Analysis: Rejection of books of accounts in the Income Tax Act – 1961

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Analysis: Rejection of books of accounts in the Income Tax Act – 1961

Rejecting books of accounts & analysis of Provision in the Income Tax Act – 1961

 

The A.O may proceed under Section 145(3) under any of the following circumstances:

  1. Where he is not satisfied about the correctness or completeness of the accounts; or
  2. Where method of accounting cash or mercantile has not been regularly followed by the assessee ; or
  3. Accounting Standards as notified by the Central Government have not been regularly followed by the assessee.

It may be noted that the broad parameters have been laid down in the Section itself under which the provisions are required to be invoked for rejection of books of account in a particular case.

 

However, in a large number of cases the provisions of Section are invoked on the pretext of one reason or other which may not be in accordance with the provision contained in section 145(3)

 

Let us discuss few issues where AO invokes the provision of section 145(3) and its veracity.

 

NOT MAIINTENANCE OF STOCK REGISTER:

Whether books can be rejected for failure to maintain or produce stock register? The fact that there is no stock register only cautions the Assessing Officer against the falsity of the returns made by the assessee. He cannot show that merely because there is no stock register the account books must be false “Pandit Brothers v/s. CIT (1954) 26 ITR 159”. In Chhabildas Tribhuvandas Shah V/s. CIT (1966) 59 ITR 733, the Supreme Court held that there was material to support the appellate Tribunals sustaining addition made on the ground that (i) the assessee’s business was on wholesale basis and in the absence of tally of quantities in respect of major items of the trading account, the fall in margin of profits could not be satisfactorily explained; and (ii) the fall was all the more difficult to explain in view of the fact that the assessee had a substantial import quota which could have been given him a handsome margin of profit. The Supreme Court, however, made it clear in the concluding portion of its judgment that it was not concerned with the correctness of the conclusion but was concerned only with the question whether there was any material in support of the Tribunal’s findings in the case of Bhundiram Dalichand v/s. CIT(1971 81 ITR 609 (Bombay). The Bombay High Court found the rejection of books of accounts under Section 145 justified in the absence of quantitative tally of purchases and sales besides unexplained lowness of gross profit rate. Similarly, in the case of CIT v/s. Pareck Brothers (1987) 167 ITR 344 (Patna) it has been held that invocation of Section 145 was justified as the assessee was not maintaining day to day stock account and did not furnish any distinctive numbers either of purchases or sales to the Income Tax Officer.

Calcutta High Court in the case of Amiya Kumar Roy and Brothers v/s. CIT (1994) 206 ITR 306 held that failure to maintain stock accounts by the assessee was a substantial defect in the accounts. It upheld the decisions of Tribunal holding that the estimate which was made in the case and the addition made on such estimate was quite reasonable and fair taking cumulative view of all the factors present in the case.

Various High Courts have held that the keeping of stock register is of great importance because it is a means of verifying the assessees accounts by having a quantitative tally. If in any case, after taking into account the absence of a stock register coupled with other materials, it is felt that correct profits and gains cannot be deduced from the accounts, resort to the provisions of Section 145(3) can be taken (S N Namashivayam Chettiyar v/s. CIT (1960) 38 ITR 579 (SC); Bombay Cycle Stores Co. Ltd., v/s. CIT (1958) 33 ITR 13 (Bombay).

In the context of Sales Tax legislation, it has been held that where the relevant statute mandates the dealer to maintain stock books in respect of raw materials as well as products obtained at every stage of production and the dealer does not maintain the stock of books, it leads to the conclusion that the account books are not reliable or that particulars are not properly verifiable. If the account books are rejected, the turnover has to be determined to the best of the Judgement of the assessing authority concerned. In such circumstances, it cannot be said that a defect in non maintenance of stock register is only technical and so the turnover disclosed in account books should be accepted. (CST v/s. Girija Shankar Awanish Kumar (1997) 104 STC 130 (SC).

Where at the time of survey, a stock register was not found at the business premises, that circumstances may create a suspicion about the genuineness of the stock register when it is produced during the assessment proceedings. But the assessing authority has to scrutinize the stock reigister so produced and it is only in case he finds it spurious that a conclusion can be drawn that the assessee had not maintained its accounts properly. (Delhi Iron Syndicate Pvt. Ltd., v/s. CIT (1979) Tax LR 775 (All).

 

 

 

 

 

GROSS PROFIT RATE REDUCTION:

 

Fall in G.P rate definitely provides a ground to the Assessing Officer for invocation of the provisions of Section 145(3) but it is not a sufficient condition in entirety.

 

The rejection of books of accounts cannot be sustained merely on the fact that the gross profit of the assessee is low during the relevant period as compared to book results of other years. Similarly, the system of accounting adopted by the assessee cannot be rejected merely on the ground that the gross profits disclosed by his books were low as compared unfavourably with those of others in the same line of business.

 

The Assessing Officer is required to analyse various other parameters which have the effect on the gross profit rate of the assessee for the relevant period, before drawing any conclusion on the merit of such claim.

 

The fall in G.P rate might be a symptom of malice with which the assessee’s account would be suffering. However, it is the duty of the Assessing Officer to pin point the malice and bring it out in the Assessment Order by marshelling the facts encompassing the same. In the case of low gross profit rate, there could be inflated purchases or unrecorded sales besides manipulation in the valuation of closing stock. Therefore, the Courts expect that the Assessing Officer shall bring on record specific defects in the books of account of the assessee before invoking the provisions of Section 145(3). The rejections of books of account simply on lower G.P rate in comparison to earlier years or with other assessees placed in similar circumstances would not suffice and will not stand the test of appeal.

Merely because the value of goods by the customs authorities was higher than the invoice price, the accounts cannot be rejected as found in CIT v. Central Provinces Manganese Ore Co.Ltd. (2008) 296 ITR 217 I (Bom).

In one case, ITO v. Girish M Mehta [2008] 296 ITR (AT) 125 (Rajkot), it was pointed out, that the pre-condition for estimating business income of the assessee, where an assessee keeps accounts is that the assessee’s books should have been found to be unreliable or otherwise not capable of proving the assessee’s income. Without this first step, the fact that the gross profit is low cannot by itself be a ground for taking a view that it is open to the Assessing Officer to make good the alleged deficiency in gross profit.

Where the assessee is unable to reconcile the quantities handled by it as between purchases and sales, subject to adjustment as between opening and closing stocks or where no quantity accounts are kept, the accounts are to be taken as unproved, so that the income returned may well be rejected and income estimated, if the gross profit declared is low. But where quantities in purchases and sales are different in character of the stock, such reconciliation is not  possible in CIT v/s. Saatal Kattha and Chemicals P. Ltd. [2008] 296 ITR 197 (MP), where the assessee was purchasing timber on the basis of length, girth and weight, but converted them into logs and sold the same in different sizes. The High Court found, that the inference of shortage in the facts of the case was not a sound basis. All the same, the High Court found, that a reasonable addition sustained by the Tribunal, which reduced the additions made “capriciously” by the Assessing Officer, was held justified.

