Karnataka High Court Holds GST Not Applicable on Penalties for Non-Maintenance of Minimum Average Balance

Court : High Court of Karnataka

Brief :

The Karnataka High Court has ruled that penalties recovered by banks from customers for failing to maintain the prescribed Minimum Average Balance (MAB) in their savings or current accounts are not subject to Goods and Services Tax (GST). The Court held that maintaining the stipulated balance is a contractual obligation under the account agreement and does not amount to a taxable banking service.

The decision was delivered while disposing of petitions filed by Canara Bank, Bank of Baroda and Karnataka Bank, which had challenged GST show-cause notices seeking tax on such penalty collections. The Court found that the notices lacked legal justification and set them aside.

The dispute originated from the GST department's view that banks derive commercial benefits from customers maintaining minimum balances and that penalties recovered for non-compliance represented consideration arising from a contractual arrangement. The Court rejected this interpretation and clarified that the penalties are compensatory in nature for breach of contractual terms rather than payment for any service supplied by the banks.

Citation :

Canara Bank v. Union of India & Others (along with connected petitions filed by Bank of Baroda and Karnataka Bank) – Karnataka High Court, decided by Justice S.R. Krishna Kumar. (As reported; detailed official citation awaited.)

Judgement :

Justice S.R. Krishna Kumar observed that the requirement to maintain a Minimum Average Balance is merely one of the contractual conditions governing the operation of a bank account. The Court held that banks do not provide any separate or additional service in exchange for customers maintaining the prescribed balance, and therefore no taxable supply exists under the GST framework.

The High Court further ruled that the penalty imposed upon failure to maintain the required balance is a consequence of breach of the account agreement and cannot be regarded as consideration received for rendering a banking service. It emphasized that customers continue to retain ownership and control over the money deposited in their accounts and are free to withdraw their funds, subject only to the contractual terms agreed with the bank.

Rejecting the GST authorities' contention that notional commercial benefits derived by banks could justify taxation, the Court held that tax liability cannot be created by assigning an artificial value to contractual obligations where no taxable supply exists. Accordingly, the show-cause notices issued to the petitioning banks were quashed.

The ruling is expected to provide significant relief to banks facing similar GST demands, while reinforcing the principle that penalties imposed for contractual non-compliance cannot automatically be treated as consideration for taxable services under GST. (CASANSAAR)