Section 122 Penalty for Circular Trading Is Mandatory at 'Whichever Is Higher' — No Discretion to Cap at Rs. 10,000 — But Pre-Deposit of 10% Dispensed to Avoid Illusory Remedy: Madras HC

The Madras High Court has dismissed 19 writ petitions filed by six medical equipment dealers involved in circular trading amounting to over Rs. 313 crore in purchase turnover and Rs. 316 crore in sales turnover — with 98% to 100% of all transactions being non-genuine — but has simultaneously dispensed with the 10% pre-deposit requirement for filing statutory appeals, holding that requiring pre-deposit on penalty amounts of this magnitude would render the appellate remedy illusory. The order was passed by Justice C. Saravanan on 18.02.2026 in W.P. Nos. 2628, 2630, 2633 and batch.

The impugned assessment orders imposed penalties under Section 122(1)(vii) (taking ITC without actual receipt of goods) and Section 122(1)(ii) (issuing invoices without supply of goods) aggregating approximately Rs. 12.34 crore and Rs. 13.68 crore respectively across six entities and multiple assessment years from 2020-21 to 2024-25. The assessing officer had recorded — and the petitioners did not dispute — that the entities had billed themselves in a closed loop without any movement of goods, not to create fake ITC but to inflate turnovers for securing bank loans and projecting themselves as major players in the medical equipment supply business.

The petitioners argued that under Section 122(1), the maximum penalty should be limited to Rs. 10,000/-, invoking the doctrine of proportionality through labour and service law precedents of the Supreme Court (Coimbatore District Central Cooperative Bank, Charanjit Lamba, S.R. Tewari). The Revenue relied on Dharamendra Textile Processors and Rajasthan Spinning and Weaving Mills to argue that penalty under the provision is mandatory and without discretion.

The court rejected the petitioners' argument, holding that the statutory language of Section 122(1) — "shall be liable to pay a penalty of ten thousand rupees or an amount equivalent to the tax evaded or the tax not deducted… or input tax credit availed of or passed on or distributed irregularly, or the refund claimed fraudulently, whichever is higher" — admits of no discretion. The expression "whichever is higher" is clear and unambiguous. The Dharamendra Textile and Rajasthan Spinning rulings were distinguished as confined to Section 11-AC of the Central Excise Act, 1944 and not applicable to Section 122 of the CGST Act. The proportionality doctrine from labour/service law jurisprudence cannot be imported to override the explicit statutory formula.

However, recognising that pre-deposit of 10% on penalties of this magnitude would make the appellate remedy a dead letter, the court dispensed with the pre-deposit requirement and granted 30-day liberty to file appeals before the appellate authority, directing disposal within 90 days.