Where accounts were rejected on the gound that purchases of raw materials were vouched only by internal debit vouchers, it was found that assessee had explained, that it was not possible to get 3rd party vouchers for purchase of raw materials from sundry dealers in respect of a contract work in State of Assam in a disturbed situation. It was in this context, that the High Court in Madnani Construction Corporation P Ltd. v. CIT [2008] 296 ITR 45 (Gauhati) held, that the Tribunal was not justified in merely confirming the addition without considering assessee’s case for acceptance of return.

In the case of CIT v. Smt. M.Thankamma [2010] 326 ITR 249 (Ker), where an undisclosed income based upon a single document was deleted, the High Court felt that a remand is necessary because the Tribunal had merely confirmed the order of the first appellate authority by referring to the decision of the Supreme Court in CIT v. P.V Kalyansundaram [2007] 294 ITR 49 (SC), when according to the High Court there were several corroborative materials as alleged on behalf of revenue, which were not examined.

Hon’ble Allahabad High Court in the case of Awadhesh Pratap Singh Abdul Rehman & Bros v/s. CIT 201 ITR 406(All) held that “It is difficult to catalogue the various types of defects in the account books of an assessee which may render rejection of account books on the ground that the accounts are not complete or correct from which the correct profit cannot be deduced. Whether presence or absence of stock register is material or not, would depend upon the type of the business. It is true that absence of stock register or cash memos in a given situation may not per se lead to an inference that accounts are false or imcomplete. However, wher a stock register, cash memos, etc., coupled with other factors like vouchers in support of the expenses and purchases made are not forthcoming and the profits are low, it may give rise to a legitimate inference that all is not well with the books and the same cannot be relied upon to assess the income, profits or gains of an assessee. In such a situation the authorities would be justified to reject the account books under section 145(2) and to make the assessment in the manner contemplated in these provisions.

Tribunal held that it is giving rise to no question of law and the said finding confirming rejection of books of accounts was held justified because no stock register was maintained nor were the sales found verifiable in the absence of cash memos. The vouchers of expenses were also not forthcoming and the income returned was ridiculously low as compared to the exorbitant turnover and the extent of the business carried on by the assessee.

Hon’ble Supreme Court in the case of Kachwala Gems V/s. JCIT, Jaipur 288 ITR 10 (SC) held the rejection of books of accounts under Section 145 justified and the best judgement assessment under Section 144 of the Act. In this case, assessee was dealing in precious and semi-precious stones. The Assessing Officer noticed certain defects in books of account of the assessee, viz, that it had not maintained any quantitative details/stock register for the goods traded in by it; that there was no evidence / document or record to verify the basis of the closing stock valuation shown by it; that GP rate declared by the assessee at 13.49 per cent during the assessment year did not match the result declared by the assessee itself in the previous assessment years; and that the gross profit declared by it was much below the rate declared voluntarily by another assessees engaged in similar business. Thereafter, the Assessing Officer rejected the books of account of the assessee and resorted to best judgment assessment under section 144 and estimated the gross profit rate at 40 per cent. The Assessing Officer, further held that the assessee had shown bogus purchases for reducing the gross profits. On appeal, the Commissioner (Appeals), though reduced the quantum of the gross profit, estimated by the Assessing Officer, yet upheld most of his impugned findings. On further appeal, the Tribunal had also given further relief to the assessee. On appeal to the Supreme Court : the assessee himself who is to blame as he did not submit proper accounts. There was no arbitrariness in the instant case on the part of the authorities. Thus, there was no force in the instant appeal and the same was to be dismissed accordingly.

ITAT Chandigar Bench ‘A’ in the case of Pawan Kumar vs ITO, Range IV(4), Malerkotla, 137 ITD 85 confirmed the rejection of books of account under section 145(3) holding that the discrepancies pointed out by the Assessing Officer while rejecting the book results have not been satisfactorily explained by the assessee. The Assessing Officer has observed that although the quantity of cotton seed, mustard and groundnut crushed during the previous year were shown separately but the yield of oil and oil cakes have been given in consolidated form at 13.02 per cent and 83.91 per cent respectively. Further, the sales of oil and oil cakes have been shown in the manufacturing account in consolidated form although there was a wide variation in the market price of these products. It is also true that there is always a wide variation in the percentage of yield of oil and sale rates of oil and oil cakes in the market. However, the assessee has preferred to put up a consolidated account of different types of oil seeds for the reasons best known to him. The assessee was asked by the Assessing Officer to rework the yield of oil and oil cakes separately from different types of oil, oil seeds crushed by him. The assessee was also asked to explain the reasons for mixing up the cotton, mustard and groundnut oil seeds in the same category when there was vast variation in market price of these types of oil seeds and other products. When Assessing Officer asked the assessee to give the explanation, the assessee stated that there was not much difference in the market price of both these oils and, therefore, he has made the sales of khal and oil of both these varieties jointly. It is opined that the Assessing Officer has correctly rejected the above explanation of the assessee stating that assessee’s statement in this behalf is not correct, therefore, under no circumstances is acceptable. Unless the yield of oil obtained on the crushing of three types of oil seeds is separately given, the manufacturing results cannot be appreciated in their proper perspective. [Para 11]

There were sufficient reasons to hold that the books of account maintained by the assessee are unreliable, incorrect and incomplete. Therefore, the books of account of the assessee have correctly been rejected under section 145(3). The Commissioner (Appeals) has correctly upheld the action of the Assessing Officer in rejecting the books of account. [Para 13]

Also, in the case of Champa Lal Choudhary vs DCITCent. Cir. 2 ,Jaipur the ITAT Bench-‘A’ 54 SOT398(JP) has confirmed the rejection of books of account holding that the addition(s) being agitated would need to be examined, firstly, from the standpoint of the validity or otherwise of the invocation of Section 145(3) of the Act and the concomitant rejection of assessee’s book results, and then on the merits of the addition on quantum. The revenue’s action in invoking section 145(3) is confirmed. This is principally for the reason that the assessee’s books of account do not meet the test of deduction of true and correct profits therefrom in the absence of proper stock records, only whereupon can they be considered as correct and complete. The assessee’s case is that each piece of stone bears different characterstics and composition and, therefore, it is not possible to maintain the stock register quality-wise. Firstly, therefore, it admits to its books of account as not bearing the quality-wise details of the goods purchased and sold and, thus, in stock at any given point of time and, therefore, not complete. The same may yield or reflect its quantity but then that by itself is of little moment or value in the absence of any indication as to its value which is an essential ingredient in determining the cost of the goods sold and, thus, trading profit, and which, in turn, is necessary to work out the net profit. The value of the stock-in-trade as at the year­end or the year of account, thus, becomes an independent variable, which cannot even be approximated with reference to the books of account as maintained. It is not the assessee’s case that stock is valued at the average (weighted) cost of purchase, and which, though not a precise measure, evens out the profits when applied from year to year, so that it may be considered as a viable alternative, employed bona fide. The same, even otherwise, does not offer itself as an acceptable alternative in the facts and circumstances of the case. This as the average method would yield approximate and reasonably correct results only when the conditions for its application exist. That is, the prices of the various stone pieces vary over a given, small range, with a low co-efficient of standard variation. When the individual prices (or data points) vary considerably, which is admitted, employment of such a method would yield irregular and misleading results. Two stones of the same weight may have largely different values or (say value per unit (weight), where their weight differs. Further, how would the stock-in-trade as at the year end be valued? The same is to be at the actual cost of acquisition or production, and which again requires cost of bought out goods/raw material, i.e., not only would its characterstics and/ or composition be required to be assessed for the purpose, but also its cost ascertained with reference to the acquisition cost, identifying the relevant purchase bills, which do not bear any such details in respect of such characterstics or composition? [Para 5.1]

 

 

 

If books of accounts is rejected, whether assessment has to be done in section144 or can be done u/s 143(3)

In a case where the provisions of Section 145(3) is invoked, assessment is required to be done under section 144.

