Disallowance u/s 40A(2) of Commission paid to relatives cannot be made without proper enquiry

Brief Facts:

1. The assessee is an individual, who filed his return of income for the Assessment Year 2008-09, declaring an income of Rs. 8,60,482/-. The same was revised twice by the assessee – first, due to increasing deductions claimed, by Rs. 10,500/- and after that, declaring an income under the head ‘Capital Gains’, that gave rise to a consequent increase in total income by Rs. 8,49,886/-.

2. The said return was processed u/s 143(1)(a) of the Income Tax Act, 1961. Subsequently, the case was selected for scrutiny.

3. The AO notice in the course of proceedings that the assessee had claimed commission expenses, totaling Rs. 1,49,82,287/-, as a result of which, the assessee was asked to furnish the details of the aforementioned commission expenses. The details furnished by the assessee revealed that assessee had paid commission to three family members, totalling a sum of Rs. 89,43,123/-.

4. The AO asked the assessee to furnish justification of commission paid to family members u/s 40A(2) of the Act. The assessee, in reply thereto, furnished a detail of commission payment showing the percentage being paid to outsiders and family members. It was observed that family members were paid 5% to 5.19% as compared to outsiders, who were being paid @ 3.87% to 5%.

5. Accordingly, A.O. disallowed 20% of commission i.e. Rs. 17,88,629/-, by invoking the provisions of Section 40A(2) of the Act.

6. CIT(A) observed that A.O. had arrived at conclusion for the whole year on the basis of a sample transaction. A.O. had ignored the fact that the assessee had paid higher commission to some unrelated parties as well. Thus, the disallowance is without any basis for quantification and hence, the same was deleted by A.O.

Revenue Contention

The ld. DR strongly supported the order of the AO and reiterated the observation made in by the Assessing Officer. As stated earlier, the AO observed that the assessee was paying commission @ 3.87% to 5% to other parties whereas in the case of family members the commission was being paid from 5% to 5.19%. On the basis of the fact, the disallowance of 20% of the commission expense is justifiable.

Assessee Contention