The Karnataka High Court has dismissed the Karnataka State Tax Department’s appeal challenging the grant of relief in a dispute concerning the refund of accumulated Input Tax Credit (ITC) arising from an inverted tax structure on metro rail construction services.
The Bench of Chief Justice Vibhu Bakhru and Justice K.S. Hema lekha rejected the Revenue’s appeal both on account of a delay of 402 days in filing the proceedings and on merits, holding that the refund claim could not be denied on the ground that the taxpayer’s works contract services fell under Item 5(b) of Schedule II to the Central Goods and Services Tax Act, 2017 (CGST Act).
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The judgment addresses the distinction between construction services covered under Item 5(b) of Schedule II and composite supplies of works contract services covered under Item 6 of Schedule II, particularly in the context of restrictions on refunds of unutilised ITC under Section 54(3) of the CGST Act.
The petitioner/assessee, an association of persons comprising ITD Cementation India Limited and Italian-Thai Development Public Company Limited, was awarded a contract by Bengaluru Metro Rail Corporation Limited (BMRCL) on May 15, 2017, for the construction of elevated structures, including metro viaducts and stations.
The construction activities constituted works contract services under Section 2(119) of the CGST Act and were treated as composite supplies under the GST framework.
Initially, the services attracted GST at an aggregate rate of 18%, comprising 9% Central GST and 9% Karnataka GST. Subsequently, amendments to the applicable rate notification extended the benefit of a reduced GST rate to certain works contract services relating to railways, subject to the applicable conditions and exclusions.
The High Court noted that the taxpayer’s activities were subsequently covered under the relevant entry attracting GST at an aggregate rate of 12%, comprising 6% CGST and 6% SGST.
However, several inputs required for executing the metro construction contract, including cement, steel and HDPE pipes, attracted GST at higher rates of 18% and 28%.
Consequently, the taxpayer faced an inverted tax structure in which the GST rate on inputs exceeded the rate applicable to its output services, resulting in an accumulation of unutilised ITC.
The taxpayer claimed a refund of accumulated ITC amounting to ₹3,11,86,340 for the tax period of May 2020 under Section 54(3) of the CGST Act.
The Assistant Commissioner of Commercial Taxes issued a notice in Form GST RFD-08 on June 19, 2022, proposing to reject the refund application.
The Department relied on Notification No. 15/2017-Central Tax (Rate), dated June 28, 2017, which restricted refunds of unutilised ITC in specified cases involving construction services covered under sub-item (b) of Item 5 of Schedule II to the CGST Act.
According to the Department, the taxpayer’s outward supplies fell within Item 5(b) of Schedule II. Therefore, the accumulated ITC could not be refunded, notwithstanding the inverted tax structure.
The taxpayer contested this classification, arguing that its activities were not construction services falling under Item 5(b), but composite supplies of works contract services covered under Item 6 of Schedule II.
The adjudicating authority rejected the refund application through an order dated October 2, 2022.
The taxpayer subsequently challenged the decision before the appellate authority under Section 107 of the CGST Act. The appellate authority dismissed the appeal on April 24, 2024, holding that the supplies fell under Item 5(b), rather than Item 6, of Schedule II.
The taxpayer then approached the Karnataka High Court by filing Writ Petition No. 2817 of 2025.
The Single Judge allowed the taxpayer’s writ petition by an order dated March 12, 2025.
In reaching its decision, the Single Judge referred to an earlier order dated August 28, 2024, in Writ Petition No. 2490 of 2023, concerning the scope of Notification No. 15/2017-Central Tax (Rate).
The earlier decision considered the effect of Notification No. 15/2023, dated October 19, 2023, which substituted the earlier notification and clarified the restriction on refunds of unutilised ITC in relation to specified construction activities involving buildings and complexes intended for sale to buyers, where the consideration included the value of land or an undivided share in land.
The department challenged the Single Judge’s decision before the Division Bench in Writ Appeal No. 1528 of 2026.