Distinction between Best Judgement Assessment and in the manner provided under Section 144 is required to be understood while resorting to the provision of Section 145(3). Under Section 145(3) the assessment is required to be in the manner under Section 144 of the Act only.

It is well accepted principle that in case where Best Judgement assessment resort is taken u/s Section 144, the Assessing Officer cannot act arbitrarily or capriciously. The assessment must proceed on judicial considerations in the light of relevant material that may be brought on record. The Hon’ble Allahabad High Court in the case of CIT V/s. Surjeetsingh Maheshkumar (1994) 210 ITR 83 has held that in every case of Best Judgement, the element of guess work cannot be eliminated so long as Best judgement has a nexus with material on record and discretion in that behalf has not been exercised arbitrarily or capraciously.

In Bastiram Narayandas V/s. CIT (1994) 210 ITR 438, Bombay HC has held the rejection of books of accounts justified under Section 145 and the Best Judgement assessment under Section 144 where the assessee had not produced relevant records relating to its day to day manufacture of ‘bidis’ including the quanitity of bidis manufactured daily, the figures of bidi leaves consumed per day in each factory and the records relating to the daily collection of CHAAT and MAPARI bidis, the Tribunal has been held correct in holding that the Income Tax Officer was not satisfied about the fairness or correctness of the accounts of the assessee.

 

Although the words “Best of the Judgement” are used in Section 144 alone, the only difference between the assessment under Section 143(3) where books are found to be unreliable and an assessment under Section 144 is that the Act has contemplated a more summary method when the Assessing Officer is acting under Section 144 and that on account of deliberate default of the assessee. [Gunda Subahiya v/s. CIT (1939) 7 ITR 21 Mad-FB.]

 

It may further be noted that the assessment that has to be made after rejection of books under Section 145(3), of the evidence or books produced is not an assessment under Section 144, but is only an assessment under Section 143(3) which is to be made “in the manner provided in Section 144”. In such cases, the Assessing Officer has to give an opportunity to the assessee to contradict the materials upon which the Assessing Officer wants to base his estimate. [Addl. ITO V/s. Ponkunnam Traders (1976) 102 ITR 366 (Ker)]

 

 

 

When the Assessing Officer does not accept the assessee’s method of accounting then he has to resort to the provisions of Section 145 to 145(2) [now 145(3)] for computation of income by adopting such other basis as determined by him. The Karnataka High Court in the case of Karnataka State Forest Industries Corporation Ltd., V/s. CIT (1993) 201 ITR 674 has held that the Assessing Officer’s powers under the Section are not arbitrary and he must exercise his discretion and judgment judicially. A clear finding is necessary before invoking the Section 145(3) of the Act.

Hon’ble Supreme Court and the various High Courts in number of cases have held that before invoking the provisions of Section 145(3) of the Act [earlier Sections 145(1) and 145(2)]. The Assessing Officer has to bring on record material on the basis of which he has arrived at the conclusion with regard to correctness or completeness of the accounts of the assessee or the method of accounting employed by it.

Demonetization special: When books of account of the assessee are not reliable and rejected by the authorities  then there is no reason to make addition u/s 40A(3) or section 68 of the Income Tax Act

Deepak Mittal vs. ACIT (ITAT Delhi)

The key observation in above case is compiled as under:

  1. Learned Counsel for the Assessee submitted that assessee explained before A.O. that transaction of sale of unbranded Aatta purchased from M/s. Hanuman Traders were made outside the books of account and offered the amount for taxation by applying the profit rate of 8% on unrecorded sales.

The A.O. also noted in the assessment order that purchase of unbranded Aatta from M/s. Hanuman Traders and corresponding sales have not been shown in the books of account The A.O. accordingly, rejected the books of account under section 145(3) of the I.T. Act.

He has submitted that when books of account of the assessee are not reliable and rejected, the A.O. is not justified in making the disallowance under section 40A(3) of the I.T. Act. He has further submitted that there is no evidence on record to prove assessee made any investment in unrecorded purchases or that assessee received any amount from M/s. Hanuman Traders so as to consider the addition under section 68 of the I.T. Act.

He has submitted that Ld. CIT(A) has merely recorded order sheet entry on 8th June, 2017, but has not been given any specific notice for making enhancement to the assessed income, which A.O. has not made. He has submitted that there is no basis for making both the additions against the assessee.

He has submitted that where A.O. and Ld. CIT(A) rejected the books of account of the assessee and ultimately, estimated gross profit on suppressed sales, he could not make separate addition on account of unexplained investment, undisclosed income etc., and also cannot make disallowance of expenses under section 40A(3) of the I.T. Act.

In support of his contention, he has relied upon the decisions in the case of CIT, Belgaum vs. Bahubali Neminath Muttin (2016) 72 taxman.com 139 (Karnataka) (HC), CIT, Ludhiana vs. Santosh Jain (2008) 296 ITR 324 (P & H) (HC), CIT vs. Banwari Lal Bansidhar (1998) 229 ITR 229 (All.) (HC), Indwell Construction vs. CIT (1998) 232 ITR 776 (A.P.) (HC), CIT vs. Aggarwal Engg. Co. (2008) 302 ITR 246 (P & H), CIT vs. President Industries (2002) 258 ITR 654 (Guj.), CIT vs. M/s. Hind Agro Industries, ITAT, Chandigarh Bench and ITO vs. Nardev Kumar Gupta (2013) 22 ITR (Tribu.) 273 (Jaipur).

  1. We have considered the rival contentions. The Honble Gujrat High Court in the case of CIT vs. President Industries (2002) 258 ITR 654 (Guj.) held as under : “In the course of survey conducted in the premises of the assessee, excise records found, which disclosed godown sales not disclosed in the books of account of the assessee.

The Assessing Officer made the addition of the undisclosed income of the entire sale proceeds thereof.

The Commissioner (Appeals) affirmed the addition but the Appellate Tribunal found that there was no material to indicate that the assessee made investments outside the books of account to make alleged sales and held that entire sale proceeds could not have been added as undisclosed income of the assessee but the addition could be only of the profits embedded in the sales. The Tribunal having declined to state a case, the Department applied to the High Court for an order calling for a reference;

Held, dismissing the application for reference, that the amount of sales could not represent the income of the assessee who had not disclosed the sales. The sales only represented the price received by the seller of the goods; only the realisation of excess over the cost incurred could form part of the profit included in the consideration for the sales. Since, there was no finding to the effect that investment by way of incurring the cost in acquiring the goods which were sold had been made by the assessee and that that investment was also not disclosed, only the excess over the cost incurred could be treated as profit.”

