Addition U//s 41(1) not justified for creditors paid in subsequent years

Satpal & Sons (HUF) Vs ACIT (ITAT Delhi) Authorized Representative further submitted that all the above creditors are outstanding from F.Y. 2008-09 and no any transactions have been made since then. The assessing officer has alleged that the creditors are outstanding in the books of account for more than 3 years, therefore, as per limitation of three years in respect of liability, such liabilities would stand ceased. It was submitted that these creditors have been paid in the subsequent years through banking channel and therefore, the assessing officer was not justified in making the addition under section 41(1) of the Income Tax Act.

Full Text of the ITAT Order is as follows:-

This is an appeal filed by the assessee against the order dated 7-11-2014 of learned Commissioner (Appeals)-XXVIII, Delhi for the assessment year 2011-12. In this appeal, the assessee has also filed a stay petition seeking stay of the outstanding demand. The grounds raised in appeal read as under :–

“1. That having regard to the facts and circumstances of the case, learned Commissioner (Appeals) has erred in law and on facts in confirming the action of learned assessing officer in making addition of Rs. 90,36,451 on account of sundry creditors under section 41(1), inter alia by treating as cessation of liability and that too in the year under appeal and without discharging the burden as per law and without considering the submissions of assessee and without considering the correct provisions of law. 2

2. That in any case and in any view of the matter, action of learned Commissioner (Appeals) in confirming the action of learned assessing officer in making addition of Rs. 90,36,451 under section 41(1) is bad in law and against the facts and circumstances of the case.

3. That having regard to the facts and circumstances of the case, learned Commissioner (Appeals) has erred in law and on facts in confirming the action of the learned assessing officer in making the addition of Rs. 12,320 on account of bogus purchases.

4. That having regards to the facts and circumstances of the case, learned Commissioner (Appeals) has erred in law and on facts in confirming the action of the learned assessing officer in making various dis allowances under the following heads by treating it as personal in nature.

–Rs. 7,670 on account of business promotion expenses.

–Rs. 3,174 on account of telephone expenses.

–Rs. 19,808 on account of car running & maintenance expenses.

–Rs. 27,471 on account of electricity expenses.

5. That in any case and in any view of the matter, action of learned Commissioner (Appeals) in confirming the action of learned assessing officer in making the various addition/dis allowance and framing the impugned assessment order is contrary to law and facts, void ab initio and the same is not sustainable on various legal and factual grounds.

6. That having regard to the facts and circumstances of the case, learned Commissioner (Appeals) has erred in law and on facts in not reversing the action of the learned assessing officer in charging interest under section 234B, 234C and 234D of the Income Tax Act, 1961.”

2. Ground No. 3 has not been pressed by the assessee and therefore, the same is dismissed as not pressed. 3

3. The brief facts of the case are that the assessee is engaged in the business of civil construction activities. The total gross receipts of the assessee during the year under consideration was Rs. 3,45,56,683 and the net profit rate was 18.29%. During the assessment year, the assessee had shown sundry creditors of Rs. 2,59,71,557 in his balance sheet. The assessing officer issued notices under section 133(6) to various parties, from whom the assessee had claimed to have made purchases and shown them as sundry creditors in the books of account. Some notices issued under section 133(6) returned un-served or no reply was received. The assessee was asked to produce the said sundry creditors, who had not complied with the notices under section 133(6). The assessing officer received the confirmations from certain parties, the details of which and observations of the assessing officer are mentioned in the assessment order as under :–

1. The ledger account of assessee in their books certified with the PAN No.

2. No copy of Income Tax Return of assessee. 4

3. No detail of nature of business.

4. No details of Bank Statements.

5. No details of invoices raised to the assessee

To verify the genuineness of these parties, and to confirm the status and jurisdiction of these parties the PAN of these parties was examined.

On observation of the above mentioned facts the inspector was asked to submit the report on genuineness of these parties. Inspector Report dated 23-12-2013.

5. The assessee failed to produce the above parties for examination. Therefore, the assessing officer issued show cause notice to the assessee to explain why these sundry creditors outstanding amount should not be treated as income of the assessee under section 41(1) of the Income Tax Act. Further on perusal of the balance sheet for the financial years ending 31-3-2008, 31-3-2009 and 31-3-2010, these amounts were shown outstanding. The assessing officer observed that the assessee has not proved the genuineness of these sundry creditors; that the assessee failed to produce the current address of the creditors; and that the assessee failed to give any evidence regarding identity and genuineness of the creditors. The assessing officer, therefore, after relying on some case laws and interpretation of section 41(1), added the outstanding sundry creditors totaling to Rs. 90,36,451 back to the total income of the assessee.

4. The assessing officer further made dis allowance of following expenses keeping in view the personal elements involved therein :–

Rs. 7,670 on account of business promotion expenses.

Rs. 3,174 on account of telephone expenses.

Rs. 19,808 on account of car running & maintenance expenses.

Rs. 27,471 on account of electricity expenses.

