Loss of Stock Due to Fire, Flood Etc and the GST Implications BY CA. Shaifaly Girdharwal
CA Shaifaly Girdharwal is a qualified chartered accountant practicing in GST. She is the co-founder of www.consultease.com and a famous YouTuber with more than 2,40,000 subscribers for her channel dedicated to the GST videos. She is also a trainer and author. She is a trainer at https://www.consultease.com/
It’s midnight and you receive a call from the guard of your factory, that one of the factory walls has collapsed. The factory premises is completely flooded with the water from the over swollen nearby river. On that fateful night, you had packed the goods of a big consignment which could not be dispatched because of non availability of the vehicle. All those goods are now submerged in water along with other finished goods, raw materials and plant and machinery.
You have to suffer a huge business loss because of the delay in the start of production again, and scarcity of working capital because of the tardiness of the insurance company in giving the claim. You have to pay the salaries of staff and get the wall reconstructed. You are procrastinating in this quagmire and suddenly a GST officer comes to your factory and asks you to reverse the ITC taken by you on the finished goods which have now been destroyed. What will you do?
We are today going to tell you about some of the case laws and arguments which are in concurrence with the point of view that ITC has not to be reversed in the cases where finished goods have been destroyed by an act of god.( Fire, or flood etc.)
Various Case Laws and Arguments Which Favour That ITC Is Not to Be Reversed
(1) Provisions under GST Act
(i) According to the sec 16(1), of the CGST Act 2017, the main heading of this section is,”Eligibility and conditions for taking input tax credit” the words used in this subsection (1) are,“ entitled to take credit of input tax charged on any supply of goods or services or both to him which are used or intended to be used in the course or furtherance of his business.”
(ii) Explanation
Mark the words, ‘intended to be used’,and ‘furtherance of his business’. It clearly implies that the said goods or services may be used now or at a later stage. They have been procured with a clear intention that they would be used for business purposes only. They may be supplied further as it is, or consumed to manufacture other finished goods, which would then become taxable output supply.
If all the criteria for claiming the ITC (as per the act) are fulfilled then you are entitled to adjust that ITC against your output tax liability. Claiming of ITC and its adjustment against output tax liability are two different things. Claiming of ITC is not dependent upon output supply. You have to determine the amount of input tax to be claimed as per rules 42 (for inputs and input services) and 43 ( for capital goods ). Though your adjustment of such claimed ITC is dependent upon the type of output supply.
(iii) As per sec 17 of the CGST Act,2017, the heading is ,”Apportionment of credit and blocked credits.” and the entry of subsection (5) is (5) “Notwithstanding anything contained in sub-section (1) of section 16 and sub- section (1) of section 18, input tax credit shall not be available in respect of the following;
(h) goods lost, stolen, destroyed, written off or disposed of by way of gift or free samples;
(iv) Explanation
(a) Both section 16 and 18 are talking about claiming input tax on input supplies. Therefore the main heading of section 17 is concerned with the claimed input tax on the input supplies. It is enlisting conditions where the ITC you have already claimed as per sec 16 or 18 would be subject to reversal if the stipulated conditions are met according to the sec 17 and reversal is calculated as per rules 42 and 43 of the CGST Act.
(b) Both these rules provide us the method of computation of input tax to be claimed and reversal of ineligible input tax credit. These rules are applicable in the case of sec 17(1) and sec 17(2).These rules do not give us any method to reverse the input tax credit on the inputs which have already been used for manufacture of finished goods that are lost or stolen or damaged. According to the judgement in the case of Commissioner of Income Tax vs B. C. Srinivasa Setty 1981 AIR 972 (SC), it was held that in the absence of any proper method of computation of any amount, the charging provision shall be defeated. Therefore we can say that there is no method of computation of such reversal and also there is no express law to reverse the input tax already claimed and adjusted on the inputs used in the manufacture of finished goods which have been destroyed by any natural disaster.