  1. The Honble Gujrat High Court following its earlier Judgment in the case of President Industries (supra), in the case of CIT vs. Samir Synthetics Mill (2010) 326 ITR 410 (Guj.), held as under:

“In the course of a search by the Excise Department in the premises of the assessee, it was found that the production of man-made fabrics was suppressed and only a small part thereof was shown in the excise register. The assessee could not reconcile the production, sales and the closing stock despite opportunity given by the Assessing Officer and addition in respect of unaccounted sales was made by the Assessing Officer.

The Commissioner (Appeals) found that the assessee failed to explain the suppression of production of fabrics and also held that any addition that was to be made was not in respect of the sale consideration but only in respect of the profit. The Commissioner (Appeals) reduced the addition made by the Assessing Officer.

The Tribunal concurred with the Commissioner (Appeals) as it found that there was no evidence on record to prove that the assessee had claimed all the expenses in the profit and loss account. On appeal:

Held, dismissing the appeals, that in view of the concurrent findings of fact by the Commissioner (Appeals) and the Tribunal that the reduced addition was just and equitable on account of papers found during the search, there was no merit in the appeals.”

  1. The Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) held as under :

“Held affirming the decision of the Tribunal, that no disallowance could be made in view of the provisions of section 40A(3) read with rule 6DD(j) of the Income-tax Rules, 1962, as no deduction was allowed to and claimed by the assessee. When the gross profit rate was applied, that would take care of everything and there was no need for the Assessing Officer to make scrutiny of the amount incurred on the purchases made by the assessee.”

  1. Considering the facts of the case in the light of the above decisions and decisions relied upon by Learned Counsel for the Assessee, we are of the view that both the additions cannot be sustained.

The A.O. during the course of assessment proceedings found that assessee has made purchases and sales outside the books of account of unbranded Aatta. The A.O. noted that name of M/s. Hanuman Traders did not exist in purchase or sale ledger.

The A.O. after recording the statement of the assessee found that assessee has confessed that he has neither shown the purchases of unbranded Aatta purchased from M/s. Hanuman Traders in the books of account nor has shown corresponding sales in his books of account. The profit earned out of these transactions, has not been accounted by the assessee in the books of account.

The assessee offered the amount for taxation i.e., profit out of these transactions @ 8% in a sum of Rs.60,41,212/-. The A.O. accordingly, rejected the books of account of the assessee under section 145(3) of the I.T. Act and after recasting the Trading & P & L A/c, made the addition of Rs.4.14 crores on account of additional profit.

The Ld. CIT(A), correctly noted that entire sales could not be profit of the assessee and that re-casting of the Trading & P & L A/c by the A.O. is not proper as per law. The Ld. CIT(A) has taken the purchases and sales in the appellate order and the difference of the same was taken as undisclosed profit of the assessee in a sum of Rs.62,91,150/- which is almost same as offered by assessee @ 8% of undisclosed turnover.

The assessee did not challenge the rejection of the books of account under section 145(3) and the addition made by Ld. CIT(A) above to the profit of the assessee.

There is no challenge to these findings of the Ld. CIT(A) by the Department in the Departmental appeal because filing of Departmental Appeal not reported by Ld. CIT- D.R. Learned Counsel for the Assessee relied upon several decisions of different High Courts in which it was held that “when A.O. rejected the books of account of the assessee and applied gross profit rate on suppressed sales, A.O. cannot make separate addition on account of unexplained investment, undisclosed income and even the provisions of Section 40A(3) could not be invoked.”

14.1. One of the decision of Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) as reproduced above along with Judgments of Hon’ble Gujrat High Court in the case of President Industries and CIT vs. Samir Synthetics Mill (supra), the authorities below have also not found any material to indicate that assessee made investments outside the books of account to make the sales.

The entire sales could not represent income of the assessee, on which, Ld. CIT(A), has already given a finding to add the profit only on such unrecorded sales.

When books of account of the assessee are not reliable and rejected by the authorities below under section 145(3) of the I.T. Act and there is no challenge to these findings of the authorities below, there is no reason for the authorities below to rely upon the same books of account for the purpose of making addition under section 40A(3) of the I.T. Act as well as to make addition of peak under section 68 of the I.T. Act.

The A.O. noted in his findings that M/s. Hanuman Traders did not exist in purchase and sale ledger and existence of the same have not been proved. The Inspector also gave report to the same effect that M/s. Hanuman Traders do not exist at the given address. These facts clearly show that whatever entries are relied upon by the authorities below from the books of account, are contrary to the findings of the authorities below because non-existent party would not come to pay any amount to the assessee.

Therefore, there is no question of considering the unrecorded amount recorded in the books of account of the assessee, so as to make the addition under section 68 of the I.T. Act. The A.O. did not make addition under section 68 of the I.T. Act separately because the addition is already made under section 40A(3) of the I.T. Act.

The Ld. CIT(A) did not give any specific notice to assessee for enhancement of income under section 68 of the I.T. Act because he has merely recorded entry of 8th June, 2017 without confronting the facts for making addition of peak credit. The Ld. CIT(A) forgot to consider that if he wanted to make addition on account of peak credit on account of M/s. Hanuman Traders, whether theory of peak credit would apply in the case of the assessee?

For considering the issue of peak credit, the authorities below have to laid-out the foundation that it was unaccounted money of the assessee having both debit and credit which assessee did not agree.

It could not be taken into consideration for making such addition under section 68 of the I.T. Act in the hands of the assessee for making any alleged transaction with M/s. Hanuman Traders, which, according to the authorities below, did not exist and that no such entries appear in the books of account of the assessee.

Even if, some entries appeared in the books of account of the assessee regarding M/s. Hanuman Traders, according to the findings of the authorities below, such books of account of the assessee are not reliable.

Therefore, the authorities below cannot rely upon the same entries in books of account for the purpose of making the addition of the nature of peak against the assessee.

Thus, there is no justification for the authorities below to make addition of Rs.6,92,25,000/- under section 40A(3) of the I.T. Act and addition of Rs.7,12,15,150/- under section 68 of the I.T. Act. In view of the above discussion, we set aside the orders of the authorities below and delete both these additions.

It may be noted that When books of account of the assessee are not reliable and rejected by the authorities  then there is no reason to make addition u/s 40A(3) or section 68 of the Income Tax Act. It was held by ITAT. Delhi in Deepak Mittal vs. ACIT wherein key observation were as under:

  1. Learned Counsel for the Assessee submitted that assessee explained before A.O. that transaction of sale of unbranded Aatta purchased from M/s. Hanuman Traders were made outside the books of account and offered the amount for taxation by applying the profit rate of 8% on unrecorded sales.

The A.O. also noted in the assessment order that purchase of unbranded Aatta from M/s. Hanuman Traders and corresponding sales have not been shown in the books of account The A.O. accordingly, rejected the books of account under section 145(3) of the I.T. Act.

