrary exercise of power under Rule 86A of the CGST Rules.

"The respondents are at liberty to pass a fresh order under Rule 86A of the Central Goods and Service Tax Rules, 2017 in accordance with law," the court said while quashing the order blocking the ITC of the assessee.