Aggrieved by the above additions, the assessee filed appeal before the learned Commissioner (Appeals) and made detailed written submissions before him. During the appellate proceedings, the learned Commissioner (Appeals) also asked to file purchase invoices in 6 respect of above noted sundry creditors and he also asked to file the following details :–

–To prove the genuineness of sundry creditors appearing in the balance sheet.

–To produce the purchase bills through which purchases were made from the parties.

–To produce copy of account of the parties from the year of purchase till the relevant year.

–To give details of payments made to the parties till date

In response, the assessee merely filed copy of accounts and could not furnish all the details as called for by the learned Commissioner (Appeals). The learned Commissioner (Appeals), after considering all the submissions of assessee, observations of the assessing officer and case laws relied upon, dismissed the appeal of the assessee. Aggrieved by the order of learned Commissioner (Appeals), the assessee is in appeal before the Tribunal.

5. The learned Authorized Representative reiterated the submissions made before the learned Commissioner (Appeals). He also submitted case laws compilation which contains 63 pages and another paper book containing 22 pages. The learned Authorized Representative further submitted that all the above creditors are outstanding from F.Y. 2008-09 and no any transactions have been made since then. The assessing officer has alleged that the creditors are outstanding in the books of account for more than 3 years, therefore, as per limitation of three years in respect of liability, such liabilities would stand ceased. It was submitted that these creditors have been paid in the subsequent years through banking channel and therefore, the assessing officer was not justified in making the addition under section 41(1) of the Income Tax Act. In support, the assessee has relied on so many case laws as compiled in the paper book. In respect of ad hoc additions, it was submitted that the assessing officer has not pointed out as to which expenditure related to personal expenses and therefore, the assessing officer was not justified to make ad hoc dis allowances.

6. On the other hand, the learned Departmental Representative relied on the order of the authorities below and he further submitted that the assessee has not proved the genuineness of the sundry creditors. The assessee was also unable to give current address of the creditors and as per Inspector’s report, the sundry creditors were not found in existence at the addresses provided. The PAN of such creditors were found incorrect. Therefore, the learned Authorities below were quite justified in making the additions.

7. After hearing both the parties and perusing the entire material on record, we find that the assessing officer has made the addition of the creditors’ outstanding liability to the income of assessee after resorting to the provisions of section 41(1) of the Income Tax Act. The provisions of section 41(1) of the Act read as under :–

“41. (1) Where an allowance or deduction has been made in the assessment for any year in respect of loss, expenditure or trading liability 8 incurred by the assessee (hereinafter referred to as the first-mentioned person) and subsequently during any previous year,–

(a) the first-mentioned person has obtained, whether in cash or in any other manner whatsoever, any amount in respect of such loss or expenditure or some benefit in respect of such trading liability by way of remission or cessation thereof, the amount obtained by such person or the value of benefit accruing to him shall be deemed to be profits and gains of business or profession and accordingly chargeable to income-tax as the income of that previous year, whether the business or profession in respect of which the allowance or deduction has been made is in existence in that year or not; or

(b) the successor in business has obtained, whether in cash or in any other manner whatsoever, any amount in respect of which loss or expenditure was incurred by the first-mentioned person or some benefit in respect of the trading liability referred to in clause (a) by way of remission or cessation thereof, the amount obtained by the successor in business or the value of benefit accruing to the successor in business shall be deemed to be profits and gains of the business or profession, and accordingly chargeable to income-tax as the income of that previous year.

Explanation 1.–For the purposes of this sub-section, the expression “loss or expenditure or some benefit in respect of any such trading liability by way of remission or cessation thereof” shall include the remission or cessation of any liability by a unilateral act by the first mentioned person under clause (a) or the successor in business under clause (b) of that subsection by way of writing off such liability in his accounts.

Explanation 2.–For the purposes of this sub-section, “successor in business” means,–

(i) where there has been an amalgamation of a company with another company, the amalgamated company;

(ii) where the first-mentioned person is succeeded by any other person in that business or profession, the other person; 9

(iii) where a firm carrying on a business or profession is succeeded by another firm, the other firm;

(iv) where there has been a demerger, the resulting company.

A perusal of the aforesaid provision of law as contained in section 41(1), we opine that these provisions are applicable in the cases where the liability stood remitted or ceased during the year under consideration. In the instant case, it has not been established by the Revenue that the assessee has written off the outstanding liabilities in the books of account, rather continued to show the impugned liabilities in the balance sheet. The Revenue has also failed to establish that the assessee had obtained any benefit of reduction in the earlier years of such liabilities by way of their remission or cessation. All these being the conditions to be satisfied under the provisions of section 41(1) of the Act, the addition so made taking shelter of these provisions cannot be sustained for want of satisfaction of such conditions. We stand fortified by the proposition of law laid down in the following decisions :–

(i). Hon’ble Supreme Court in the case of CIT v. Sugauli Sugar Works (P) Ltd., 236 ITR 518 (SC) has held as under :–