He has submitted that when books of account of the assessee are not reliable and rejected, the A.O. is not justified in making the disallowance under section 40A(3) of the I.T. Act. He has further submitted that there is no evidence on record to prove assessee made any investment in unrecorded purchases or that assessee received any amount from M/s. Hanuman Traders so as to consider the addition under section 68 of the I.T. Act.

He has submitted that Ld. CIT(A) has merely recorded order sheet entry on 8th June, 2017, but has not been given any specific notice for making enhancement to the assessed income, which A.O. has not made. He has submitted that there is no basis for making both the additions against the assessee.

He has submitted that where A.O. and Ld. CIT(A) rejected the books of account of the assessee and ultimately, estimated gross profit on suppressed sales, he could not make separate addition on account of unexplained investment, undisclosed income etc., and also cannot make disallowance of expenses under section 40A(3) of the I.T. Act.

In support of his contention, he has relied upon the decisions in the case of CIT, Belgaum vs. Bahubali Neminath Muttin (2016) 72 taxman.com 139 (Karnataka) (HC), CIT, Ludhiana vs. Santosh Jain (2008) 296 ITR 324 (P & H) (HC), CIT vs. Banwari Lal Bansidhar (1998) 229 ITR 229 (All.) (HC), Indwell Construction vs. CIT (1998) 232 ITR 776 (A.P.) (HC), CIT vs. Aggarwal Engg. Co. (2008) 302 ITR 246 (P & H), CIT vs. President Industries (2002) 258 ITR 654 (Guj.), CIT vs. M/s. Hind Agro Industries, ITAT, Chandigarh Bench and ITO vs. Nardev Kumar Gupta (2013) 22 ITR (Tribu.) 273 (Jaipur).

  1. We have considered the rival contentions. The Honble Gujrat High Court in the case of CIT vs. President Industries (2002) 258 ITR 654 (Guj.) held as under : “In the course of survey conducted in the premises of the assessee, excise records found, which disclosed godown sales not disclosed in the books of account of the assessee.

The Assessing Officer made the addition of the undisclosed income of the entire sale proceeds thereof.

The Commissioner (Appeals) affirmed the addition but the Appellate Tribunal found that there was no material to indicate that the assessee made investments outside the books of account to make alleged sales and held that entire sale proceeds could not have been added as undisclosed income of the assessee but the addition could be only of the profits embedded in the sales. The Tribunal having declined to state a case, the Department applied to the High Court for an order calling for a reference;

Held, dismissing the application for reference, that the amount of sales could not represent the income of the assessee who had not disclosed the sales. The sales only represented the price received by the seller of the goods; only the realisation of excess over the cost incurred could form part of the profit included in the consideration for the sales. Since, there was no finding to the effect that investment by way of incurring the cost in acquiring the goods which were sold had been made by the assessee and that that investment was also not disclosed, only the excess over the cost incurred could be treated as profit.”

  1. The Honble Gujrat High Court following its earlier Judgment in the case of President Industries (supra), in the case of CIT vs. Samir Synthetics Mill (2010) 326 ITR 410 (Guj.), held as under:

“In the course of a search by the Excise Department in the premises of the assessee, it was found that the production of man-made fabrics was suppressed and only a small part thereof was shown in the excise register. The assessee could not reconcile the production, sales and the closing stock despite opportunity given by the Assessing Officer and addition in respect of unaccounted sales was made by the Assessing Officer.

The Commissioner (Appeals) found that the assessee failed to explain the suppression of production of fabrics and also held that any addition that was to be made was not in respect of the sale consideration but only in respect of the profit. The Commissioner (Appeals) reduced the addition made by the Assessing Officer.

The Tribunal concurred with the Commissioner (Appeals) as it found that there was no evidence on record to prove that the assessee had claimed all the expenses in the profit and loss account. On appeal:

Held, dismissing the appeals, that in view of the concurrent findings of fact by the Commissioner (Appeals) and the Tribunal that the reduced addition was just and equitable on account of papers found during the search, there was no merit in the appeals.”

  1. The Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) held as under :

“Held affirming the decision of the Tribunal, that no disallowance could be made in view of the provisions of section 40A(3) read with rule 6DD(j) of the Income-tax Rules, 1962, as no deduction was allowed to and claimed by the assessee. When the gross profit rate was applied, that would take care of everything and there was no need for the Assessing Officer to make scrutiny of the amount incurred on the purchases made by the assessee.”

  1. Considering the facts of the case in the light of the above decisions and decisions relied upon by Learned Counsel for the Assessee, we are of the view that both the additions cannot be sustained.

The A.O. during the course of assessment proceedings found that assessee has made purchases and sales outside the books of account of unbranded Aatta. The A.O. noted that name of M/s. Hanuman Traders did not exist in purchase or sale ledger.

The A.O. after recording the statement of the assessee found that assessee has confessed that he has neither shown the purchases of unbranded Aatta purchased from M/s. Hanuman Traders in the books of account nor has shown corresponding sales in his books of account. The profit earned out of these transactions, has not been accounted by the assessee in the books of account.

The assessee offered the amount for taxation i.e., profit out of these transactions @ 8% in a sum of Rs.60,41,212/-. The A.O. accordingly, rejected the books of account of the assessee under section 145(3) of the I.T. Act and after recasting the Trading & P & L A/c, made the addition of Rs.4.14 crores on account of additional profit.

The Ld. CIT(A), correctly noted that entire sales could not be profit of the assessee and that re-casting of the Trading & P & L A/c by the A.O. is not proper as per law. The Ld. CIT(A) has taken the purchases and sales in the appellate order and the difference of the same was taken as undisclosed profit of the assessee in a sum of Rs.62,91,150/- which is almost same as offered by assessee @ 8% of undisclosed turnover.

The assessee did not challenge the rejection of the books of account under section 145(3) and the addition made by Ld. CIT(A) above to the profit of the assessee.

There is no challenge to these findings of the Ld. CIT(A) by the Department in the Departmental appeal because filing of Departmental Appeal not reported by Ld. CIT- D.R. Learned Counsel for the Assessee relied upon several decisions of different High Courts in which it was held that “when A.O. rejected the books of account of the assessee and applied gross profit rate on suppressed sales, A.O. cannot make separate addition on account of unexplained investment, undisclosed income and even the provisions of Section 40A(3) could not be invoked.”

14.1. One of the decision of Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) as reproduced above along with Judgments of Hon’ble Gujrat High Court in the case of President Industries and CIT vs. Samir Synthetics Mill (supra), the authorities below have also not found any material to indicate that assessee made investments outside the books of account to make the sales.

The entire sales could not represent income of the assessee, on which, Ld. CIT(A), has already given a finding to add the profit only on such unrecorded sales.

When books of account of the assessee are not reliable and rejected by the authorities below under section 145(3) of the I.T. Act and there is no challenge to these findings of the authorities below, there is no reason for the authorities below to rely upon the same books of account for the purpose of making addition under section 40A(3) of the I.T. Act as well as to make addition of peak under section 68 of the I.T. Act.

