The Corporate & Commercial Law Society Blog, HNLU

Category: finance

  • Opportunism or Omission? Dual Facets of Customs Misclassification Saga

    Opportunism or Omission? Dual Facets of Customs Misclassification Saga

    Riya Poddar, Fourth- Year student at Amity University, Noida

    INTRODUCTION

    Proper classification of goods, as per the guidelines provided by the Harmonised System of Nomenclature ( ‘HSN Code’), is an important dimension in cross-border trade, which not only assists in determining tariff rates but also facilitates free flow of goods across borders. Unperturbed by such a structured foundation, disputes with regard to misclassification continue to remain a persistent challenge within the customs law. The point of conflict often stems from either intended tax fraud or deliberate or unintentional misinterpretation by the department, causing a tussle between the taxpayer and the authorities.

    The recent case of Skoda Auto Volkswagen India Pvt. Ltd. v. Union of India and Ors. (2025), (‘Skoda’) has once again brought to the forefront the debate over the systemic defaults within India’s customs landscape. What is controversial is whether the ambiguity in the classification norms is being used very conveniently as a loophole to avoid duty under the mask of interpretation. While the error may be innocent, the likelihood of intentional misinterpretation by the department raises significant questions in the minds of the taxpayers. This blog seeks to analyse the given case in order to uncover the systemic flaws surrounding the misclassification issue and propose a way forward.

    SCRUTINY OF THE ISSUE SURROUNDING MISCLASSIFICATION

    The Customs Department served a Show Cause Notice to Skoda Volkswagen in September 2024 under Section 28(4) of the Customs Act, 1962 (‘the Act’), raising a substantial demand of $1.4 billion, alleging deliberate misclassification of imported goods to lower import duty payment.

    It is well-settled law that the customs authorities can carry out reassessment proceedings for up to five years only. However, the allegations posed by the Directorate of Revenue Intelligence on Skoda Volkswagen for deliberately misleading the custom authorities since 2012 by misclassifying import of cars as “individual parts” rather than “Completely Knocked Down Units” (‘CKD Units’), raises questions about their own intentions as to why the concerned authority remained mum for such a prolonged duration. Such inaction invokes suspicion of either incompetence or a deliberate plan to delay prosecution.  

    Further, it is pertinent to note that before 2011, the term ‘CKD Units’ lacked a precise and clear definition, leaving it open to subjective interpretation. Ambiguity with regard to the same was addressed on 1st March 2011, when the Central Board for Indirect Tax and Customs (‘CBIC’) issued Notification No. 21/2011-Customs, where CKD Unit has been defined as a kit consisting of necessary parts of a vehicle apart from gearbox and pre-assembled engine. Failure to clearly delineate such important elements provided a foundation for controversies, as seen in Skoda.

    INTENT OR OVERSIGHT: THE GREY ZONE

    The current Skoda Volkswagen misclassification dispute highlights the multifaceted dynamics between the intentional corporate wrongdoings and the probable negligence of the concerned authorities. Resolution of this ongoing controversy will provide the much-needed clarity on disputes surrounding the misclassification issue.

    Examining ‘Intent’ and ‘Oversight’

    Notably, the customs authorities have accused Skoda Volkswagen of paying lower import duty on goods for the past 12 years, but the fact that the authorities never raised a single objection on the same for such a significant duration weakens the credibility of their allegations. It is essential to determine whether the delay was a strategic move by the authorities, using it as a revenue-generating tool. Such an approach, if intentional, reflects a broader structural flaw where the authorities prioritise revenue generation, amplifying financial burden on businesses.

    Another aspect worth mentioning is the vague and ambiguous classification of HSN Codes. Disputes pertaining to tariffs continue to arise, primarily because they are based on technical product characteristics that lack a clear definition. For instance, car seats, despite being an integral component of a motor vehicle, are classified under Heading 940120 as “seats of a kind used for motor vehicle” rather than Heading 87089900, which deals with “parts and accessories of a motor vehicle”. Such vague and ambiguous distinction in the key terms and norms provides authorities with an upper hand to interpret it in a manner that aligns with their revenue objectives and undermines the very purpose of having codified rules and regulations relating to the same.

