In the six years following the introduction of the goods and services tax (GST) regime in India, the GST Council has been proactive in initiating and aligning the GST laws to international best practices and engendering trade and industry. The question of interest liability is a saga, that witnessed protracted policy efforts and sustained judicial interest.

India’s GST law levies interest at 18% per annum on delayed payment of tax and utilisation of wrongfully availed credit. In addition to interest, India’s GST law also provides for a simultaneous levy of penalty when tax is recovered from an assessee through recovery proceedings.

Through this article, the authors will analyse the rationale for levying interest, consider the GST council rationalising interest rates and provisions, and make a case for further changes to the law through amendments or judicial interpretation to make interest ‘compensatory’ under India’s GST law.

Rationale for levying interest

The IMF has issued working papers/notes analysing the key issues which have to be considered when designing interest and penalty regimes. Stressing how interest and penalties serve very different objectives, it was observed:

“It is common for the rate of interest for underpayment or late payment of taxes to be higher than commercial lending rates. At a minimum, the rate of interest that is charged on an underpayment or late payment needs to compensate the government budget for the lost time value of the money had the payment been made on the relevant due date. While the interest rate should not be set so low so as to encourage taxpayers to use the government as a lending institution (for instance by using tax arrears as alternative form of finance), the rate should also not be set so high so as to be punitive.”

In alignment with above observations, the UK’s national taxing authority has set interest rates by linking it to the Bank of England base rate. The late payment interest is set at base rate plus 2.5%.

Thus, it appears that interest around the world is intended to be compensatory in nature and not punitive. Interest rates are set higher than commercial lending rates only to deter taxpayers from using tax arrears as alternative form of finance, albeit not so high a rate that it becomes punitive.

GST council on ‘interest’

The GST Council has extensively deliberated on the rate of interest to be imposed on taxpayers for delayed payment of tax. The Council in its discussions recognised the need to fix interest rates applicable for delayed payment of tax at a few points higher than prevailing bank rates and considered a proposal to levy interest at 16% per annum. Finally, the Council decided on fixing interest at 18% per annum in all cases where interest is payable at the hands of the taxpayers’. When GST was introduced, the rate of interest per annum applicable for utilisation of wrongfully availed input tax credit (ITC) was 24% and pursuant to the Council’s decision, it was reduced to 18% retrospectively. The GST council’s discourse on rationalising interest rates considering the bank rates, indicates an intention of treating interest as ‘compensatory’ under GST law.

The Council has also deliberated on the following amendments which have rationalised interest provisions:

1. Amendment to Section 50(3): Section 50(3) of the Central Goods and Services Tax (CGST) Act was substituted retrospectively from July 1 2017 by Section 111 of the Finance Act, 2022, to provide for interest only on utilisation of wrongfully availed ITC. Prior to this amendment, interest was levied not only on utilisation of wrongfully availed ITC but also on mere wrongful availing of ITC; and
2. Insertion of proviso to Section 50(1): A proviso was introduced to Section 50(1) of the CGST Act with retrospective effect from July 1 2017, to provide for payment of interest only on net cash liability in case of delayed payment of self-assessed tax by an assessee before initiation of recovery proceedings.

Compensatory character of interest

The previously mentioned amendments can be welcomed as initial steps in the right direction for rationalising interest provisions. Further amendments are required to make interest liability under GST truly compensatory as opposed to punitive. Some of these changes are discussed below.

Extension of the benefit of proviso to Section 50(1)

The proviso to Section 50(1) waives the liability to pay interest on delayed payment of self-assessed tax by an assessee before initiation of recovery proceedings, only to the extent the same is paid through electronic credit ledger (ECRL). The rationale behind such waiver is that the tax paid using the ECRL was all along available to the revenue authority, and any ‘belated’ payment of tax would not per se deprive the revenue authority of what is legally due to them. In contrast, GST paid belatedly through the electronic cash ledger (ECL) would suffer interest despite carrying sufficient balance.