The A.O. noted in his findings that M/s. Hanuman Traders did not exist in purchase and sale ledger and existence of the same have not been proved. The Inspector also gave report to the same effect that M/s. Hanuman Traders do not exist at the given address. These facts clearly show that whatever entries are relied upon by the authorities below from the books of account, are contrary to the findings of the authorities below because non-existent party would not come to pay any amount to the assessee.

Therefore, there is no question of considering the unrecorded amount recorded in the books of account of the assessee, so as to make the addition under section 68 of the I.T. Act. The A.O. did not make addition under section 68 of the I.T. Act separately because the addition is already made under section 40A(3) of the I.T. Act.

The Ld. CIT(A) did not give any specific notice to assessee for enhancement of income under section 68 of the I.T. Act because he has merely recorded entry of 8th June, 2017 without confronting the facts for making addition of peak credit. The Ld. CIT(A) forgot to consider that if he wanted to make addition on account of peak credit on account of M/s. Hanuman Traders, whether theory of peak credit would apply in the case of the assessee?

For considering the issue of peak credit, the authorities below have to laid-out the foundation that it was unaccounted money of the assessee having both debit and credit which assessee did not agree.

It could not be taken into consideration for making such addition under section 68 of the I.T. Act in the hands of the assessee for making any alleged transaction with M/s. Hanuman Traders, which, according to the authorities below, did not exist and that no such entries appear in the books of account of the assessee.

Even if, some entries appeared in the books of account of the assessee regarding M/s. Hanuman Traders, according to the findings of the authorities below, such books of account of the assessee are not reliable.

Therefore, the authorities below cannot rely upon the same entries in books of account for the purpose of making the addition of the nature of peak against the assessee.

Thus, there is no justification for the authorities below to make addition of Rs.6,92,25,000/- under section 40A(3) of the I.T. Act and addition of Rs.7,12,15,150/- under section 68 of the I.T. Act. In view of the above discussion, we set aside the orders of the authorities below and delete both these additions.

Demonetization special: When books of account of the assessee are not reliable and rejected by the authorities  then there is no reason to make addition u/s 40A(3) or section 68 of the Income Tax Act

Deepak Mittal vs. ACIT (ITAT Delhi)

The key observation in above case is compiled as under:

  1. Learned Counsel for the Assessee submitted that assessee explained before A.O. that transaction of sale of unbranded Aatta purchased from M/s. Hanuman Traders were made outside the books of account and offered the amount for taxation by applying the profit rate of 8% on unrecorded sales.

The A.O. also noted in the assessment order that purchase of unbranded Aatta from M/s. Hanuman Traders and corresponding sales have not been shown in the books of account The A.O. accordingly, rejected the books of account under section 145(3) of the I.T. Act.

He has submitted that when books of account of the assessee are not reliable and rejected, the A.O. is not justified in making the disallowance under section 40A(3) of the I.T. Act. He has further submitted that there is no evidence on record to prove assessee made any investment in unrecorded purchases or that assessee received any amount from M/s. Hanuman Traders so as to consider the addition under section 68 of the I.T. Act.

He has submitted that Ld. CIT(A) has merely recorded order sheet entry on 8th June, 2017, but has not been given any specific notice for making enhancement to the assessed income, which A.O. has not made. He has submitted that there is no basis for making both the additions against the assessee.

He has submitted that where A.O. and Ld. CIT(A) rejected the books of account of the assessee and ultimately, estimated gross profit on suppressed sales, he could not make separate addition on account of unexplained investment, undisclosed income etc., and also cannot make disallowance of expenses under section 40A(3) of the I.T. Act.

In support of his contention, he has relied upon the decisions in the case of CIT, Belgaum vs. Bahubali Neminath Muttin (2016) 72 taxman.com 139 (Karnataka) (HC), CIT, Ludhiana vs. Santosh Jain (2008) 296 ITR 324 (P & H) (HC), CIT vs. Banwari Lal Bansidhar (1998) 229 ITR 229 (All.) (HC), Indwell Construction vs. CIT (1998) 232 ITR 776 (A.P.) (HC), CIT vs. Aggarwal Engg. Co. (2008) 302 ITR 246 (P & H), CIT vs. President Industries (2002) 258 ITR 654 (Guj.), CIT vs. M/s. Hind Agro Industries, ITAT, Chandigarh Bench and ITO vs. Nardev Kumar Gupta (2013) 22 ITR (Tribu.) 273 (Jaipur).

  1. We have considered the rival contentions. The Honble Gujrat High Court in the case of CIT vs. President Industries (2002) 258 ITR 654 (Guj.) held as under : “In the course of survey conducted in the premises of the assessee, excise records found, which disclosed godown sales not disclosed in the books of account of the assessee.

The Assessing Officer made the addition of the undisclosed income of the entire sale proceeds thereof.

The Commissioner (Appeals) affirmed the addition but the Appellate Tribunal found that there was no material to indicate that the assessee made investments outside the books of account to make alleged sales and held that entire sale proceeds could not have been added as undisclosed income of the assessee but the addition could be only of the profits embedded in the sales. The Tribunal having declined to state a case, the Department applied to the High Court for an order calling for a reference;

Held, dismissing the application for reference, that the amount of sales could not represent the income of the assessee who had not disclosed the sales. The sales only represented the price received by the seller of the goods; only the realisation of excess over the cost incurred could form part of the profit included in the consideration for the sales. Since, there was no finding to the effect that investment by way of incurring the cost in acquiring the goods which were sold had been made by the assessee and that that investment was also not disclosed, only the excess over the cost incurred could be treated as profit.”

  1. The Honble Gujrat High Court following its earlier Judgment in the case of President Industries (supra), in the case of CIT vs. Samir Synthetics Mill (2010) 326 ITR 410 (Guj.), held as under:

“In the course of a search by the Excise Department in the premises of the assessee, it was found that the production of man-made fabrics was suppressed and only a small part thereof was shown in the excise register. The assessee could not reconcile the production, sales and the closing stock despite opportunity given by the Assessing Officer and addition in respect of unaccounted sales was made by the Assessing Officer.

The Commissioner (Appeals) found that the assessee failed to explain the suppression of production of fabrics and also held that any addition that was to be made was not in respect of the sale consideration but only in respect of the profit. The Commissioner (Appeals) reduced the addition made by the Assessing Officer.

The Tribunal concurred with the Commissioner (Appeals) as it found that there was no evidence on record to prove that the assessee had claimed all the expenses in the profit and loss account. On appeal:

Held, dismissing the appeals, that in view of the concurrent findings of fact by the Commissioner (Appeals) and the Tribunal that the reduced addition was just and equitable on account of papers found during the search, there was no merit in the appeals.”

  1. The Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) held as under :

“Held affirming the decision of the Tribunal, that no disallowance could be made in view of the provisions of section 40A(3) read with rule 6DD(j) of the Income-tax Rules, 1962, as no deduction was allowed to and claimed by the assessee. When the gross profit rate was applied, that would take care of everything and there was no need for the Assessing Officer to make scrutiny of the amount incurred on the purchases made by the assessee.”

  1. Considering the facts of the case in the light of the above decisions and decisions relied upon by Learned Counsel for the Assessee, we are of the view that both the additions cannot be sustained.