    THE BIGGER PICTURE: CHALLENGES AND WAY FORWARD

    Over the past few years, the customs framework has become increasingly technical and compliance-oriented, thereby heightening the burden on taxpayers. The structural inequality becomes increasingly significant when equating the capabilities of large corporations with those of small businesses and entities. While businesses having ample resources can ensure seamless compliance, in contrast, the smaller entities are disproportionately charged. Recognising this, the Federation of Indian Micro and Small and Medium Enterprises, the leading advocacy association for Indian Small and Medium Enterprises (‘SME’), has also reportedly advocated for simplified and streamlined customs procedures to address structural disparity that involves small exporters. Further, the Economic Survey 2024-25 data also clearly indicates that the SME sector continues to be excessively burdened with regulatory compliance, thereby calling for deregulation to enable SME’s to compete on a more level playing field.

    In addition to this imbalance, the financial strain of non-compliance, which results in long pending disputes or imposition of penalties and interests, further aggravates the problems of the bona fide taxpayers. The operational dislocations caused by such issues compel the businesses to allocate their resources in resolving such disputes, thereby affecting their capability to contribute to the economy. Further, problems such as erosion of investors’ trust, delay in clearance of goods or shipments, also significantly affect a company’s ability to maximise profit and generate revenue. This discrepancy not only weakens the taxpayer’s trust on the tax system but also hinders the growth of a country’s economy.

    It is pertinent to mention that in the case of M/s. Aska Equipment’s Ltd. v. Commissioner of Customs (Import), the Hon’ble Delhi Bench of Customs, Excise and Service Tax Tribunal (‘CESTAT’), recognised that penalising companies acting in good faith merely on account of a difference of opinion regarding the classification of goods would deter genuine trade practices. A similar judicial approach was adopted by the Hon’ble Delhi Bench of CESTAT in the case of Sarvatra International Vs Commissioner of Customs (ICD).

    Undoubtedly, the outcome of the Skoda case is likely to set a judicial precedent, providing the much-needed clarity on issues that extend beyond just the misclassification claim. Hence, the answer to the questions raised in this case will not only determine the fate of the company but also the future of customs enforcement in India.

    Roadmap

    It is very evident from the challenges being faced by the taxpayers owing to the current HSN classification framework that reform is the need of the hour. Policies must be formulated in a way that not only shields the bona fide taxpayers and businesses from unjust hardships but also ensures compliance on their part. One of the most essential reforms is the implementation of clear and consistent guidelines pertaining to HSN classification. Further, leveraging the use of technology such as Artificial Intelligence-regulated systems can highly minimise the likelihood of errors. Additionally, simplifying the dispute resolution process through digital case tracking and conducting training programmes for both customs officials and Importers can increase compliance and bridge the knowledge gaps that currently exist. Such reforms would guarantee that the system remains approachable in the long run, eventually contributing to a just and equitable economy.

    CONCLUSION

    The controversial discussion surrounding the misclassification issue points towards the need for a balanced tax compliance approach. While the Act aims to create an integrated and streamlined tax system, its current framework unjustly penalises and burdens honest taxpayers. By plugging systemic loopholes and ensuring equitable treatment for compliant enterprises, the government can preserve the very purpose of the tax system and gain public trust in the tax administration. Legal reforms, supported by firm enforcement mechanisms, are needed to achieve this balance.

  • Microfinance In India: The Bad Loan Crisis And The Regulatory Conundrum

    Microfinance In India: The Bad Loan Crisis And The Regulatory Conundrum

    BY Kshitij Kashyap and Yash Vineesh Bhatia FOURTH- Year
    STUDENT AT DSNLU, Visakhapatnam

    INTRODUCTION

    Microfinance offers financial services to low-income people generally overlooked by conventional banking systems, facilitating small businesses and propelling the growth of the economy. India is a country where nearly every second household relies on microcredit, therefore, it is often the only bridge between aspiration and destitution. While the sector empowers millions, it is increasingly burdened by bad loans, also known as Non-Performing Assets (‘NPA’).

