ITAT Mumbai Quashes Reopening Over Incorrect Penny Stock Information Under Section 147

Anil Chothmal Patodia HUF Vs National Faceless Appeal Centre (ITAT Mumbai)

The ITAT Mumbai allowed the assessee’s appeal on legal grounds and quashed the reassessment proceedings initiated under Section 147 of the Income-tax Act, 1961 for A.Y. 2015-16. The assessee had filed its return on 31.03.2016 declaring total income of Rs.2,63,520/-, which was processed under Section 143(1). Subsequently, the Assessing Officer reopened the assessment under Section 147 after receiving information from the Kolkata Investigation Directorate concerning alleged accommodation entries and manipulation in 84 penny stock companies. The recorded reasons alleged that the assessee had obtained bogus Long Term Capital Gain of Rs.1,18,39,977/- through trading in EINS Edutech Ltd. for sale consideration of Rs.3,35,51,000/-.

The assessee challenged the validity of reopening and the addition of Rs.3,36,70,000/- made under Section 69 as unexplained investment. According to the assessee, the recorded reasons were factually incorrect because the Long Term Capital Gain of Rs.1,18,39,977/- had actually arisen from the sale of shares of M/s. Bhageria Dye Chem Ltd., and not EINS Edutech Ltd. The assessee had instead incurred a short-term capital loss of Rs.1,52,551/- on EINS Edutech Ltd. shares, which had not been claimed in the return.

During reassessment, the AO noted that the assessee had purchased 7,00,000 shares of EINS Edutech Ltd. for Rs.3,36,70,000/- and sold them for Rs.3,35,17,449/-, resulting in a short-term capital loss. The AO questioned the source of the purchase investment and, referring to the investigation concerning penny stocks and the statement of the Karta of the assessee HUF, treated Rs.3,36,70,000/- as unexplained investment under Section 69. The CIT(A) upheld the addition, observing that the assessee had not established a known source for the investment.

Before the Tribunal, the assessee argued that the reasons recorded for reopening were based on an entirely different transaction and that there was no reference in those reasons to the source of investment in EINS Edutech Ltd. It was submitted that the AO had alleged bogus LTCG from EINS Edutech Ltd., although the disclosed LTCG related to Bhageria Dye Chem Ltd. The assessee further submitted that the short-term capital loss from EINS Edutech Ltd. had not been set off or carried forward.

The Departmental Representative submitted that the assessee had admittedly traded in EINS Edutech Ltd., a penny stock referred to in the investigation, and that the information available was sufficient at the reopening stage to form a prima facie belief. It was also submitted that the assessee could not explain the source or rationale of purchasing the shares and selling them within two days at a loss.

The ITAT examined the reasons recorded for reopening and found that the AO had not applied his mind to the actual return records before issuing the notice under Section 148. The Tribunal noted that the reasons alleged that the assessee had earned bogus LTCG of Rs.1,18,39,977/- from EINS Edutech Ltd., whereas the assessee had disclosed that amount as LTCG from Bhageria Dye Chem Ltd. The Tribunal further noted that no adverse finding had been given regarding the Bhageria Dye Chem Ltd. transaction.

The Tribunal observed that the very premise on which jurisdiction was assumed was incorrect. It found that the information concerning EINS Edutech Ltd. had no live-link nexus with the alleged income escaping assessment because the alleged LTCG did not arise from that scrip. The Tribunal also noted that the assessee had actually incurred a short-term capital loss of approximately Rs.1,52,500/- on EINS Edutech Ltd. and had neither set it off against income nor carried it forward.

The Tribunal further found no correlation between the reasons recorded for reopening and the addition ultimately made under Section 69. The recorded reasons concerned alleged bogus LTCG, whereas the assessment addition related to the source of funds used to purchase the EINS Edutech Ltd. shares. According to the Tribunal, if the AO had formed a belief concerning the source of the investment, the reasons for reopening would have had to address the investment of Rs.3,36,70,000/-.

The Tribunal held that the reasons for reopening were based on incorrect information and that the AO had not verified the records or applied his mind before issuing the notice under Section 148. It concluded that the necessary nexus between the information, the recorded reasons and the alleged escaped income was lacking. Consequently, the reopening under Section 147 was held to be unsustainable and the entire assessment proceedings were quashed.

The assessee’s appeal was therefore allowed on legal grounds. The order was pronounced on 30 April 2024.

FULL TEXT OF THE ORDER OF ITAT MUMBAI

The appeal has been filed by the assessee against order dated 28/09/2023 passed by NFAC, Delhi for the quantum of assessment passed u/s.143(3) r.w.s. 147 for the A.Y.2015-16.

2. In the grounds of appeal assessee has challenged the validity of reopening u/s.147 and the addition of Rs.3,36,70,000/- made on account of unexplained investment u/s.69. The relevant grounds read as under:-

1. The Learned Assessing Officer (‘AO’) erred in assuming jurisdiction under section 147 of the Income-tax Act, 1961 (the ‘Act’) to reassess the income for AY 2015-16 without having complied with the jurisdictional safeguards mandated in section 147 of the Act.