The A.O. during the course of assessment proceedings found that assessee has made purchases and sales outside the books of account of unbranded Aatta. The A.O. noted that name of M/s. Hanuman Traders did not exist in purchase or sale ledger.

The A.O. after recording the statement of the assessee found that assessee has confessed that he has neither shown the purchases of unbranded Aatta purchased from M/s. Hanuman Traders in the books of account nor has shown corresponding sales in his books of account. The profit earned out of these transactions, has not been accounted by the assessee in the books of account.

The assessee offered the amount for taxation i.e., profit out of these transactions @ 8% in a sum of Rs.60,41,212/-. The A.O. accordingly, rejected the books of account of the assessee under section 145(3) of the I.T. Act and after recasting the Trading & P & L A/c, made the addition of Rs.4.14 crores on account of additional profit.

The Ld. CIT(A), correctly noted that entire sales could not be profit of the assessee and that re-casting of the Trading & P & L A/c by the A.O. is not proper as per law. The Ld. CIT(A) has taken the purchases and sales in the appellate order and the difference of the same was taken as undisclosed profit of the assessee in a sum of Rs.62,91,150/- which is almost same as offered by assessee @ 8% of undisclosed turnover.

The assessee did not challenge the rejection of the books of account under section 145(3) and the addition made by Ld. CIT(A) above to the profit of the assessee.

There is no challenge to these findings of the Ld. CIT(A) by the Department in the Departmental appeal because filing of Departmental Appeal not reported by Ld. CIT- D.R. Learned Counsel for the Assessee relied upon several decisions of different High Courts in which it was held that “when A.O. rejected the books of account of the assessee and applied gross profit rate on suppressed sales, A.O. cannot make separate addition on account of unexplained investment, undisclosed income and even the provisions of Section 40A(3) could not be invoked.”

14.1. One of the decision of Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) as reproduced above along with Judgments of Hon’ble Gujrat High Court in the case of President Industries and CIT vs. Samir Synthetics Mill (supra), the authorities below have also not found any material to indicate that assessee made investments outside the books of account to make the sales.

The entire sales could not represent income of the assessee, on which, Ld. CIT(A), has already given a finding to add the profit only on such unrecorded sales.

When books of account of the assessee are not reliable and rejected by the authorities below under section 145(3) of the I.T. Act and there is no challenge to these findings of the authorities below, there is no reason for the authorities below to rely upon the same books of account for the purpose of making addition under section 40A(3) of the I.T. Act as well as to make addition of peak under section 68 of the I.T. Act.

The A.O. noted in his findings that M/s. Hanuman Traders did not exist in purchase and sale ledger and existence of the same have not been proved. The Inspector also gave report to the same effect that M/s. Hanuman Traders do not exist at the given address. These facts clearly show that whatever entries are relied upon by the authorities below from the books of account, are contrary to the findings of the authorities below because non-existent party would not come to pay any amount to the assessee.

Therefore, there is no question of considering the unrecorded amount recorded in the books of account of the assessee, so as to make the addition under section 68 of the I.T. Act. The A.O. did not make addition under section 68 of the I.T. Act separately because the addition is already made under section 40A(3) of the I.T. Act.

The Ld. CIT(A) did not give any specific notice to assessee for enhancement of income under section 68 of the I.T. Act because he has merely recorded entry of 8th June, 2017 without confronting the facts for making addition of peak credit. The Ld. CIT(A) forgot to consider that if he wanted to make addition on account of peak credit on account of M/s. Hanuman Traders, whether theory of peak credit would apply in the case of the assessee?

For considering the issue of peak credit, the authorities below have to laid-out the foundation that it was unaccounted money of the assessee having both debit and credit which assessee did not agree.

It could not be taken into consideration for making such addition under section 68 of the I.T. Act in the hands of the assessee for making any alleged transaction with M/s. Hanuman Traders, which, according to the authorities below, did not exist and that no such entries appear in the books of account of the assessee.

Even if, some entries appeared in the books of account of the assessee regarding M/s. Hanuman Traders, according to the findings of the authorities below, such books of account of the assessee are not reliable.

Therefore, the authorities below cannot rely upon the same entries in books of account for the purpose of making the addition of the nature of peak against the assessee.

Thus, there is no justification for the authorities below to make addition of Rs.6,92,25,000/- under section 40A(3) of the I.T. Act and addition of Rs.7,12,15,150/- under section 68 of the I.T. Act. In view of the above discussion, we set aside the orders of the authorities below and delete both these additions.

Whether addition can be done u/s 40A(3) or section 68, if books of accounts are rejected:  

It may be noted that When books of account of the assessee are not reliable and rejected by the authorities  then there is no reason to make addition u/s 40A(3) or section 68 of the Income Tax Act. It was held by ITAT. Delhi in Deepak Mittal vs. ACIT wherein key observation were as under:

  1. Learned Counsel for the Assessee submitted that assessee explained before A.O. that transaction of sale of unbranded Aatta purchased from M/s. Hanuman Traders were made outside the books of account and offered the amount for taxation by applying the profit rate of 8% on unrecorded sales.

The A.O. also noted in the assessment order that purchase of unbranded Aatta from M/s. Hanuman Traders and corresponding sales have not been shown in the books of account The A.O. accordingly, rejected the books of account under section 145(3) of the I.T. Act.

He has submitted that when books of account of the assessee are not reliable and rejected, the A.O. is not justified in making the disallowance under section 40A(3) of the I.T. Act. He has further submitted that there is no evidence on record to prove assessee made any investment in unrecorded purchases or that assessee received any amount from M/s. Hanuman Traders so as to consider the addition under section 68 of the I.T. Act.

He has submitted that Ld. CIT(A) has merely recorded order sheet entry on 8th June, 2017, but has not been given any specific notice for making enhancement to the assessed income, which A.O. has not made. He has submitted that there is no basis for making both the additions against the assessee.

He has submitted that where A.O. and Ld. CIT(A) rejected the books of account of the assessee and ultimately, estimated gross profit on suppressed sales, he could not make separate addition on account of unexplained investment, undisclosed income etc., and also cannot make disallowance of expenses under section 40A(3) of the I.T. Act.

In support of his contention, he has relied upon the decisions in the case of CIT, Belgaum vs. Bahubali Neminath Muttin (2016) 72 taxman.com 139 (Karnataka) (HC), CIT, Ludhiana vs. Santosh Jain (2008) 296 ITR 324 (P & H) (HC), CIT vs. Banwari Lal Bansidhar (1998) 229 ITR 229 (All.) (HC), Indwell Construction vs. CIT (1998) 232 ITR 776 (A.P.) (HC), CIT vs. Aggarwal Engg. Co. (2008) 302 ITR 246 (P & H), CIT vs. President Industries (2002) 258 ITR 654 (Guj.), CIT vs. M/s. Hind Agro Industries, ITAT, Chandigarh Bench and ITO vs. Nardev Kumar Gupta (2013) 22 ITR (Tribu.) 273 (Jaipur).

  1. We have considered the rival contentions. The Honble Gujrat High Court in the case of CIT vs. President Industries (2002) 258 ITR 654 (Guj.) held as under : “In the course of survey conducted in the premises of the assessee, excise records found, which disclosed godown sales not disclosed in the books of account of the assessee.