    In India, microfinance is regulated by the Reserve Bank of India (‘RBI’). Although the Indian microfinance sector has shown promising growth, it has had its share of challenges. During COVID-19, Micro Finance Institutions (‘MFIs’) experienced an unprecedented rise in NPAs, followed by a sharp recovery. The recovery appears promising, but a closer look reveals deeper structural vulnerabilities in the sector, owing to its fragmented regulatory framework.

     This piece analyses the statutory framework of India’s microfinance sector, reviewing past and present legislations, and exploring potential reforms for the future, allaying the existing challenges. While doing so, it does not touch upon The Recovery of Debt and Bankruptcy Act, 1993 (‘Act’) since Non-Banking Financial Companies (‘NBFCs’) do not fall within the ambit of a “bank”, “banking company” or a “financial institution” as defined by the Act in Sections 2(d), 2(e) and 2(h) respectively.

    LOST IN LEGISLATION: WHY THE MICROFINANCE BILL FAILED

    In 2012, the Government of India introduced The Micro Finance Institutions (Development & Regulation) Bill (‘Bill’), intending to organise microfinance under one umbrella. However, in 2014, the Bill was rejected by the Standing Committee on Finance (‘Yashwant Sinha Committee’), chaired by Mr. Yashwant Sinha. Glaring loopholes were identified, with a lack of groundwork and a progressive outlook.

    In its report, the Yashwant Sinha Committee advocated for an independent regulator instead of the RBI. It highlighted that the Bill missed out on client protection issues like multiple lending, over-indebtedness and coercive recollection. Additionally, it did not define important terms such as “poor households”, “Financial Inclusion” or “Microfinance”. Such ambiguity could potentially have created hurdles in judicial interpretation of the Bill since several fundamental questions were left unanswered. 

    A SHIELD WITH HOLES: SARFAESIs INCOMPLETE PROTECTION FOR MFIs

    The Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest (‘SARFAESI’) Act, 2002, is a core legal statute when it comes to credit recovery in India. It allows banks and other financial institutions to seize and auction property to recover debt. Its primary objective involves allowing banks to recover their NPAs without needing to approach the courts, making the process time and cost-efficient.

    While SARFAESI empowered banks and financial institutions, originally, NBFCs and MFIs were excluded from its purview. This was changed in the 2016 amendment, which extended its provisions to include NBFCs with an asset size of ₹500 crore and above. This threshold was further reduced via a notification of the government of India dated 24 February, 2020, which incorporated smaller NBFCs with an asset size of ₹100 crore and above within the ambit of this Act. However, its impact is extremely limited when it comes to MFIs as they do not meet the financial requirements

    .

    THE IBC GAP: WHERE SMALL NBFCs FALL THROUGH THE CRACKS

    The Insolvency and Bankruptcy Code, 2016 (‘IBC’), is another statute aimed at rehabilitating and restructuring stressed assets in India. Like the SARFESI Act, this too originally excluded NBFCs from its purview. The IBC recovers debt through Corporate Insolvency Resolution Process (‘CIRP’), wherein the debtor’s assets are restructured to recover the debt. In 2019, the applicability of  IBC was extended to NBFCs with an asset size of ₹500 crore and above.

    The IBC, however, has certain pitfalls, which have kept it away from the finish line when it comes to debt recovery. Some of these pitfalls were enumerated in the thirty-second report of the Standing Committee on Finance 2020-2021 (‘Jayant Sinha Committee’), chaired by Mr. Jayant Sinha. The Jayant Sinha Committee observed that low recovery rates and delays in the resolution process point towards a deviation from the objectives of this Code. Further, under the existing paradigm, Micro, Small and Medium Enterprises (‘MSMEs’), which somewhat rely on microfinance, are considered as operational creditors, whose claims are addressed after secured creditors.

