GSTAT Ernakulam rules that GST refund cannot be denied by questioning ITC eligibility without proper proceedings under Sections 73/74, reinforcing natural justice.
Introduction
In an important ruling concerning GST refund of unutilised Input Tax Credit (ITC), the Ernakulam Bench of the Goods and Services Tax Appellate Tribunal (GSTAT) has held that a refund claim under Section 54 of the CGST Act cannot be rejected merely by questioning the eligibility of ITC when the department has not separately initiated proceedings under the statutory provisions governing determination and recovery of wrongly availed credit.
In Augustan Textile Colours v. Commissioner of State Tax, Kerala State, the Tribunal set aside the denial of ₹7.07 lakh from the taxpayer’s refund claim. The decision emphasises that ITC eligibility and refund entitlement are governed by distinct statutory mechanisms and that the department must follow the prescribed procedure before treating already-availed ITC as inadmissible.
The ruling is particularly relevant for businesses claiming refunds arising from an inverted duty structure, where substantial ITC may accumulate because inputs are taxed at a higher rate than outward supplies.
Background of the Case
The appellant, Augustan Textile Colours, a unit of Augustan Knitwear Pvt. Ltd., is engaged in the manufacture of garments. During the relevant period, its inputs attracted GST at 18%, whereas its outward supplies were subject to GST at 5%. This difference resulted in accumulation of unutilised ITC under the inverted duty structure.
For the period July to September 2019, the taxpayer filed a refund claim of approximately ₹18.41 lakh towards unutilised ITC.
The adjudicating authority did not accept the entire claim. It rejected approximately ₹9.72 lakh while sanctioning the balance amount. Subsequently, the First Appellate Authority provided partial relief of around ₹2.64 lakh, but sustained rejection of ₹7.07 lakh.
The taxpayer therefore approached the GSTAT Ernakulam Bench challenging the continued denial of the refund.
Main Issue Before GSTAT
The principal question before the Tribunal was whether the department could deny refund of accumulated ITC under Section 54(3) of the CGST Act by holding that the underlying ITC itself was inadmissible, without first determining the eligibility of such credit through the statutory proceedings prescribed under the GST law.
The taxpayer argued that the show cause notice itself was deficient. It merely referred to the ITC as being wrongly claimed without providing adequate particulars explaining which credits were allegedly inadmissible and why.
According to the appellant, the notice did not contain invoice-wise details or a specific legal basis for treating the credit as ineligible. Consequently, the taxpayer had not been given a meaningful opportunity to defend the ITC before its refund was rejected.
GSTAT’s Findings on the Show Cause Notice
The Tribunal found considerable merit in the taxpayer’s contention.
It observed that the show cause notice was vague and failed to clearly identify the basis on which the ITC was proposed to be rejected. A taxpayer must be informed of the precise allegations against it so that an effective reply and defence can be submitted.
The Tribunal also referred to the principle laid down by the Supreme Court in Commissioner of Central Excise, Bangalore v. Brindavan Beverages (P) Ltd., concerning the necessity of a proper and specific show cause notice.
Importantly, the First Appellate Authority had subsequently relied upon a ground that the goods and services in question were not used in furtherance of the taxpayer’s business. However, this allegation had not been specifically raised in the original show cause notice.
The GSTAT therefore held that the proceedings were defective from the show cause notice stage itself.
Refund Proceedings Cannot Substitute ITC Recovery Proceedings
The most significant aspect of the judgment relates to the distinction between refund proceedings under Section 54 and proceedings for determination of wrongly availed or utilised ITC.
The Tribunal relied upon Paragraphs 20 and 21 of Circular No. 125/44/2019-GST, which contemplate appropriate proceedings under Sections 73 or 74 where refund is proposed to be rejected on the ground that the underlying ITC is inadmissible.
According to the Tribunal, the department cannot use a refund proceeding as an indirect mechanism to determine that ITC already availed by the taxpayer was wrongly claimed.
In other words, if the department believes that ITC is not legally available, it must follow the statutory procedure for determining and recovering such credit. A refund application cannot, by itself, become the forum for making a final determination regarding the validity of ITC.