Such waiver of interest should arguably also be extended to cases where tax is paid belatedly from the ECL in cases where ECL had sufficient balance on the day tax became due. This is because waiving interest on GST paid using ECRL is equally extendable to tax paid using ECL, assuming the moneys deposited in the ECL are also under the control of the revenue authority.

This view is plausible considering the statutory matrix and precedential framework surrounding the ECL, ECrL and the mandate for paying GST:

• Explanation (a) to Section 49 deems the date of credit to the account of the government in the authorised bank is the date of deposit in the ECL. Further, Section 49(6) stipulates that any balance in the ECL or ECrL (after payment of tax, interest, etc.) is refundable under Section 54 of the CGST Act. This shows that amounts lying in ECL are already with the government and thus there is no warrant for compensating the revenue authority by paying interest. When the ECL and ECrL so closely mirror one another, there is no reason to restrict the waiver of interest only to GST paid through ECrL when both ECL and ECrL balances lie with the government; and
• Under the old tax regime, interest liability was waived on tax paid through a personal ledger account (PLA) balance (an equivalent of ECL balance in the previous regime). Notably, the Supreme Court of India in Commissioner of Income Tax-II v. Modipon Ltd., held that a deposit in a PLA implied that the tax had been credited to the revenue authority with the assessee having no domain over the tax.

Granted, there is little room for interpretation when the current law categorically holds interest as payable on belated payment of GST using ECL. Yet, the specific waiver of interest liability on GST paid belatedly using ECrL (via the introduction of the proviso to Section 50(1)) is telling of a larger policy framework that justifiably ought to be applied even to GST paid belatedly using ECL. For one, the interest liability is seemingly triggered upon belated filing of GST returns. When the entire ecosystem of GST Returns was clouded and subjected to frequent amendment, it appears inequitable to saddle an assessee with interest liability for delayed filing of GST returns.

The Supreme Court in CIT v. J H Gotla, 1985 AIR SC 1698 attempted to bridge the gap between equity and taxation, observing that if a construction results in equity rather than injustice, then such construction should be preferred to the literal construction. At the very least, this is a ripe opportunity for policy interventions clarifying that interest liability need not befall a situation of belated filing of GST returns, in a case where sufficient balances are maintained in ECL and ECrL.

Considering principles of equity, the Supreme Court may exercise its power to do complete justice under Article 142 of the Constitution and direct a waiver of interest on delays in paying tax through ECL balance which was available with the government when the liability to pay tax arises. For example, in CST v. Hindustan Aluminium Corpn., (2002) 127 STC 258, discretion was exercised to hold that interest cannot be levied in respect of a dispute like a classification dispute which is resolved only by assessment.

Further rationalisation of interest rates

As interest rates applicable to taxpayers are required to be a few points above commercial lending rates, the same can explicitly flow from the law like in the case of the UK, instead of fixing the interest rate as a particular standard figure. This would ensure that interest rates are automatically increased/reduced whenever commercial lending rates fluctuate.

Tax holiday for interest liabilities emanating during early stages of GST

Many taxpayers are grappling with interest liabilities for alleged short-payment or delayed payment of GST, specifically due to teething troubles in the initial stages of GST. Considering the scale of implementation of the GST regime, it may be worth exploring if a ‘tax holiday’ can be announced, albeit for interest and penal liabilities that may have been imposed during the early stages of GST implementation. This magnanimity would be a welcome policy decision, in the best interest of all parties.

Conclusion

The GST Council’s dedicated efforts at improving the tax regime have greatly benefitted the industry, and it is apparent from the buoyant GST collections and consistent compliance under GST. Therefore, there is is a fervent hope in the tax-paying diaspora for the GST Council to take notice of the difficulties plaguing assessees and take proactive steps towards further rationalisation of interest provisions. This would tie up the loose ends for boosting the business-enabling environment in India.