ITO Vs Ankitkumar Pravinkumar Shah (ITAT Ahmedabad)
Falling Profit Needs No Presumption—Missing Records Need an Explanation
Gross Loss and Rising Wages Invited Scrutiny
The Ahmedabad Tribunal set aside the CIT(A)’s order deleting additions for estimated gross profit and excess salary expenditure, restoring the matter to the Assessing Officer for fresh examination. The decision draws a clear distinction: a fall in gross profit alone may not justify rejection of books, but failure to produce the records necessary to verify those books cannot be overlooked.
The assessee, proprietor of Shri Ghantakarna Enterprise, manufactured BOPP bags. During the relevant year, turnover fell to approximately ₹12.01 crore, against ₹15.24 crore in the preceding year.
More significantly, the assessee reported a gross loss of ₹58.61 lakh, representing a negative gross profit rate of 4.88%. In the preceding two years, the gross profit rates were 19.27% and 15.23%.
Salary and wages expenditure also increased sharply—from ₹60.25 lakh to ₹1.35 crore—despite the decline in turnover.
The Assessing Officer Rejected the Books and Made Two Additions
The Assessing Officer recorded that the assessee had not furnished the details sought regarding purchases, sales, expenses, loans and advances and other relevant particulars. The substantial deterioration in trading results and the increase in wages also remained unexplained.
Invoking section 145(3), the Assessing Officer rejected the books and applied the average gross profit rate of 17.25% from the preceding two years.
This produced estimated gross profit of ₹2.07 crore against the disclosed gross loss of ₹58.61 lakh, resulting in an addition of approximately ₹2.66 crore.
The Assessing Officer separately disallowed ₹74.72 lakh, being the increase in salary and wages expenditure over the preceding year. The assessment was nevertheless completed at nil income after allowing set-off of losses.
CIT(A) Deleted the Additions, but Missed the Evidentiary Gap
The CIT(A) granted relief on the reasoning that lower gross profit did not, by itself, warrant an addition and that the Assessing Officer had not established suppression of sales or inflation of expenditure.
The Tribunal accepted the general proposition that mere decline in gross profit is insufficient. However, it found that the present case involved an additional and material deficiency: the assessee had not produced the primary information necessary to verify the declared results.
Without purchase, sales and expenditure details, the Assessing Officer could not properly examine the correctness and completeness of the accounts. The CIT(A)’s reasoning did not address this obstacle.
There was also nothing on record demonstrating that the requisite books and supporting documents had subsequently been produced before the CIT(A). Nor did the appellate order indicate that a remand report had been obtained on fresh material.
The absence of established suppression could not be considered in isolation from the assessee’s failure to provide the material needed to investigate it.
Higher Wages Required Evidence, Not an Automatic Disallowance
The Tribunal also noted the substantial increase in salary and wages despite falling turnover. This required an explanation supported by relevant evidence.
The assessee had not explained the increase either before the Assessing Officer or before the CIT(A). Consequently, deletion of the disallowance without addressing the underlying factual deficiency could not stand.
At the same time, the Tribunal did not finally confirm the disallowance. It directed a fresh examination, allowing the assessee another opportunity to substantiate the expenditure and explain the trading loss.
Fresh Assessment, With an Express Warning Against Duplication
The Tribunal restored the matter to the jurisdictional Assessing Officer, directing that the assessee be permitted to produce the books and supporting records relating to purchases, sales, expenses, wages, loans and advances.
The assessee must explain, with documentary evidence, both the substantial gross loss and the increase in salary expenditure.
Crucially, the Assessing Officer was directed to consider the implications of profit estimation following rejection of books alongside a separate expenditure disallowance, ensuring that there is no duplication of addition.
The Revenue’s appeal was allowed for statistical purposes. Thus, neither the CIT(A)’s deletion nor the Assessing Officer’s original computation received final approval.
Author’s Comments
A poor business year is not proof of incorrect accounts. Equally, an assertion that the accounts are correct must be supported by records capable of verification. This decision preserves both principles.
