The Supreme Court has issued notice on a Special Leave Petition (SLP) filed by the Union Government challenging a landmark judgment of the Telangana High Court that declared Rule 39(1)(a) of the Central Goods and Services Tax (CGST) Rules, 2017 ultra vires the CGST Act. The rule required Input Service Distributors (ISD) to distribute available Input Tax Credit (ITC) in the same month in which it became available.

The bench of Justice Sanjay Kumar and Justice K. Vinod Chandran condoned the delay in filing the petition and issued notice to BirlaNu Ltd., making the matter returnable on September 11, 2026. The Court recorded that counsel for the respondent company accepted notice on caveat, dispensing with formal service. The respondent has been granted three weeks to file its counter affidavit, with two additional weeks provided for the filing of a rejoinder, if any. 

Background of the Dispute

The litigation stems from a GST audit conducted on BirlaNu Ltd. for the financial years 2017-18 and 2018-19. During the audit, tax authorities observed that the company had accumulated ITC over several months and distributed the credit to recipient units in the final month of the financial year instead of distributing it every month.

The department alleged that this practice violated Rule 39(1)(a) of the CGST Rules, which stipulated that credit available for distribution in a month should be distributed in the same month. Based on this interpretation, audit objections were raised, eventually culminating in a final audit report dated January 22, 2024, and a show-cause notice dated January 30, 2024 proposing a penalty exceeding ₹8.38 crore under Section 122(1)(ix) of the CGST Act.

Challenging the proceedings, BirlaNu approached the Telangana High Court, arguing that Rule 39(1)(a) imposed a substantive restriction that was not authorized by the parent statute and that the consequential proceedings were legally unsustainable.

Telangana High Court Strikes Down Rule 39(1)(a)

A Division Bench comprising Chief Justice Aparesh Kumar Singh and Justice G.M. Mohiuddin examined whether Section 20 of the CGST Act, as it existed before its amendment through the Finance Act, 2024, empowered the Government to prescribe a mandatory time limit for ITC distribution by an ISD.

The High Court held that Section 20 merely authorized the prescription of the manner of distribution of ITC and did not confer power to impose a time limit. According to the Court, Rule 39(1)(a) went beyond the scope of the parent statute by introducing a substantive condition requiring same-month distribution of credit.

The Bench observed that delegated legislation cannot create restrictions that effectively curtail or extinguish a statutory right unless the parent legislation expressly authorizes such restrictions. Relying on decisions of the Supreme Court, including Sales Tax Officer v. K.I. Abraham and Global Energy Ltd. v. Central Electricity Regulatory Commission, the Court reiterated that rule-making authorities cannot introduce limitation periods where the statute itself remains silent.

The Court also noted that Parliament subsequently amended Section 20 through the Finance Act, 2024 to specifically empower the prescription of time limits for ISD credit distribution, with the amendment taking effect from April 1, 2025. According to the High Court, the very necessity of this amendment demonstrated that such power did not exist prior to that date.

Audit Proceedings Found Contrary to Natural Justice

Apart from striking down the rule, the High Court found serious procedural irregularities in the conduct of the GST audit.

The Court observed that despite the taxpayer seeking time to respond to audit spot memos, authorities proceeded to finalize audit objections without providing a meaningful opportunity for consultation or explanation. It further noted non-compliance with Paragraph 5.13 of the CBIC GST Audit Manual, 2019, which requires audit objections to be discussed with the taxpayer before finalization.

Holding that these safeguards were ignored, the Court concluded that the audit proceedings were vitiated by violations of the principles of natural justice.

Show-Cause Notice Held Time-Barred

The High Court also ruled that the show-cause notice issued in January 2024 for transactions relating to FYs 2017-18 and 2018-19 was barred by limitation under Section 73 of the CGST Act.

The department’s attempt to invoke the extended limitation period under Section 74 on allegations of suppression of facts was rejected. The Court noted that all relevant information regarding ITC distribution had been disclosed in statutory GST returns and was available on the GST portal.

Referring to settled Supreme Court jurisprudence, the Bench held that suppression cannot be alleged where the facts are already within the knowledge of the department. Consequently, the invocation of the extended period was found to be unjustified.

Relief Granted to BirlaNu

The Telangana High Court ultimately struck down Rule 39(1)(a) of the CGST Rules, 2017 to the extent that it mandated same-month distribution of ITC by Input Service Distributors. It also quashed the final audit report, the show-cause notice, and all consequential proceedings against BirlaNu Ltd., while permitting the company to seek refund of any amounts affected by the impugned action.