The Assessing Officer made the addition of the undisclosed income of the entire sale proceeds thereof.

The Commissioner (Appeals) affirmed the addition but the Appellate Tribunal found that there was no material to indicate that the assessee made investments outside the books of account to make alleged sales and held that entire sale proceeds could not have been added as undisclosed income of the assessee but the addition could be only of the profits embedded in the sales. The Tribunal having declined to state a case, the Department applied to the High Court for an order calling for a reference;

Held, dismissing the application for reference, that the amount of sales could not represent the income of the assessee who had not disclosed the sales. The sales only represented the price received by the seller of the goods; only the realisation of excess over the cost incurred could form part of the profit included in the consideration for the sales. Since, there was no finding to the effect that investment by way of incurring the cost in acquiring the goods which were sold had been made by the assessee and that that investment was also not disclosed, only the excess over the cost incurred could be treated as profit.”

  1. The Honble Gujrat High Court following its earlier Judgment in the case of President Industries (supra), in the case of CIT vs. Samir Synthetics Mill (2010) 326 ITR 410 (Guj.), held as under:

“In the course of a search by the Excise Department in the premises of the assessee, it was found that the production of man-made fabrics was suppressed and only a small part thereof was shown in the excise register. The assessee could not reconcile the production, sales and the closing stock despite opportunity given by the Assessing Officer and addition in respect of unaccounted sales was made by the Assessing Officer.

The Commissioner (Appeals) found that the assessee failed to explain the suppression of production of fabrics and also held that any addition that was to be made was not in respect of the sale consideration but only in respect of the profit. The Commissioner (Appeals) reduced the addition made by the Assessing Officer.

The Tribunal concurred with the Commissioner (Appeals) as it found that there was no evidence on record to prove that the assessee had claimed all the expenses in the profit and loss account. On appeal:

Held, dismissing the appeals, that in view of the concurrent findings of fact by the Commissioner (Appeals) and the Tribunal that the reduced addition was just and equitable on account of papers found during the search, there was no merit in the appeals.”

  1. The Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) held as under :

“Held affirming the decision of the Tribunal, that no disallowance could be made in view of the provisions of section 40A(3) read with rule 6DD(j) of the Income-tax Rules, 1962, as no deduction was allowed to and claimed by the assessee. When the gross profit rate was applied, that would take care of everything and there was no need for the Assessing Officer to make scrutiny of the amount incurred on the purchases made by the assessee.”

  1. Considering the facts of the case in the light of the above decisions and decisions relied upon by Learned Counsel for the Assessee, we are of the view that both the additions cannot be sustained.

The A.O. during the course of assessment proceedings found that assessee has made purchases and sales outside the books of account of unbranded Aatta. The A.O. noted that name of M/s. Hanuman Traders did not exist in purchase or sale ledger.

The A.O. after recording the statement of the assessee found that assessee has confessed that he has neither shown the purchases of unbranded Aatta purchased from M/s. Hanuman Traders in the books of account nor has shown corresponding sales in his books of account. The profit earned out of these transactions, has not been accounted by the assessee in the books of account.

The assessee offered the amount for taxation i.e., profit out of these transactions @ 8% in a sum of Rs.60,41,212/-. The A.O. accordingly, rejected the books of account of the assessee under section 145(3) of the I.T. Act and after recasting the Trading & P & L A/c, made the addition of Rs.4.14 crores on account of additional profit.

The Ld. CIT(A), correctly noted that entire sales could not be profit of the assessee and that re-casting of the Trading & P & L A/c by the A.O. is not proper as per law. The Ld. CIT(A) has taken the purchases and sales in the appellate order and the difference of the same was taken as undisclosed profit of the assessee in a sum of Rs.62,91,150/- which is almost same as offered by assessee @ 8% of undisclosed turnover.

The assessee did not challenge the rejection of the books of account under section 145(3) and the addition made by Ld. CIT(A) above to the profit of the assessee.

There is no challenge to these findings of the Ld. CIT(A) by the Department in the Departmental appeal because filing of Departmental Appeal not reported by Ld. CIT- D.R. Learned Counsel for the Assessee relied upon several decisions of different High Courts in which it was held that “when A.O. rejected the books of account of the assessee and applied gross profit rate on suppressed sales, A.O. cannot make separate addition on account of unexplained investment, undisclosed income and even the provisions of Section 40A(3) could not be invoked.”

14.1. One of the decision of Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) as reproduced above along with Judgments of Hon’ble Gujrat High Court in the case of President Industries and CIT vs. Samir Synthetics Mill (supra), the authorities below have also not found any material to indicate that assessee made investments outside the books of account to make the sales.

The entire sales could not represent income of the assessee, on which, Ld. CIT(A), has already given a finding to add the profit only on such unrecorded sales.

When books of account of the assessee are not reliable and rejected by the authorities below under section 145(3) of the I.T. Act and there is no challenge to these findings of the authorities below, there is no reason for the authorities below to rely upon the same books of account for the purpose of making addition under section 40A(3) of the I.T. Act as well as to make addition of peak under section 68 of the I.T. Act.

The A.O. noted in his findings that M/s. Hanuman Traders did not exist in purchase and sale ledger and existence of the same have not been proved. The Inspector also gave report to the same effect that M/s. Hanuman Traders do not exist at the given address. These facts clearly show that whatever entries are relied upon by the authorities below from the books of account, are contrary to the findings of the authorities below because non-existent party would not come to pay any amount to the assessee.

Therefore, there is no question of considering the unrecorded amount recorded in the books of account of the assessee, so as to make the addition under section 68 of the I.T. Act. The A.O. did not make addition under section 68 of the I.T. Act separately because the addition is already made under section 40A(3) of the I.T. Act.

The Ld. CIT(A) did not give any specific notice to assessee for enhancement of income under section 68 of the I.T. Act because he has merely recorded entry of 8th June, 2017 without confronting the facts for making addition of peak credit. The Ld. CIT(A) forgot to consider that if he wanted to make addition on account of peak credit on account of M/s. Hanuman Traders, whether theory of peak credit would apply in the case of the assessee?

For considering the issue of peak credit, the authorities below have to laid-out the foundation that it was unaccounted money of the assessee having both debit and credit which assessee did not agree.

It could not be taken into consideration for making such addition under section 68 of the I.T. Act in the hands of the assessee for making any alleged transaction with M/s. Hanuman Traders, which, according to the authorities below, did not exist and that no such entries appear in the books of account of the assessee.

Even if, some entries appeared in the books of account of the assessee regarding M/s. Hanuman Traders, according to the findings of the authorities below, such books of account of the assessee are not reliable.

Therefore, the authorities below cannot rely upon the same entries in books of account for the purpose of making the addition of the nature of peak against the assessee.

Thus, there is no justification for the authorities below to make addition of Rs.6,92,25,000/- under section 40A(3) of the I.T. Act and addition of Rs.7,12,15,150/- under section 68 of the I.T. Act. In view of the above discussion, we set aside the orders of the authorities below and delete both these additions.

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