Bogus donations to Political Parties

Context:

In the last 2 weeks of March 2023, the Income Tax department has issued several notices to taxpayers who have claimed deduction under section 80GGB and 80GGC of the Income Tax Act, 1961 (‘the Act’) from their taxable income for donations made to political parties. The notice, which has been issued for Assessment Year 2019 -20 (Financial Year 2018-19), has required the taxpayers to show cause as to why the donations made to political parties should not be treated as bogus and as a result added to their taxable income.

Background:

The Income Tax Department conducted sear operations under section 132 of the Act on September 7, 2022. In this search, a total of 23 Registered Unrecognized Political Parties, 35 bogus intermediary entities and 3 major exit providers were covered which was combinedly called as RUPP group of Ahmedabad.

During the course of search action, large number of incriminating documents related to bogus donation receipts, diaries containing details of commission charged, loose papers containing vital information and WhatsApp chats in the mobile phones of the office bearers of the RUPPs and their key handlers confirming the allegations, were found. Documentary and digital evidences collected during the course of search action, were confronted with the key persons of the group and subsequently seized.

Modus Operandi:

The modus operandi detected in the course of the ongoing search operation revealed that the donation is received through cheque/RTGS/NEFT in the RUPP’s bank account. This money is then re-routed through various layers, and returned to the original donors, primarily in the form of cash, in lieu of some commission that ranges from 3.5% to 5%. It is pertinent to mention here that the political party doesn’t pay any tax since it is exempt u/s 13A of the Act. Further, the donors claim deduction u/s 80GGB/80GGC of the Act. Thereby, the income earned by the donors is escaped from the tax-net in the guise of political donations.

The donations are routed to an intermediary in the form of expenses towards political and social welfare activities by the Political Parties. Such intermediaries are shell entities which are specifically formed for the purpose of layering funds through their bank accounts without carrying out any business activities. These entities are either formed and controlled by the same persons running the political parties or by certain other individuals who create and manage multiple bogus entities by using credentials of other men/women of no means by paying them meagre amounts. These bogus entities have no physical/business existence, and they are solely used for providing accommodation entries. It is also observed that bank accounts of new intermediary entities are created for this purpose, used for few years to route crores of funds and then bank accounts are either closed suo-moto by the handlers to escape the eyes of law or closed subsequent to actions by Law enforcement agencies. Thus, the handlers of the intermediaries keep forming new bogus entities and open their bank accounts, use it for providing accommodation entries, close it down and start with new bogus entities. These bogus entities are formed on one hand to layer unaccounted moneys and evade tax and on the other hand earn commission on all the funds routed through it. Huge funds get transferred to these bogus intermediary entities from the bank accounts of the RUPPs under the veil of political and social expenditure. However, the said expenses shown in the books of account of the RUPPs are bogus and non-genuine and these are done only to transfer the moneys into the account of the intermediary in order to return the same to the original donors and earn commission in the process. Such individuals/ proprietary concerns/companies are active agents in this scam and comprise the points at which either cash is withdrawn or again transferred to another bogus layering entity to get converted to cash or to return to the original donors through banking channel. Thus, the whole process is bogus and non-genuine.

Consequences:

Where the taxpayer fails to prove the genuineness of the donations, following consequences shall arise:

1. Tax – The tax payer shall be liable to pay tax as per the applicable slab rate. In some cases, the Assessing Officer might take a stand of taxing such bogus claim under section 115BBE which shall attract a tax rate of 60%

2. Interest – Interest under section 234B and C will be levied. Since the notice pertains to Assessment Year 2019-20, 4 years since the ongoing Assessment year, the Interest amount will roughly add up to the Tax amount as per above.

3. Penalty – The Assessing officer may initiate penalty proceedings under section 270A of the Act. In case the Assessing officer levies penalty for Under reporting of Income, a penalty @ 50% of tax shall be levied. However, in a most likely scenario, the Assessing may levy penalty for mis-reporting of income, which will attract a penalty of 200% of tax.

However, in a case where the addition is made under section 115 BBE, the penalty shall be restricted to 10% of the tax.

Considering a donation of Rs. 1 Lakh made by the tax payer and in a case where he fails to prove the genuineness of the donation to the political party, the tax outgo including interest and penalty can range between Rs. 75,000 to 1,26,000 (assuming the taxpayer falls in the 30% bracket).

Remedies available

In case the tax payer has sufficient grounds to believe that the donation made by him is genuine, following are the defenses he may put up before the tax authorities:

1. On the basis of procedural / legal issues

2. On the basis of factual grounds.

The taxpayer may raise the grounds challenging the validity of notice and whether the same is in compliance of section 148 and 148A of the Act. Further, the tax payer has the right to demand copies of documents obtained during the search operation and cross examining the evidences recovered from political parties which are available with the Income Tax Department against the Tax payer. The tax payer may also raise the validity of cash trail.

Apart from the above, there are numerous case laws wherein Tribunals, High Courts and Supreme Court have passed judgements in favor of the tax payers with regards to accommodating entries.

Further, where the tax payer has made such donations in subsequent years, and is skeptical with regards to proving the genuineness of the transaction, he may consider filing updated return of income under section 139(8a) of the Act. However, such return can only be filed for A.Y. 2021-22 and A.Y. 2022-23.

Disclaimer: The article is for educational purposes only.

The author can be approached at [email protected]