“Section 41 contemplates the obtaining by the assessee of an amount either in cash or in any other manner whatsoever or a benefit by way of remission or cessation and it should be of a particular amount obtained by him. Thus, the obtaining by the assessee of a benefit by virtue of remission or cessation is sine qua non for the application of this section. The mere fact that the assessee has made an entry of transfer in his accounts unilaterally 10 will not enable the Department to say that section 41 would apply and the amount should be included in the total income of the assessee. Just because an assessee makes an entry in his books of accounts unilaterally, he cannot get rid of his liability. The question whether the liability is actually barred by limitation is not a matter which can be decided by considering the assessee’s case alone but it is a matter which has to be decided only if the creditor is before the concerned authority. In the absence of the creditor, it is not possible for the authority to come to a conclusion that the debt is barred and has become unenforceable. There may be circumstances which may enable the creditor to come with a proceeding for enforcement of the debt even after expiry of the normal period of limitation as provided in the Limitation Act, The principle that expiry of period of limitation prescribed under the Limitation Act could not extinguish the debt but it would only prevent the creditor from enforcing the debt, has been well settled. If that principle is applied, it is clear that mere entry in the books of accounts of the debtor made unilaterally without any act on the part creditor will not enable the debtor to say that the liability has come to an end. Apart from that, that will not by itself confer any benefit on the debtor as contemplated by the section.”

(ii). Hon’ble Gujarat High Court in the case of CIT v. Bhogilal Ramjibhai Atara, 222 Taxman 313 (Guj.) has held as under :–

“Section 41(1) would apply in a case where there has been remission or cessation of liability during the year under consideration subject to the conditions contained in the statute being fulfilled. Additionally, such cessation or remission has to be during the previous year relevant to the assessment year under consideration. In the present case, both elements are missing. There was nothing on record to suggest there was remission or cessation of liability that too during the previous year relevant to the assessment year 2007-08 which was the year under consideration. It is undoubtedly a curious case. Even the liability itself seems under serious doubt. The assessing officer undertook the exercise to verify the records of the so called creditors. Many of them were not found at all in the given address. Some of them stated that they had no dealing with the assessee. In one or two cases, the response was that they had no dealing with the assessee nor did they know him. Of course, these inquiries were made ex parte and in that 11 view of the matter, the assessee would be allowed to contest such findings. Nevertheless, even if such facts were established through bi-parte inquiries, the liability as it stands perhaps holds that there was no cessation or remission of liability and that therefore, the amount in question cannot be added back as a deemed income under section 41(c) of the Act. This is one of the strange cases where even if the debt itself is found to be non-genuine from the very inception, at least in terms of section 41(1) of the Act there is no cure for it. The findings of tribunal upheld.”

(iii). The ITAT Ahmedabad Bench vide order dated 1-10-2010 in the case of DCIT v. Ratnamani Metals & Tubes (P) Ltd. (ITA No. 3783/Ahd/2008), relying on the decision of Hon’ble Punjab and Haryana High Court in the case of Smt. Sita Devi Juneja 187 Taxman 96 and of Hon’ble Madras High Court in the case of Tamilnadu Warehousing Corpn., 292 ITR 319, has held as under :–

“11. The learned Departmental Representative relied upon the order of the assessing officer. On the other hand, the learned Counsel for the assessee reiterated the submissions made before the authorities below. However, considering the above provisions and decisions noted above, it is clear that the amount in question relates to purchase of building material on which there was a dispute of payment. The assessing officer admitted that the amount remained unpaid in the books of account. Since the assessee explained that the amount relates to purchase of building materials for their project at Kutch which has been shown as capital goods in progress and that the amount has not been paid due to inferior quality of the material, would prove that the assessee has not claimed any allowance or deduction in any assessment year in respect of loss/expenditure or treating of liability and has not obtained any benefits whatsoever in subsequent year. Therefore, there is no question of remission or cessation of liability. Since the liability shown in the balance sheet of the assessee, therefore, facts and circumstances of the case would prove that the case of the assessee is not covered by the provisions of section 41 (i) of the Income Tax Act. We, therefore, do not find any justification to 12 interfere with the order of the learned Commissioner (Appeals). We confirm his findings and dismiss this ground of appeal of the revenue.”

Following the aforesaid decisions, we are of the opinion that the learned Authorities below are not justified to make addition by resorting to the provisions of section 41(1) of the Act. Accordingly, the addition of Rs. 90,36,451 made by the authorities below is found fit to be deleted.

8. As regards the dis allowance out of business promotion and telephone expenses, we find that the learned Authorities below have made this dis-allowance without pointing out as to how much of such expenses were incurred by the assessee for personal benefit of assessee. Hence, the ad hoc dis allowance out of these expenses deserves to be deleted. Regarding car running expenses and electricity expenses, the assessing officer has rightly made the dis allowance, as the assessee could not be able to produce the log books of the vehicles run by him and that composite electricity expenses were found incurred on office cum residence of assessee. We accordingly confirm the dis allowance made out of electricity and car running expenses as made by the authorities below.

9. The last issue is with regard to charging of interest under section 234B, 234C & 234D of the Act, which is consequential in nature and the assessing officer is directed to 13 charge the interest as per law. Accordingly, the appeal of the assessee deserves to be partly allowed.

10. Since the appeal stands disposed of, the stay petition filed by the assessee stands dismissed.

11. In the result, the appeal is partly allowed and stay application is dismissed.