Paying Twice for a Supplier’s Default: Why Section 16(2)(c) Can No Longer Be Applied by Rote

A buyer pays the invoice, tax included, through the bank. The goods arrive, the return is filed and the credit is claimed. Two or three years later a notice lands: the supplier’s registration has been cancelled with retrospective effect, the tax he collected never reached the exchequer, and the buyer is asked to reverse the credit. In substance, the buyer is being asked to pay the same tax twice. On 1 October 2026, a Division Bench of the Punjab and Haryana High Court, deciding 424 writ petitions that shared this fact pattern, held that Section 16(2)(c) of the CGST Act cannot be put to work in this way. 

In Shaurya Alloys Pvt. Ltd. v. State of Punjab and another (CWP No. 34296 of 2024 and 423 connected petitions, decided on 1 October 2026), the High Court upheld the constitutional validity of Section 16(2)(c) read with Section 155 and declined to read it down to cases of fraud or collusion. It nevertheless held that the provision is not a standalone weapon. It has to be applied together with Sections 41, 73, 74, 75(12), 76, 79 and 155 and Rules 36, 37A and 88C, and never in a routine or mechanical manner merely because a supplier has defaulted or been cancelled. Fourteen guidelines now govern pending and future proceedings before the Central and State officers of Punjab, Haryana and Chandigarh. The notices and orders before the Court have gone back for fresh, reasoned decisions, with no coercive recovery in the meantime.

Section 16(2)(c) makes it a condition of the recipient’s credit that the tax charged on the supply has actually reached the Government. When the GST architecture was designed, that condition was workable because of an automated matching of supplier and recipient returns, which would tell a buyer, and flag to the system, a supplier’s failure to pay. The matching machinery in Sections 42 and 43 was never operationalised and was omitted with effect from 1 October 2022, when Section 41 was substituted. Rule 37A, which lets a recipient reverse credit and reavail it once the supplier files the return, arrived only on 26 December 2022. In the interval, notices to buyers became routine. The Court found a large number of cases in which Section 16(2)(c) had been invoked solely because the supplier’s registration had been cancelled, often retrospectively, without any enquiry into why it was cancelled or whether the buyer had anything to do with it. Deposits made during investigation, and in some cases the cancellation of the buyer’s own registration, completed a familiar picture. The judicial landscape was unsettled. The Delhi High Court in On Quest Merchandising had read down the corresponding VAT provision to protect bona fide buyers, and several High Courts, among them Tripura, Karnataka and Gauhati, followed a similar approach under GST. The Gujarat High Court in Maruti Enterprises went the other way and upheld Section 16(2) (c) as it stands. The Supreme Court, by its order of 24 July 2026 in Bhandari Scrap Traders, affirmed the Gujarat view. It has also entertained a special leave petition against the Tripura decision in Sahil Enterprises, so the debate is not entirely closed. 

The Bench framed the question simply. What exactly is expected of a purchasing dealer who has already paid the tax to its supplier, in ensuring that the supplier deposits it with the Government, when the purchaser has no means of finding out whether the deposit was made?

On validity, the petitioners lost, though not on the merits of their grievance. The Court held that payment of the tax to the Government is the very foundation of input tax credit and not a condition external to it, and that the real complaint was about how the provision was being used. Mindful of Maruti Enterprises and the Supreme Court’s affirmation, it considered judicial discipline to rule out a reading down on the lines of Gheru Lal Bal Chand and On Quest. The challenge to vires was repelled. On application, the petitioners won. Section 16(2)(c) cannot be treated as a standalone provision. Before reversing credit, the proper officer must examine, after hearing the buyer, the circumstances in which the supplier defaulted, the genuineness of the transaction, and the recovery remedies available against the supplier for the relevant period. The fourteen guidelines in para 103 turn this into a procedure. A supplier’s cancellation, a nil or short return or an alert may start an inquiry but cannot by itself justify reversal. Before a notice is issued, the officer must record satisfaction on the particulars of the supplier and the invoices, the precise nature of the default and the status of recovery against the supplier, and the investigation must establish some direct link between the buyer and the default. The notice must disclose the material relied on. Where Section 74 is invoked, it must carry the foundational facts of fraud, and a supplier’s fraud is not attributed to the buyer unless the notice connects the two. The burden under Section 155 remains on the buyer, who may discharge it through invoices, e-way bills, transport receipts, weighbridge slips and stock and consumption records, and the officer must deal with that material in the order. 

The guidelines also require the officer to look at when and why the supplier was cancelled and whether that has any bearing on the particular supply, to ensure that the same tax is not realised twice, to apply the law as it stood in the tax period, to refrain from cancelling the buyer’s own registration merely because the supplier was cancelled, to grant a hearing, and to pass a reasoned order with a specific finding on each disputed condition. A deposit made through Form GST DRC-03 during investigation does not relieve the Department of the need for a proper notice. For the cases before it, the Court did not decide the facts. Where proceedings are at the notice stage, petitioners may file a reply or supplementary reply within eight weeks, and the officer must pass a speaking order after a hearing. Where orders have already been passed, they are not set aside, but they abide by fresh orders to be made after a personal hearing. Amounts reversed, deposited or recovered will be adjusted or refunded with admissible interest as the fresh decision warrants, and no fresh coercive action may be taken until then. The Department remains free to proceed against the defaulting suppliers. The Court was explicit that the position differs where the material shows collusion, fraud, a non-existent supplier or non-receipt of goods or services. In those cases the question is not the supplier’s later default but the buyer’s entitlement to the credit itself. 