The direction concerning duplication is particularly useful. Before estimating profit and separately disallowing wages, the Assessing Officer must examine what the estimation already accounts for and whether another adjustment would tax the same deficiency twice.
For practitioners, the practical lesson is to support unusual results with contemporaneous evidence—purchase and selling prices, production records, wage registers and explanations of operational changes. A convincing explanation of commercial circumstances, backed by records, is more effective than relying solely on the proposition that falling gross profit cannot justify rejection of books.
FULL TEXT OF THE JUDGMENT/ORDER OF ITAT, AHMEDABAD
This appeal has been filed by the Revenue against the order of National Faceless Appeal Centre (NFAC), Delhi [hereinafter referred to as “CIT(A)”] dated 30.01.2025 for the Assessment Years (A.Y.) 2018-19 in the proceeding u/s 144 r.w.s 144B of the Income Tax Act [hereinafter referred as “the Act”].
2. The brief facts of the case are that the assessee had filed his return of income for A.Y. 2018-19 on 30.01.2018 declaring Nil income. The case was selected for scrutiny under CASS. The assessee is proprietor of Shri Ghantakarna Enterprise and carrying on manufacturing activity of BOPP bags. In the course of assessment, the AO noticed that the assessee had declared gross profit ratio of (-)4.88% on turn-over of Rs. 12,00,71,805/- whereas the gross profit disclosed in the preceding year was 19.27% on total turn-over of Rs. 15,23,58,772/-. The decline in the gross profit was not explained by the assessee in the course of assessment proceeding. Therefore, the AO had rejected the books of accounts of the assessee u/s. 145(3) of the Act and estimated the profit by applying average GP rate of 17.25% for the last two years and accordingly income was worked out at Rs.2,07,12,386/- as against loss of Rs. 58,61,129/- disclosed by the assessee. The AO also noticed that the salary and wages expense had increased to Rs. 1,34,97,657/- during the year as against salary expense of Rs. 60,25,312/- only incurred in the preceding year. The excess salary expense of Rs. 74,72,345/- was also disallowed by the AO. Accordingly, the assessment was completed u/s. 144 r.w.s. 144B of the Act on 11.05.2021 at Nil income after allowing set-off of losses.
3. Aggrieved with the order of the AO, the assessee had filed an appeal before the first appellate authority, which was decided by the Ld. CIT(A) vide the impugned order and the appeal of the assessee was allowed.
4. Now, the Revenue is in second appeal before us. The following grounds have been taken in this appeal:
1. Whether on the facts and in the circumstances of the case and in law, the Ld. CIT(A) was justified in deleting the addition of Rs. 2,65,73,515/- made by the AO rejecting books of accounts, without appreciating the facts of the case.
2. Whether on the facts and in the circumstances of the case and in law, the Ld. CIT(A) was justified in deleting the addition of Rs. 74,72,345/- made by the Assessing Officer on account of disallowance of salary expenses, without appreciating the facts of the case.
3. The appellant craves leave to amend or alter any ground or add a new ground, which may be necessary.
4. It is, therefore, prayed that the order of Ld. CIT(A) may be set aside and that of the Assessing Officer be restored.
5. Shri Amit Pratap Singh, the Ld. SR-DR submitted that in the course of assessment the assessee did not explain the reason for loss incurred during the current year. Further, no details in respect of purchase, sales, salary expense, other expense, loans and advances, confirmations etc. were brought on record in spite of specific requisition by the AO. The AO had, therefore, rightly rejected the books of accounts of the assessee and worked out the profit by applying the average profit rate as disclosed by the assessee in the preceding two years. Similarly, the sharp increase in the salary expense during the year, in spite of decline in the turn-over, was also not explained by the assessee. Hence, the excess salary expense was disallowed by the AO. The. Ld. SR-DR submitted that the Ld. CIT(A) was not correct in deleting the additions as made by the AO. He submitted that the assessee did not submit any explanation even before the Ld. CIT(A) regarding the loss incurred during the year or for the abnormal increase in the salary expense during the year. He, therefore, strongly supported the order of the AO.