Importance of Sections 73 and 74
Sections 73 and 74 of the CGST Act, as applicable to the relevant period, provide the statutory framework for determination of tax, interest and penalty in cases involving tax not paid, short-paid or ITC wrongly availed or utilised.
The Tribunal emphasised that determination of ITC eligibility has to take place through the mechanism prescribed under the GST law.
In the present case, no proceedings under Sections 73 or 74 had been initiated against the taxpayer for disallowing the disputed ITC.
Consequently, the Tribunal held that the credit could not simply be treated as inadmissible during the refund proceedings.
The ruling effectively recognises that until the department legally determines that the ITC is inadmissible, the refund authority cannot independently disallow the credit merely by raising an eligibility objection in the refund proceedings.
Violation of Principles of Natural Justice
Another important feature of the decision is the Tribunal’s emphasis on natural justice.
A taxpayer must know the exact allegations that it is required to answer. If the department introduces a completely new ground at the appellate stage without having raised it in the show cause notice, the taxpayer is deprived of a proper opportunity to respond.
In this case, the First Appellate Authority went beyond the allegations contained in the show cause notice and relied upon the contention that the relevant goods and services were not used in furtherance of business.
The GSTAT considered such an approach impermissible because an adjudicating or appellate authority cannot ordinarily sustain an adverse decision on a ground that was never properly put to the taxpayer.
Thus, the Tribunal found that the proceedings were not merely substantively questionable but were also procedurally defective.
Final Decision of GSTAT
After examining the statutory scheme and the facts of the case, the GSTAT Ernakulam Bench allowed the appeal filed by Augustan Textile Colours.
The Tribunal set aside the portion of the appellate order sustaining rejection of ₹7.07 lakh from the taxpayer’s refund claim and granted consequential relief.
The decision was rendered by a Bench comprising Vice-President Subramanya Rayaprol and Technical Member Ramamoorthi Sriram. The case is reported as Augustan Textile Colours v. Commissioner of State Tax, Kerala State, Thiruvananthapuram, Appeal No. APL/23/ERN/2026, reported as 2026 LLBiz GSTAT (EKM) 35.
Key Takeaways for GST Taxpayers
The ruling carries several important lessons for businesses dealing with GST refund disputes:
- ITC eligibility and refund entitlement are distinct issues.
A refund proceeding should not automatically be converted into proceedings for disallowing ITC. - Specific allegations are essential.
A vague show cause notice referring generally to “wrong ITC” may not satisfy the requirements of natural justice. - Sections 73/74 have procedural significance.
Where the department seeks to establish that ITC was wrongly availed or utilised, the statutory mechanism must be followed. - Appellate authorities cannot ordinarily introduce entirely new grounds.
Taxpayers must be given an opportunity to meet the allegations before an adverse determination is made. - Refund claims under Section 54 deserve independent consideration.
Rejection of a refund cannot be based merely on an unadjudicated assumption that the underlying ITC is invalid.
Conclusion
The GSTAT Ernakulam ruling in Augustan Textile Colours reinforces an important principle of GST jurisprudence: tax authorities must follow the statutory procedure prescribed for determining ITC eligibility and cannot indirectly disallow ITC merely while processing a refund claim.
The decision also highlights the importance of a properly drafted show cause notice and adherence to the principles of natural justice. Where the department believes that ITC has been wrongly availed, the appropriate statutory proceedings must be undertaken rather than using the refund mechanism as a substitute for such proceedings.
For businesses claiming GST refund of accumulated ITC, particularly under the inverted duty structure, the ruling provides an important legal defence where refund is sought to be denied solely by questioning the eligibility of credit without a proper adjudication under the relevant provisions of the CGST Act.
The decision therefore serves as a useful reminder that GST authorities must distinguish between determining the eligibility of ITC and processing a refund claim, and each issue must be dealt with through the procedure prescribed by law.
Case: Augustan Textile Colours v. Commissioner of State Tax, Kerala State, Thiruvananthapuram
Forum: GSTAT, Ernakulam Bench
Appeal No.: APL/23/ERN/2026
Decision: 8 September 2026
Key provisions: Sections 54, 73 and 74 of the CGST Act; Circular No. 125/44/2019-GST