The AO erred in assuming jurisdiction without having any valid reason to believe that income chargeable to tax had escaped assessment and recorded his reasons merely on surmises and conjectures. The AO has incorrectly alleged that the Appellant had earned bogus long term capital gains of Rs. Rs.1,18,39,977/ – when in fact that Appellant had earned a loss of Rs. 1,52,551/ – on the sale of share of EINS Edutech Limited (Apalya Creations Ltd.).

Accordingly, it is submitted that the notice issued under section 148 dated 13-09- 2016 was issued without jurisdiction and consequentially, the assessment order dated 22-12-2017, based on such a notice is also bad in law and liable to be set aside.

2. The Ld. National Faceless Appeal Centre is not justified in upholding the decision of the AO in making an addition of Rs. 3,36,70,000/ – as being Unexplained Investments of the Appellant under section 69 of the Income Tax Act, 1961.

2. We have heard both the parties on the validity of reopening u/s.147 / 148.

3. The brief facts qua the legal issue are that assessee had filed its return of income for A.Y.2015-16 declaring total income of Rs.2,63,520/- on 31/03/2016. The same was duly processed u/s. 143(1) and return of income was accepted. Thereafter, assessee’s case has been reopened u/ s.147 after recording the following reasons:-

“1. The return of income was filed by the assessee on 31.03.2016 declaring total income of Rs.2,63,520/ -.

2. The Kolkata Investigation Directorate had undertaken investigation into 84 penny stock companies and given detailed findings indicating bogus LTCG/ STCG entries claimed by large number of beneficiaries. The modus operandi involving operators, intermediaries and the beneficiaries has been detailed in the Investigation report prepared by the Kolkata Directorate.

3. The investigation conducted by the Kolkata Investigation Directorate reveals that the trading in sales penny stock was manipulated affair to generate entries of bogus Long Term Capital Gain facilitating tax evasion by a large number of persons. The assessee is one such person who has availed accommodation entries of bogus LTCG. The above manipulations are corroborated by the strong statements of various persons, recorded during the said investigation.

4. Information received from KOLKATA Investigation Directorate, that assessee has obtained accommodation entries of bogus Long Term capital Gain through trading in EINS Edutech Ltd., one of the Penny stock company for sales consideration of Rs.3,35,51,000/ – and claimed Long Term Capital Gain of Rs:1,18,39,977, as exempt income. The assessee’s income is not subject to scrutiny assessment u/ s.143(3) of the Act, for the year under consideration and I have reasons to believe that the income of the assessee has escaped assessment within the meaning of Explanation (b) of Sec. 147 of the I.T. Act.

4. The ld. AO noted that assessee had shown long term capital gain of Rs.1,18,39,977/- in the return of income on sale of shares of M/s. Bhageria Dye Chem Ltd., and has shown short term capital loss of Rs.1,52,551/- on sale of shares of EINS Edutech Ltd., He further submitted that the transaction of short term capital loss on sale of shares of EINS Edutech Ltd., of Rs.1,52,551/- has not been reported in the return of income. The assessee had purchased 7,00,000 shares offline of EINS Edutech Ltd., and had sold the same as per the following details:-

STCL on sale of shares

5. The ld. AO doubted the payment made for purchase for the shares of EINS Edutech Ltd., which was not submitted by the assessee. Therefore, according to him, the source of making investment in these shares could not be established which has been added by him u/s.69. While coming to this conclusion, he has referred to statement of Karta assessee HUF which he has recorded in the course of assessment proceedings and noted that Karta had no idea of this short term capital loss earned from the share and EINS Edutech Ltd., is one of the 84 penny stocks in which investigation was carried out and found that these shares were used for accommodation entries for bogus long term capital gain / short term capital gain and short term capital loss and assessee could not furnish the payment proof and corresponding banking entries and accordingly, he treated the amount of Rs. 3,36,70,000/- cost of purchase of shares as unexplained investment. The ld. CIT (A) has confirmed the order of the ld. AO holding that assessee could not explain the source of investment observing as under:-

“10. During the course of appeal, several notices were issued. On every occasion, the appellant filed the same reply that was furnished before CIT (A)-38, Mumbai discussed above. This was only submitted in their reply dated 11.09.2023.

11. In view of the above, it is unambiguously proved that the appellant did not have any known source of income for investing a sum of Rs.3,36,70,000/- on 16.03.2015 & 17.03.2015 for purchase of shares of M/ s. Aplaya Creations (Eins Edutech Ltd.). The investigations carried out by the Investigation Wing of Kolkata and subsequent assessment made by the AO established that except the receipt of Rs.3,35,17,449/ -, the appellant did not give any other evidence in support of the investment of Rs.3,36,70,000/ -. Hence, the action of the AO is upheld. The grounds taken are dismissed.