    BRIDGING THE GAP: REGULATORY PROBLEMS AND THE WAY FORWARD

    Fundamentally, three problems are to be dealt with. The first one is a regulatory overlap between the SARFAESI Act and the IBC. While the SARFAESI Act caters to NBFCs with an asset size of ₹100 crore and above, the IBC caters to those with an asset size of ₹500 crore and above. Secondly, there is a major regulatory gap despite there being two statutes addressing debt recovery by NBFCs. The two statutes taken collectively, fix the minimum threshold for debt recovery at ₹100 crore. Despite this, they continue to miss out on the NBFCs falling below the threshold of ₹100 crore. Lastly, the problem of the recovery of unsecured loans, which constitute a majority of the loans in the microfinance sector and are the popular option among low to middle income groups, also needs redressal since unsecured loans have largely been overlooked by debt recovery mechanisms.

    For the recovery of secured loans

    Singapore’s Simplified Insolvency Programme (‘SIP’), may provide a cogent solution to these regulatory problems. First introduced in 2021 as a temporary measure, it was designed to assist Micro and Small Companies (‘MSCs’) facing financial difficulties during COVID-19. This operates via two channels; Simplified Debt Restructuring Programme (‘SDRP’) and Simplified Winding Up Programme (‘SWUP’). SDRP deals with viable businesses, facilitating debt restructuring and recovery process, while on the other hand, SWUP deals with non-viable businesses, such as businesses nearing bankruptcy, by providing a structured process for winding up. The SIP shortened the time required for winding up and debt restructuring. Winding-up a company typically takes three to four years, which was significantly reduced by the SWUP to an average of nine months. Similarly, the SDRP expedited debt restructuring, with one case completed in under six months, pointing towards an exceptionally swift resolution.

    In 2024, this was extended to non-MSCs, making it permanent. The application process was made simpler compared to its 2021 version. Additionally, if a company initiates SDRP and the debt restructuring plan is not approved, the process may automatically transition into alternative liquidation mechanisms, facilitating the efficient dissolution of non-viable entities. This marked a departure from the erstwhile SDRP framework, wherein a company was required to exit the process after 30 days or upon the lapse of an extension period. This, essentially, is an amalgamation of the approaches adopted by the SARFAESI Act and the IBC.

    Replicating this model in India, with minor tweaks, through a reimagined version of the 2012 Bill, now comprehensive and inclusive, may finally provide the backbone this sector needs. Like the SIP, this Bill should divide the debt recovery process into two channels; one for restructuring, like the IBC, and the other for asset liquidation, like SARFAESI. A more debtor-centric approach should be taken, wherein, based on the viability of the debt, it will either be sent for restructuring or asset liquidation. If the restructuring plan is not approved, after giving the debtor a fair hearing, it shall be allowed to transition into direct asset liquidation and vice versa. The classification based on asset size of the NBFCs should be done away with, since in Singapore, the SIP was implemented for both MSCs and non-MSCs. These changes could make the debt recovery process in India much simpler and could fix the regulatory overlap and gap between SARFAESI and the IBC.

    For the recovery of unsecured loans

    For the recovery of unsecured loans, the Grameen Bank of Bangladesh, the pioneer of microfinancing, can serve as an inspiration. It offers collateral free loans with an impressive recovery rate of over 95%. Its success is attributed to its flexible practices, such as allowing the borrowers to negotiate the terms of repayment, and group lending, wherein two members of a five-person group are given a loan initially. If repaid on time, the initial loans are followed four to six weeks later by loan to other two members. After another four to six weeks, the loan is given to the last person, subject to repayment by the previous borrowers. This pattern is known as 2:2:1 staggering. This significantly reduced the costs of screening and monitoring the loans and the costs of enforcing debt repayments. Group lending practically uses peer pressure as a method to monitor and enforce the repayment of loans. Tapping basic human behaviour has proven effective in loan recovery by the Grameen Bank. The statute should similarly mandate unsecured microcredit lenders to adopt such practices, improving recovery rates while cutting operational costs.

    CONCLUSION

    Microfinance has driven financial inclusion in India but faces regulatory hurdles and weak recovery systems. Existing systems offer limited protection for unsecured lending. A unified legal framework, inspired by the models like Grameen Bank and Singapore’s SIP can fill these gaps and ensure sustainable growth for the sector.