ITAT Surat Deletes Penny-Stock Addition for Lack of Evidence Linking Assessee to Price Manipulation

Subhaschandra Patel Vs DCIT (ITAT Surat)

A Share Cannot Become “Penny Stock” