Most of taxpayers under Income tax act, 1961 afraid to file appeal against additions made by assessing officers due to fear of departmental procedures/penalty/bar/attachment in  the thought process of normal taxpayers. however, most of cases  seen  where department made disallowance of expenditure even if payment made through  electronic payment system due to unsupported documents/evidence towards that expediture and The turnover corresponding to that expenditure  is already showed in  profit & loss accounts. Following example shows detailed plethora department is disallowing expenditure.

 Brief facts of the case

During the course of 153A assessment proceeding, a SCN has been issued to assesse (XYZ Ltd.)   on 01-09-2019 and it was asked as to why the expenditure on sub contract paid to ABC Pvt Ltd amounting to Rs 50 Crore be not considered as bogus.

The assesse (XYZ Ltd.) is engaged in the business of development of infrastructure projects related to telecommunication tower and  creating infrastructure for flow of data over fibre based cables.

Income Tax

Search was  conducted under  section 132 of the  income tax act, 1961 with prior approval of  joint commissioner. During the course of search Investigation  officer found that the additional work of site formation/removal of un-authorized structure , shifting of buildings, diversion of land for developing telecommunication towers  was given by LMN Ltd. for Rs. 52 crore which on back to back basis is to be given to ABC. Ltd (Sub – Contractor) for Rs. 50 crore.              

Subsequently to the survey, enquiries were conducted with the directors of ABC Ltd and one of the directors, Mr. X, denied his association with ABC Ltd whereas, other director, Shri Y, could not be traced at the registered office. In this context, it is submitted that finding one of the directors, namely Shri X, establishes the identity and existence of ABC Ltd. In what circumstances, the director has denied his association with ABC Ltd is not known.  Probably, on the date of enquiry, he might have resigned from the company. If, it is claimed that the address given as the registered office of the ABC Ltd. was not correct then the question of availability of ABC Ltd at such address was out of question.

Matter of Litigtion

It has been alleged that payment made to M/s ABC Ltd. of Rs.50 Crores, is bogus and this has been done to increase the expenses and decreasing the profit.

Without prejudice to the submissions, it is submitted that if by stretch of sheer imagination the expenditure is considered bogus then also the profit element embedded in the purchases/ expenditure  can only be taxed and not the entire expenditure.  Company XYZ ltd  has offered profit of Rs.2 Crore which works out to 4%.  Therefore , even if a purchases is considered bogus while maintaining the sales/ revenue figure, merely due to non availability of certain document the entire amount cannot be considered as income. 

Submission of XYZ Ltd.

“WITHOUT PREJUDICE,  EVEN WHEN THE SALES/ INCOME  IS NOT DOUBTED THE CORRESPONDING EXPENDITURE EVEN IF UN SUPPORTED CANNOT BE MADE THE ASSESSEE LIABLE TO TAX ON ENTIRE TURNOVER “

The receipt of Rs.52 Crores from LMN Ltd. for additional work being maintained therefore the maximum profit element embedded in any business can be estimated from Either  on the basis of the past  GP / NP Ratio or Statutory presumption under 44AF of 8% legislative presumption.

That in M/s. Indus Holidays and Tours India Pvt Ltd and Others Vs. DCIT , reported in (2019) 36 ITJ 289 ( Trib- Indore ) Hon. Indore ITAT Bench held that entire turnover cannot  be taxed as income. The head note is as under, ” Section – 153C of I.T. Act –  AY 2007-08 to 2013-14 – In Assessment after search AO  made addition for suppression of receipts @ 10% of gross receipt for all assessment years – CIT (A).

Applying the decision in Bal chand Ajit kumar reported in (2007) 7 ITJ 324  ( MP ) Wherein it was held that total sales cannot be regarded as a profit of the Assesse – The Net profit rate has to be adopted – CIT(A) made addition on account of suppressed receipt applying a net profit  rate of 2% – HELD – Though AO made the addition for suppressed receipt which was not justified in CIT(A) was fair enough to  apply 2% of Net Profit rate on the alleged suppressed receipt by taking basis of Net profit rate disclosed by Assessee for  various assessment years which range  from  .59% to 2.05% – No interfearance is called in the findings of CIT (A)  sustaining the addition to the extent of 2%  of the enhanced turnover.

It is  humbly submitted that the assessee company (XYZ Ltd.) is in the development of  infrastructure business and the present disallowance of expenditure pertains to the payment made to sub-contractor ABC Ltd  for site formation work. Under the Income Tax Act, the statutory presumption of profit from construction activity is 8% as contained in section 44AD. Therefore, if at all, the expenditure is considered bogus then the profit element i.e. 8% be added to the total income. The statutory presumption is to be followed and  cannot be varied. The statutory presumption has been followed by the Assessing Officer during the course of assessment in plethora of cases.

Authors’ comment after making deep analysis and interpretation of judgements.

It is a matter of fact that payments have been made towards sub-contracting work of shifting work which have been made to bogus concerns. After considering the factual matrix of the case, inter alia plea raised by the XYZ Ltd. I am of the considered view that entire expenditure cannot be disallowed while maintaining the corresponding turnover as guanine. The Hon’ble M.P. High Court (jurisdictional High Court) in the case of CIT v/s Balchand Ajit Kumar 263 ITR 610 M.P has held that the total sale cannot be regarded as the profit of the assessee. In the case of Manmohan Sadani v/s CIT 304 ITR 52 M.P. the Hon’ble jurisdictional High Court has held that total sales cannot be regarded as profit of the assessee(XYZ LTD.) , on the contrary it is a net profit rate which has to be adopted in such case. Similar views have been expressed by Hon’ble Gujarat HC in the case of CIT V/s President Industries 158 CTR 0372 (Guj) wherein it was held that entire sales could not be added as income of the assessee but addition could be made only to the extent of estimated profits embedded in sales for which net profit rate was adopted. This proposition finds support in the following case laws:-

  • CIT v/s Samir Synthetics Mill 326 ITR 410 (Guj);
  • CIT v/s Gurbachan Singh J Juneja 302 ITR 63 (Guj);
  • R R Carrying Corporation v/s ACIt 126 TTJ 240 (CTK);
  • Cit v/s Bholanath Poly Fab Pvt Ltd 355 ITR 290 (Guj);
  • Sarawati Oil Traders v/s CIT 231 CTR (Chhattisgarh) 165;

Therefore, in view of the above judicial pronouncement  and by Hon’ble jurisdictional High Court in the case of Manmohan Sadani (supra) & CIT v/s Balchand Ajit Kumar (supra), the income which ought to have been taxed comes at Rs. 4,00,00,000/- (Rs. 50,00,00,000/- x 8.00%) which is Confirmed and assesse (XYZ Ltd.)  gets relief of Rs. 46,00,00,000/-.

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