The most useful feature of the judgment is the line it draws between a provision and its enforcement. The Bench located the vice not in the text of Section 16(2)(c) but in the act of tearing it out of the scheme of which it is a part (para 98). That distinction is what allows the ruling to sit comfortably alongside Maruti Enterprises and Bhandari Scrap Traders, because nothing in it reads the provision down. It also fixes the nature of the protection. A bona fide buyer is not promised credit whenever a supplier defaults. What the buyer is promised is a Department that has done its homework before the burden shifts. The reasoning on impossibility is the intellectual core. The condition made sense when matching machinery existed to tell the buyer what the supplier had done. Without that machinery, the Court said, enforcing the condition against a buyer who cannot verify the supplier’s payment would invite the maxim lex non cogit ad impossibilia and a challenge under Articles 14 and 19. It drew support from the Constitution Bench in Bhawani Cotton Mills, which dealt with liability that turns on another person’s act which the taxpayer has no way of checking. The Court also noted that the Section 155 burden had been premised on that same matching mechanism (para 95). It did not remove the burden, since guideline (vi) keeps it on the buyer, but it made clear that the burden is discharged by ordinary commercial evidence, which the officer is bound to weigh. The second strand is the double burden. Section 76 provides a remedy against a supplier who has collected tax and not deposited it, and the Court refused to let that remedy become otiose through indiscriminate use of Section 16(2)(c). Before Rule 37A there was no route to re-avail reversed credit even if the supplier later deposited the tax, so a buyer could in substance bear a further tax burden on the same transaction while the supplier stayed liable. The Court also observed that reversals years after the event do nothing for ease of doing business. 

The third strand will interest anyone handling Section 74 notices, whatever the underlying ground. Relying on G.R. Infra Projects and the Supreme Court’s decision of 25 August 2026 in Tata Steel (2026 INSC 920), the Court held that the foundational facts supporting an allegation of fraud, wilful misstatement or suppression must emerge from the notice itself and cannot be supplied later by affidavit. A supplier’s fraud does not become the buyer’s fraud by assertion. The same logic is carried into Section 74A for the periods to which it applies. This is a point of general application that should travel well beyond supplier-default cases. The limits deserve equal attention. The Revenue will lean on the carve-out for fraud, collusion and non-existent suppliers, and will argue that the facts of a given case fall within it. The Court itself noted that the Department asserted non-genuineness in several of the petitions, which is why it sent them back rather than deciding them. The guidelines bind officers in Punjab, Haryana and Chandigarh, and outside that region they are persuasive rather than binding. The pending special leave petition in Sahil Enterprises may yet recalibrate the national position. Finally, the Bench commended to the Government and the GST Council several policy measures, including real-time verification by the recipient of the supplier’s payment against specific invoices and portal alerts when cancellation proceedings begin against a supplier. It declined to issue a direction, leaving the structural fix to the policy makers. 

For corporate clients, we read Shaurya Alloys as a ruling about process and proof rather than a victory on principle. It does not say that buyers are safe. It says that buyers are entitled to a fair, evidence-led inquiry before the consequences of someone else’s default are shifted onto them, and it gives them a checklist against which to hold the Department to account. Where a notice or an order is already in hand, the first step is to establish what it actually rests on. A notice founded only on the supplier’s cancellation, a nil return or an alert falls short of the first two guidelines on its face. The reply should ask for the material relied upon, record the position on recovery against the supplier, identify which statutory phase the tax period falls in, and, if Section 74 or Section 74A has been invoked, test whether the foundational facts of fraud appear in the notice. Outside the three jurisdictions, the guidelines are best deployed as persuasive authority before the adjudicating and appellate authorities, with the choice of forum made case by case. Any amount already deposited should be tracked, since the Court contemplated its adjustment or refund with interest where the fresh decision so warrants. Where no notice has arrived, the opportunity lies in preparation. The evidence the Court expects a buyer to produce is the evidence that businesses already generate and often fail to retain in a retrievable form: the tax invoice, the bank payment trail, the e-way bill and transport records, weighbridge slips and goods receipt notes, and stock and consumption records, all tied to the specific supplier and invoice. Supplier due diligence at onboarding, a record of the supplier’s registration status on the transaction date, periodic monitoring of supplier filing and cancellation alerts, and disciplined use of Rule 37A for reversal and re-availment will strengthen the file further. Supply chains with high supplier turnover, such as scrap and commodity trading, which feature in the Court’s own policy remarks, merit the closest attention. Finally, a word of caution. The judgment preserves the Department’s right to act where purchases are not genuine, and it expressly leaves fraud and collusion outside its protection. The buyer’s own documentation is what will separate a protected purchaser from one who is not. Shaurya Alloys does not relieve the buyer of the duty to be careful. It restores the Department’s duty to be careful as well.