6. Per contra, Shri M S Chhajed, the Ld. AR of the assessee strongly supported the order of the Ld. CIT(A). He submitted that the AO was not correct in rejecting the books of accounts and estimating the income by applying average GP rate and also making disallowance for the salary expense at the same time.
7. We have considered the rival submissions. It is an admitted position that the assessee had disclosed gross loss of Rs.58,61,129/- on turnover of Rs.12,00,71,805/- during the year under consideration. This resulted in a negative gross profit rate of 4.88%. In contrast, the assessee had disclosed gross profit at the rate of 19.27% and 15.23% in the preceding two years respectively. Thus, there was a substantial and abnormal variation in the trading results. A mere decline in gross profit, by itself, may not constitute sufficient ground for rejection of books of account. However, in the present case, the issue is not confined merely to the fall in gross profit. As recorded by the AO, the assessee failed to furnish the requisite details relating to purchases, sales, expenses, loans and advances and other relevant particulars despite specific requisitions. Consequently, the AO was deprived of the material necessary to verify the correctness and completeness of the trading results declared by the assessee. The assessee also did not furnish any satisfactory explanation for the substantial loss incurred during the year as compared with the positive gross profit disclosed in the preceding two years. The abnormal variation in the results, coupled with the failure to furnish the requisite supporting details, was therefore required to be considered in examining the correctness of the books of account. The Ld. CIT(A), while deleting the addition, observed that an addition could not be made merely because the assessee had shown a lower gross profit and that the AO had not established suppression of sales or inflation of expenditure. However, while recording this finding, the Ld. CIT(A) has not considered the material fact that the requisite details relating to purchases, sales and other expenditure had not been furnished by the assessee. In the absence of such primary details, the question of proper verification by the AO did not arise. Further, there is nothing on record to demonstrate that the assessee subsequently furnished the requisite books and supporting details before the Ld. CIT(A), pursuant to which the Ld. CIT(A) could have objectively examined the trading results. Nor does the impugned order indicate that any remand report was called for from the AO on the basis of fresh material furnished by the assessee. We also find that the salary and wages expenditure increased from Rs.60,25,312/- in the preceding year to Rs.1,34,97,657/- during the year, notwithstanding the decline in turnover from Rs.15,23,58,772/- to Rs.12,00,71,805/-. The increase in such expenditure was substantial and called for an explanation supported by relevant evidence. However, the assessee did not explain the reasons for such substantial increase either before the AO or before the Ld. CIT(A).
8. In our considered view, the Ld. CIT(A) proceeded primarily on the premise that the AO had not independently established suppression of sales or inflation of expenditure, without appreciating that the assessee had not furnished the basic details required for such verification in the first place. The findings of the Ld. CIT(A), therefore, do not address the deficiencies recorded by the AO. However, considering the nature of the deficiencies and the fact that determination of the correct taxable income should be based on proper examination of the relevant books and supporting material, we consider it appropriate, in the interest of justice, to provide the assessee one further opportunity to substantiate its claim. Accordingly, the impugned order of the Ld. CIT(A) is set aside and the matter is restored to the file of the Jurisdictional AO for fresh adjudication in accordance with law. The AO shall provide a reasonable opportunity to the assessee to produce the books of account and all relevant supporting documents, including details of purchases, sales, expenses, salary and wages, loans and advances and other particulars as may be considered necessary for verification. The assessee shall also furnish a proper explanation, supported by documentary evidence, regarding:
1. the substantial loss disclosed during the year as compared with the gross profit disclosed in the preceding two years;
2. the substantial increase in salary and wages expenditure during the year despite the decline in turnover.
The AO shall examine the books of account and the supporting evidence so furnished and thereafter determine the income afresh in accordance with law. The AO shall also consider, while determining the income, the legal and factual implications of rejection of books of account and estimation of profit vis-à-vis any separate disallowance of expenditure, so that there is no duplication of addition. Needless to say, the AO shall decide the matter independently on the basis of the material available on record and the material that may be furnished by the assessee, after affording due opportunity of being heard.
9. In the result, the appeal of the Revenue is allowed for statistical purpose.
Order pronounced in the Court on 06/10/2026 at Ahmedabad.
