Captive Generation in India: Reform, Regulation and Taxation

Posted On - 16 June, 2026 • By - King Stubb & Kasiva

Introduction

The captive power sector in India is undergoing a transformational shift driven by three significant developments. Captive power plants have long enabled industries to generate electricity for their own consumption, reducing dependence on distribution licensees while enhancing energy security and cost efficiency.

The three developments reshaping this sector are:

  • The Electricity (Amendment) Rules, 2026
  • The Draft National Electricity Policy, 2026
  • Evolving interpretations regarding the application of the Goods and Services Tax (GST)

The foundation for captive generation was established under the Electricity Act, 2003 and the Electricity Rules, 2005. However, practical implementation has often resulted in prolonged litigation owing to regulatory ambiguity and inconsistent interpretation across jurisdictions.

Legislative Framework Governing Captive Power

The legal framework governing captive generation is derived from Section 2(8) read with Section 9 of the Electricity Act, 2003 and Rule 3 of the Electricity Rules, 2005.

Under the earlier framework, two principal requirements had to be fulfilled for a project to qualify as a captive generating plant:

  1. Captive users collectively had to own at least 26% of the plant.
  2. They were required to consume at least 51% of the electricity generated annually.

Compliance with these conditions granted exemption from cross-subsidy surcharge and additional surcharge, making captive power economically beneficial for industries.

However, difficulties emerged as companies increasingly adopted complex business structures involving subsidiaries, holding companies and special purpose vehicles (SPVs), particularly in renewable energy and group captive projects. State Electricity Regulatory Commissions interpreted ownership and consumption requirements differently, resulting in substantial legal uncertainty and repeated disputes before courts and regulatory bodies.

Key Reforms under the Electricity (Amendment) Rules, 2026

The Electricity (Amendment) Rules, 2026 seek to address these long-standing concerns by introducing several structural changes intended to simplify compliance and reduce litigation.

Expanded Definition of Captive User

One of the most important amendments is the expansion of the definition of “captive user.” A company, its subsidiaries, holding company and related entities are now treated as a single user. This removes earlier complications arising from dispersed ownership patterns within corporate groups.

Flexible Unit-Level Captive Designation

The amended rules also permit individual generating units within an SPV structure to be designated as captive units, rather than applying captive conditions to the entire plant. This flexibility is particularly significant for renewable energy projects where multiple entities participate through shared infrastructure.

Proportional Consumption and Battery Storage

Another major reform relates to proportional consumption requirements in group captive arrangements. Under the amended framework, electricity consumption is generally required to remain proportionate to ownership shareholding, but only the excess consumption by a member attracts charges instead of penalising the entire group.

The rules further recognise electricity stored in batteries and later consumed as valid captive consumption, thereby accommodating modern renewable energy and storage models.

Structured Verification Mechanism

A structured verification mechanism has been introduced under which State authorities and the National Load Despatch Centre (NLDC), as applicable, are entrusted with verification of compliance for determining captive status. These reforms collectively aim to create greater commercial certainty and improve the viability of captive power projects.

Draft National Electricity Policy, 2026

The Draft National Electricity Policy, 2026 complements these reforms by aligning the power sector with India’s broader “Viksit Bharat 2047” vision. The draft policy contemplates a gradual reduction of cross-subsidy surcharge and additional surcharge, with potential exemptions for sectors such as manufacturing and transport.

Although such reforms are intended to improve the financial sustainability of distribution companies, captive power is expected to remain attractive because industries continue to prioritise energy security, reliability of supply and sustainability objectives.

The policy also strongly emphasises expansion of renewable energy and battery storage infrastructure in pursuit of India’s net-zero goals. As a result, captive generation is increasingly being viewed not merely as a cost-saving mechanism but as an important component of industrial energy transition strategies.

GST Treatment and Input Tax Credit Challenges

Alongside regulatory reforms, the GST treatment of captive power infrastructure has emerged as a critical issue. Under Section 16(1) of the Central Goods and Services Tax Act, 2017, Input Tax Credit (ITC) is generally available for goods and services used in the course or furtherance of business.

However, Section 17(5)(d) restricts ITC on construction of immovable property on one’s own account. The key legal question therefore becomes whether a captive power plant qualifies as “plant and machinery” eligible for ITC or as immovable property where ITC is blocked.

Favourable Rulings on ITC Eligibility

Judicial and advance ruling authorities have adopted varying approaches depending upon the factual circumstances of each case. Several rulings have favoured ITC eligibility:

  • Re: Unique Welding Products Limited (2021) — The Gujarat Authority for Advance Ruling held that a rooftop solar system fixed through nuts and bolts without permanent earth embedding did not constitute immovable property, thereby allowing full ITC.
  • Re: Pristine Industries Limited (2021) — The Rajasthan Authority for Advance Ruling permitted ITC on a rooftop solar plant categorised as plant and machinery.
  • Thiagarajar Mills (P) Ltd. & Another v. Additional Commissioner (CT) — The Madras High Court adopted a liberal approach towards ITC eligibility where a nexus could be established between the electricity generated and the assessee’s taxable business activities.

Kanishk Steel: A Contrasting Approach

In Kanishk Steel Industries Limited v. Additional Commissioner of GST (2025), the Madras High Court adopted a different approach from that taken in Thiagarajar Mills. In Kanishk Steel, the electricity generated from the solar plant was transmitted through the Tamil Nadu State Grid and adjusted against credits earned from TANGEDCO.

The Court treated the electricity supplied through the grid as an exempt supply for the purposes of Sections 17(2) and 17(3) of the CGST Act and Rule 43 of the CGST Rules, thereby requiring proportionate reversal of ITC.

Net Metering vs. Gross Metering

Another critical factor highlighted in Kanishk Steel was the electricity metering configuration. Under net metering, the grid functions primarily as a balancing mechanism without a separate sale of electricity, which may strengthen the argument against ITC reversal depending on the factual matrix.

In contrast, gross metering involves supply of the entire generated electricity to the grid followed by separate procurement for consumption, thereby increasing the likelihood of Rule 43 reversals.

Conclusion

In response to these challenges, companies increasingly rely upon detailed documentation and legal structuring to defend ITC claims. Businesses seek to demonstrate that:

  • Captive power plants qualify as “plant and machinery”
  • Electricity is consumed internally rather than supplied externally
  • The arrangement bears a direct nexus with taxable business activities

Favourable judicial precedents, careful metering arrangements and robust accounting records therefore continue to play a crucial role in preserving commercial benefits under India’s evolving captive power regime.

Last Updated on 16 June, 2026