(c) These conditions (as per sec 17) are for inputs received and not for output supply made or intended to be made. Since sec 16 clearly says that inward supply should be intended to be used in business. Therefore it is compulsory that output is also made or is intended to be made in furtherance of business.
(d) Now the question arises that this subsection [ (5) (h)] is speaking about destruction of input goods or output goods. After this explanation it is quite clear that this subsection is talking about input goods or services. Accordingly the necessity of reversal may arise when the inputs or capital goods are themselves lost, stolen or destroyed. If the finished goods are destroyed, lost or stolen; the reversal will not be required.
(e) There are conflicting views regarding the scope of sec 17. This section imposes outright restriction on adjustment of ITC (i.e they have to be reversed if already claimed, and cannot be adjusted) on certain types of inputs. It stops these inputs from being adjusted. It does not talk anywhere of a condition where such inputs have been already legitimately claimed and adjusted. It does not talk of reversal of ITC in the cases wherein the said inputs, capital goods or input services have already been utilized for further production of final products.
(f) Some people also have the contrary view that the reversal in case of loss or damage of finished goods will also be required. In their view, since the said inputs and capital goods have been used in manufacture of finished goods that have been destroyed; the same are not used in the course of furtherance of business. Hence, the ITC shall not be allowed on the same. But we can argue that those finished goods were manufactured with an intent for making a taxable output supply in the course of furtherance of business.
(v) Meaning of,” in respect of ” in sec 17
This expression was examined by the Supreme Court in the case of State of Madras v/s M/s. Swastik Tobacco Factory [AIR-1966-SC-1000]. It was held that in the taxation laws the phrase “in respect of” is synonymous with the expression “on”. Therefore sec 17 is applicable “on” inputs. It construes that ITC will not be available if the input goods or services are destroyed.
(vi) Meaning of the word ,” destroyed” in Sec 17(5)(h)
(a) In the case of Rolcon Engineering Co. Ltd. v. State of Gujarat (2009) 21 VST 117 (Guj.), the appellant had to continuously run a wind farm for 6 years to become eligible for a government grant. But due to a devastating cyclone he was unable to do so. The government denied the benefit on the ground that his wind farm did not work for the stipulated period. The court held that the appellant had every intention to fulfill the mandatory condition, but the same was truncated by the occurrence of a disastrous cyclone.
(b) According to the principle of law namely,” impotentia excusat legem “,meaning,” Law does not compel to do what one cannot possibly perform. When law creates a duty or charge and the party is disable to perform it, without any default in him and has no remedy over it, then the law in general will excuse him”. The court further quoted and applied another similar principle,“Lex Non Cogit Ad Impossibilia”,”meaning,” The law compels no one to do vain or impossible”.
(c) Therefore we can safely conclude that the meaning of the word ‘destroyed’ as per sec 17(5)(h) would exclude the condition of being destructed by any natural calamity. In such a situation the person has every intention of using the output (finished) goods or services in the course or furtherance of business. If the finished goods are destroyed due to an Act of God and are unable to become output taxable supply, it cannot be construed as a change in intention of the supplier which can permit any restriction of ITC. Hence the word “destroyed” compulsorily means only that destruction which is caused by intentional human intervention. Hence, the restriction envisaged u/s 17(5)(h) can be made applicable, only when it can be sufficiently proven that the supplier has wilfully destroyed the goods.
(2) Provisions Under Previous Law
(a) Under the erstwhile Excise law, Excise duty was levied at the time of “manufacture” of goods and was payable at the time of “removal” of goods from the factory. Since taxability arose at the time of manufacturing only, it became necessary to have a specific provision for reversing the cenvat credit availed on the inputs contained in those finished goods that have been lost, (not by any natural disaster) as well as availing the remission of excise duty on such finished goods (as it was already levied at the time of their ‘manufacture’)
(b) There is no such provision of remission or reversal of cenvat credit in the GST regime. In the GST Act, the tax is levied and becomes payable, both at the time of “supply”. Therefore the liability is linked with “supply” rather than “manufacture” of finished goods. Since the liability to pay tax arises on “Supply” and the conditions according to sec 17(5)(h) i.e theft, loss by flood, fire, etc. do not fall in the definition of “supply”. Therefore, we cannot term such a loss of finished output as ‘Supply’ to warrant reversal of ITC, on the input content in the finished goods lost or destroyed.