12. As a result, the appeal is dismissed.”

6. Before us, ld. Counsel for the assessee drew our attention on the ‘reasons recorded’ and submitted that the reasons specified above are from the general investigation conducted by Kolkata Investigation Directorate and information revealed that the trading in sales of penny stock were manipulated affair to generate entries of bogus Long Term Capital Gain. Now based on such information AO records his satisfaction that assessee has earned long term capital gain through EINS Edutech Ltd., which is one of the penny stock for a sale consideration of Rs.3,35,51,000/- on which assessee had claimed long term capital gain of Rs. 1,18,39,977/- as exempt. He submitted that assessee has not earned any long term capital gain in trading of EINS Edutech Ltd. nor has claimed such in return of income, as the same has been earned on entirely different scrip, viz., Bhageria Dye Chem Ltd., which transaction has been duly accepted by the ld. AO. The assessee had earned short term capital loss of Rs.1,52,551/- in trading of EINS Edutech Ltd., which was not claimed in the return of income, because assessee had filed belated return and could not have been claimed the benefit of short term capital loss. Nowhere in the reasons there is any whisper about source of investment in the purchase of shares of EINS Edutech Ltd., The reasons have been taken on an entirely different ground and the assessment has been framed entirely on a different reasoning. Thus, the very foundation of jurisdiction of the ld. AO in incorrect and accordingly, the proceeding of reopening u/s.147 itself is invalid.

7. On the other hand, ld. DR submitted that here in this case there is no dispute that assessee had sold the shares of EINS Edutech Ltd., at Rs.3,35,51,000/-. This figure is matching with the transaction undertaken by the assessee, albeit, assessee has not earned any long term capital gain as mentioned in the reasons recorded. Thus, information per se that assessee has traded in a penny stock itself goes to show that it was a shady transaction and when during the course of assessment proceeding ld. AO enquired upon the shares, the assessee could not explain source of the investment or rationale behind purchasing of the shares and selling the same within two days at a loss. Thus, the ld. AO was within the jurisdiction for reopening the case based on such information, as at the time of reopening only prima facie belief has to be seen and not the established fact.

8. We have heard rival submissions and perused the material on record for the reopening of the case. Now from the bare perusal of the ‘reasons recorded’ as incorporated supra, we find that first paragraph is about general finding of Kolkata Investigation Directorate in 84 penny stock companies and modus operandi. The second paragraph mentioned that assessee is one such person who has taken accommodation entry of bogus long term gain. However, there is no bogus long term gain in so far as on the scrip of EINS Edutech Ltd., which has been mentioned in the information. The ld. AO after receiving the information has not even applied his mind or has verified the records, whether assessee has claimed any kind of bogus long term capital gain in sale of shares of EINS Edutech Ltd., which is an allegation made in third para that assessee had obtained long term entry of bogus long term capital gain in trading of these shares. The assessee had duly disclosed the long term capital gain of Rs.1,18,39,977 on sale of different scrip, Bhageria Dye Chem Ltd altogether which is neither a penny stock nor any finding has been given by the ld. AO on this scrip. Thus, very premise on which ld. AO has assumed the jurisdiction and material information on record has no live link nexus with the income escaping assessment. The reasons mentions trading in EINS Edutech Ltd., for a consideration of Rs.3,35,51,000/- on which assessee has earned long term capital gain of Rs.1,18,39,977/- which has been claimed as exempt income, which fact itself is incorrect. Further, it has been brought on record that assessee has earned short term capital loss of Rs.1,52,500/- as these shares were purchased on 16/03/2015 86 17/03/2015 and were sold on 18/03/2015 86 19/03/2015. The said short term capital loss has not been set off against any income or has been carried forward by the assessee. So there was no benefit to the assessee on this transaction which can lead to any inference that assessee must have engaged in some clandestine bogus entry for some benefit.

9. Now in the assessment proceedings, the ld. AO is taxing the source of investment in the purchase of the shares of EINS Edutech Ltd., which assessee has contended that it had settled the payment subsequently as these shares were booked through a broker and were sold within two days and purchase consideration has been settled after the sale subsequently. Be that as may be, there is no co-relation between the reasons recorded and the addition which has been made by the ld. AO. If ld. AO had such a belief during the course of assessment proceedings, he could have recorded the reasons on investment made in the purchase of shares for sums aggregating to Rs.3,36,70,000/-. Thus, there is no link between the information and the reasons recorded and the assessment which has been made by the ld. AO. It is sine-qua-non that for reopening the assessment, AO should have reason to believe that income chargeable to tax has escaped assessment and such reason to belief should be based on material and information having live link nexus or direct nexus with the income escaping assessment, which here in this case is purely lacking. In fact the reasons have been recorded on a wrong premise and on a wrong information and ld. AO has not even applied his mind on such information or verified the records before issuing notice u/s.148. Such reasons cannot be sustained or give jurisdiction to the ld. AO to reopen the case and accordingly, we hold that the entire reopening is bad in law and consequently entire assessment proceeding is quashed.

10. In the result, appeal of the assessee is allowed on legal grounds.

Order pronounced on     30th April, 2024.