• Dated 08^th December, 2025

Liquidated Damages Held Non-Taxable under GST – Gujarat AAR

1)Brief Facts Involved

Applicant:

M/s JBM Ecolife Mobility Surat Pvt. Ltd., an SPV incorporated to execute a project for procurement, operation and maintenance of 150 electric buses for Surat city under the National E-Bus Programme.

Background: Convergence Energy Services Ltd. (CESL) issued RFP for 5690 e-buses nationwide. JBM Ecolife Mobility Pvt. Ltd. became successful bidder for Surat. Accordingly, a Concession Agreement dated 21.08.2023 was executed between Surat Municipal Corporation (SMC) and the applicant SPV.

Subsequently, SMC transferred O&M responsibility to Surat Sitilink Ltd. (SSL) through Tripartite Agreement dated 05.04.2024.

Nature of payments under dispute: Applicant is liable to pay liquidated damages (LDs) / compensation to SSL upon various material defaults, operational lapses, delay in procurement, failure to maintain buses, operational infractions, failure to meet KPIs, etc. These amounts include damages under various Articles such as 4.4, 13.9, 14.1.5, 17.5, 20.2.4, Schedule-I penalties, Annexure-I operational penalties, etc.

Ruling sought:

1. Whether GST is payable on liquidated damages paid to SSL?
2. If yes, applicable rate and SAC?
3. If yes, eligibility of ITC on such GST?

2) Applicant's Contention

The applicant argued that liquidated damages are 'NOT a supply under GST', based on following grounds:

=> The said transaction is not falling under the definition of "supply" under Section 7 GST since LDs are only a compensatory payment for breach, not consideration for any supply. Further, there is no flow of goods or services to the applicant in return for LD.

=> The same is also not a case of "agreeing to tolerate an act" (in terms para 5(e) of Schedule II of CGST Act), since SSL is not agreeing or intending to tolerate breach. Rather, the purpose of liquidated damages is not to punish, but rather to discourage breach of the contract.

The applicant has also supported their contention vide the various legal principals such as:

=> CBIC Circular 178/10/2022-GST dated 03.08.2022, clarifying the applicability of taxes on liquidated damages, compensation and penalty arising out of breach of contract etc. This circular has categorically clarified that Liquidated damages on account of breach of terms of contract are not subject to tax and such payments do not constitute consideration for a supply and thus not taxable

=> Reference also taken from CBIC Circular 245/02/2025-GST dated 28.01.2025, wherein Penalty charges for non-compliance levied by bank and NBFCs are not subject to GST.

=> Applicant also made reference to various cases decisions i.e.

• M/s GSPC (JPDA) Ltd [Guj/GAAAR/APPEAL/2025/02 dated 22.01.202];
• M/s Achampet Solar Pvt Ltd [Order-in-Appeal No. AAAR/10/2022 dated 19.10.2022];
• Southern Eastern Coalfields Ltd Vs CCE, Raipur [2021 (55) GSTL 549 (Tri-Del)] etc.

On the line of the above, the applicant has requested for the conclusion that LDs are pure compensation for breach, hence no GST is applicable.

3) Department's Contention & AAR's Analysis:

The Authority made the following observations during evaluation:

A) Locus Standi

• Under Section 95 "Advance Ruling" is available only for supplies undertaken by the applicant.
• Since applicant is paying LD (not receiving), initially it appears non-maintainable, However, based on Calcutta High Court ruling in Anmol Industries, even a recipient can seek ruling on taxability. Therefore, application admitted.

B) Nature & Purpose of LD under Contract

AAR examined all relevant agreement clauses including:

• Performance Security (Article 9)
• Delay damages (Articles 4.4, 13.9, 14.1.5, 14.2.2)
• Maintenance breach damages (17.5)
• Operational infractions (20.8, Annexure-I)
• KPI failures (20.2, 20.3, 20.4, 20.6)
• General breach compensation (Article 30)
• Important finding:

Contract itself states in Interpretation Clause 1.2(y) that damages are genuine pre-estimated compensation and not a penalty for any supply.

C) AAR's Legal Interpretation

• LDs arise because of non-performance, not because SSL is providing any service to applicant. Further, the SSL does not "tolerate" breach since the purpose of liquidated damages is not to punish, but rather to discourage breach of the contract. Damages are paid to restore the loss suffered by SSL, not as consideration for any independent activity.
• Department also Followed CBIC Circular 178/2022 which clearly states:
  • Compensation for breach is not consideration;
  • Such payments are "mere flow of money" and not taxable.

D) Judicial Precedents Considered

AAR specifically relied on:

• GSPC AAAR (2025) - Settlement fees due to breach not taxable.
• Achampet Solar AAAR (2023) - LD for delay in construction not taxable.
• SECL CESTAT (2021) - Penalty clauses are safeguards, not taxable services.

Final Ruling by Authority:

Q1: Is GST payable on Liquidated Damages paid by the applicant to SSL?
Ruling: No. GST is NOT payable. Because LD represents compensation for breach, not consideration for any supply or tolerance of an act.

Q2: If yes, Tax rate & SAC?
Ruling: Not applicable, as answer to Q1 is negative.

Q3: If yes, ITC eligibility?
Ruling: Not applicable, as LD itself is not taxable.

BTA's Comment:

The Gujarat AAR reaffirmed that liquidated damages arising from breach of contractual obligations do not constitute consideration for any supply under GST. The ruling aligns with CBIC Circular 178/10/2022 and various judicial precedents, clarifying that such payments represent genuine pre-estimated compensation for loss and not a taxable service of "tolerating an act".

This decision strengthens the industry position that penalties and LDs embedded in long-term concession/O&M contracts are non-taxable, preventing unwarranted GST exposure in operational performance-linked arrangements.

Advance Ruling No.: GUJ/GAAR/R/2025/47 dated 03.11.2025

Author: Saket Shaw