(3) State of Gujarat v/s S.A. Himnani Distributors Pvt Ltd
In this case also the department had disallowed the input tax credit on the goods that had been destroyed by the floods. The respondent had won at the tribunal level, hence the department went to the Honorable High court of Gujarat. The court held that due to natural calamity/ Act of God it became impossible for the dealer to fulfill the conditions for availing ITC. Hence the benefit should be given to the respondent. The court further reiterated that if the ITC amount has been recovered from the insurance company, in all fairness the said ITC must be reversed, otherwise it should not be reversed.
(4) Steelbird Hitech India Ltd v/s Commissioner of Central Excise Delhi-II
In this case, due to a fire in the petitioner’s factory premises, all kinds of goods, like finished goods, semi finished and unfinished goods, inputs, and capital goods were destroyed. The Delhi Tribunal held the following;
(i) The appellant is not required to pay duty on finished goods, i.e remission of excise duty was allowed and also cenvat duty already availed was not to be reversed, as per the decision in Grasim Industries v. C.C.E. Indore-2007 (208) E.L.T.336 (Tri.-LB).
(ii) On unfinished, semi finished goods, claim of remission of excise duty was refused as goods were not marketable, according to the case of Deepak Tandon v. C.C.E. Bhubaneswar-2000 (126)E.L.T.1079 (CESTAT). The court directed that the Cenvat credit on inputs contained in semi-finished goods or unfinished goods should not be reversed as per the decision in Grasim Industries v. C.C.E. Indore-2007 (208) E.L.T.336 (Tri.-LB).
(iii) On capital goods, the court held that the appellant had taken Cenvat credit correctly, and there was no provision in the Cenvat credit Rules to reverse proportionately Cenvat credit on capital goods which were lost in fire or were not used. Therefore, they held that the appellant is not required to reverse Cenvat credit on capital goods.
(5) General Manager, Ordnance Factory Bhandara (GST AAR Maharashtra)
In this case the petitioner used to send some samples of their finished goods to the Ministry of Defence for testing. In that process they were completely destroyed. The authority ruled that they were eligible for availing ITC in both the conditions i.e when they are actually used or when they are intended to be used. The testing is a part of the process of making the output supply. Hence they would not be considered as destroyed. Therefore the ITC availed, was not to be reversed.
Conclusion
(a) Ergo, we can safely conclude that in order to avoid litigation, it is in the best interest of the supplier if he can recover the ITC amount from the insurance company. He must go for that option and reverse the said ITC. If he is unable to do so, then he may choose to rely on the above mentioned reasoning to avoid reversal of ITC.
(b) In the GST Act, there is a method of proportionate reversal in the rules 42 (inputs) and 43 (capital goods), but it is only applicable for section 17(1) [ business purpose and other purpose] and 17(2) [ taxable supplies and exempt or zero rated supplies]. It makes segregation at the claiming of input level only i.e. before adjustment from output tax liability. It does not cover the situation where the inputs have been already consumed to take the form of finished goods and then they are destroyed by any natural calamity ( the ITC has already been adjusted, for those inputs utilized in the production of those destroyed finished goods)
About CA Shaifaly Girdharwal
CA Shaifaly Girdharwal is a qualified chartered accountant practicing in GST. She is the co-founder of ConsultEase.Com and a famous YouTuber with more than 2,40,000 subscribers for her channel dedicated to the GST videos. She is also a trainer and author. She has written a book on GST for Taxmann Ltd.