Before examining the substantive GST dispute, the Division Bench considered the State’s application seeking condonation of a 402-day delay in filing the writ appeal.
The Revenue explained that the certified copy of the Single Judge’s judgment had been delivered on April 5, 2025, and was placed before the Assistant Commissioner of Commercial Taxes for consideration only on December 5, 2025.
The matter subsequently moved through various departmental authorities. On December 12, 2025, the concerned officers sought a legal opinion from the Government Advocate on whether an appeal should be filed.
The legal opinion was forwarded to the legal cell on March 5, 2026, and communicated to the concerned authority on March 13, 2026. A request for authorisation to file the appeal followed on March 17, 2026.
The relevant Government Order was received by the office of the Advocate General on March 25, 2026. The writ appeal was ultimately finalised and filed on June 5, 2026.
The Division Bench found that the explanation did not adequately justify the prolonged delay.
The Court observed that there was no explanation for why the judgment, despite being available to the Department, was not even placed before the concerned officer for more than ten months.
Holding that the delay exceeded a reasonable period and that the appellants had failed to establish sufficient grounds justifying it, the Court declined to condone the delay.
Importantly, the Bench did not stop at the limitation issue. It also examined the appeal on merits.
The central substantive issue was whether the taxpayer’s metro rail construction activities could be treated as construction services under Item 5(b) of Schedule II, thereby attracting the restriction on refund of accumulated ITC, or whether they constituted composite supplies of works contract services under Item 6.
Item 5(b) of Schedule II addresses specified construction activities involving complexes, buildings and civil structures, including certain construction intended for sale to buyers.
Item 6(a), on the other hand, specifically treats works contracts as composite supplies that are to be classified as supplies of services.
Section 2(119) of the CGST Act defines a works contract as a contract for specified activities involving immovable property in which the transfer of property in goods, whether as goods or in another form, is involved in the execution of the contract.
The classification was material because the Department had relied on Notification No. 15/2017-Central Tax (Rate) to deny the refund on the basis that the taxpayer’s supplies fell under Item 5(b).
The Division Bench examined the Revenue’s contention that the nature of the taxpayer’s services could not be determined without examining the underlying contract.
The Revenue argued that the contract between the parties had not been examined and that it was necessary to determine whether the activities constituted construction services or works contract services qualifying as composite supplies.
However, the Bench found that this argument was inconsistent with the Revenue’s own pleadings in the appeal.
The Court noted that the Revenue’s case in the appeal proceeded on the basis that the Single Judge had erred in holding that the works contract services rendered by the taxpayer did not fall within Item 5(b) of Schedule II.
The judgment further recorded that neither the adjudicating authority nor the appellate authority had disputed the taxpayer’s claim that its supplies constituted works contract services.
The Division Bench also referred to paragraph 9 of the appellate authority’s order, which expressly recorded that the taxpayer had undertaken works contract services for the construction of metro stations for BMRCL.
In view of these findings, the Court held that there was no doubt that the taxpayer was engaged in providing composite supplies covered under Item 6 of Schedule II to the CGST Act.
After examining the statutory provisions and the findings recorded by the tax authorities, the Division Bench agreed with the Single Judge that the taxpayer’s refund claim could not be rejected on the ground that its services fell within Item 5(b) of Schedule II.
The Court’s reasoning rested on the undisputed nature of the activities as works contract services and their treatment as composite supplies under Item 6 of Schedule II.
The Revenue’s attempt to challenge the classification was also undermined by the fact that the departmental orders themselves did not dispute that the taxpayer was executing works contract services for metro rail construction.
Accordingly, the Division Bench found no reason to interfere with the relief granted by the Single Judge.
The Court dismissed the appeal on merits as well as on account of delay.
The Court rejected the Revenue’s request to condone the 402-day delay and independently examined the substantive dispute. On merits, it held that the taxpayer’s metro rail construction activities were undisputedly works contract services constituting composite supplies under Item 6 of Schedule II to the CGST Act.
Consequently, the refund claim could not be denied on the ground that the services fell under Item 5(b) of Schedule II.
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