M/s Krazybee Services Private Limited vs. Additional Director,
DGGI & Another
Adv.
Yogesh Verma (CS/LLB/M.Com/B.Com/PGDCA)
Introduction
In a landmark ruling
strengthening taxpayer protection against incorrect levy of GST on compensation
receipts, the Karnataka High Court in M/s Krazybee Services Private Limited
vs. Additional Director, DGGI & Another categorically held that liquidated
damages arising out of breach of contract are not taxable under GST. The
Court quashed the show cause notice issued by the Directorate General of GST
Intelligence (DGGI), holding that the demand was contrary to CBIC Circular
No. 178/10/2022-GST dated 03.08.2022 and ignored the settled legal position
under the Contract Act, 1872
Case
Details
The case was decided by
the High Court of Karnataka at Bengaluru in Writ Petition No. 16471
of 2024 (T-RES). The judgment was delivered on 8 December 2025 by Hon’ble
Mr. Justice S.R. Krishna Kumar. The petitioner was M/s Krazybee Services
Private Limited, a non-banking financial company, while the respondents
were the Additional Director, DGGI, Bengaluru Zonal Unit and the Additional/Joint
Commissioner of Central Tax, Bengaluru East Commissionerate
Background
and Facts of the Case
The petitioner had
entered into a Framework / Master Service Agreement with various Lending
Service Providers (LSPs), including Finnovation Tech Solutions Pvt. Ltd.
Under the agreement, if the LSP failed to perform its contractual obligations,
the petitioner was entitled to recover compensation in the form of
liquidated damages.
During investigation, the
DGGI issued a show cause notice dated 25.04.2024, alleging that the
amounts received by Krazybee under the head “deficiency service fee”
constituted consideration for tolerating an act or situation,
classifiable as a taxable supply under Paragraph 5(e) of Schedule II of the
CGST Act. On this basis, GST demand was proposed on the liquidated damages
received.
Aggrieved by the issuance
of the show cause notice itself, the petitioner approached the High Court
challenging the jurisdiction, legality, and correctness of the notice.
Key Grounds
Raised by the Petitioner
The petitioner contended
that the show cause notice was without jurisdiction, arbitrary, and vague.
It was argued that the amounts received were purely compensatory in nature,
arising due to breach of contractual obligations by the LSPs. Such receipts,
according to the petitioner, were governed by Sections 73 and 74 of the
Indian Contract Act, 1872, and could not be equated with consideration for
any supply under GST.
Strong reliance was
placed on CBIC Circular No. 178/10/2022-GST dated 03.08.2022,
particularly Paragraphs 7.1 to 7.1.6, which clearly clarify that
liquidated damages are not consideration unless there is a clear intention to
supply a service of “tolerating an act”.
Stand of
the Department
The Revenue argued that
the petitioner had received amounts for tolerating deficiency in services
rendered by the LSPs and that such tolerance amounted to a taxable supply under
Schedule II, Paragraph 5(e) of the CGST Act. It was further contended
that similar charges were subjected to GST by other entities and therefore
Krazybee could not adopt a different treatment.
The Department relied on Paragraph
6 of Circular No. 178/10/2022, which deals with situations where payments
are made as consideration for tolerating an act.
Interpretation
of Circular No. 178/10/2022 by the Court
The High Court undertook
a detailed examination of Paragraphs 7.1 to 7.1.6 of the Circular and
observed that these provisions specifically deal with liquidated damages
arising out of breach of contract. The Court held that such compensation is
merely an event occurring during the performance of the contract and
does not constitute the object of the contract itself.
The Court emphasized that
for GST to apply, there must be a reciprocal intention to provide a supply,
and mere breach of contract followed by compensation does not create a taxable
supply. The judgment clearly distinguished between consideration for a
service and compensation for loss, holding that the latter cannot be
artificially taxed under GST.
Findings on
“Tolerating an Act” under Schedule II
Rejecting the
Department’s argument, the Court held that tolerating an act must be a
conscious and pre-agreed supply, and not an incidental consequence of
breach. The Court observed that Krazybee never agreed to tolerate poor
performance in exchange for money; rather, the damages were meant to compensate
losses suffered due to non-performance.
Thus, the essential
ingredients of “supply” under Section 7 of the CGST Act were absent.
Refund of
Amount Paid Under Protest
The Court also dealt with
the petitioner’s prayer for refund of ₹5 crores paid under protest.
Relying upon its earlier judgment in Ramesh Chand vs. Union of India,
the Court reiterated that amounts collected during investigation without
adjudication cannot be treated as voluntary payment. Such forced collection
was held to be illegal and violative of law.
Accordingly, the Court
directed refund of the entire amount along with applicable interest.
Final
Judgment and Directions
The Karnataka High Court
allowed the writ petition and quashed the show cause notice dated 25.04.2024.
The Court further directed the respondents to refund ₹5 crores along with
interest within eight weeks. All other issues relating to future
proceedings were left open, but the impugned notice itself was held to be
unsustainable in law
Legal
Significance of the Judgment
This judgment is of
immense importance as it decisively clarifies that liquidated damages are
not automatically taxable under GST. The ruling curtails the growing
tendency of the Department to treat every compensation or penalty as
consideration for tolerating an act. It reinforces the binding nature of CBIC
Circulars on the Department and protects taxpayers from arbitrary demands based
on misinterpretation of Schedule II.
Conclusion
The decision in Krazybee
Services Pvt. Ltd. serves as a strong precedent for taxpayers facing GST
demands on liquidated damages, penalty clauses, or contractual compensation. It
confirms that GST cannot be levied merely because money is received,
unless there is a clear and intentional supply. The ruling restores certainty
in contractual taxation and strengthens the rule of law under the GST regime.
Disclaimer: All the Information is based on the notification, circular advisory and order issued by the Govt. authority and judgement delivered by the court or the authority information is strictly for educational purposes and on the basis of our best understanding of laws & not binding on anyone.
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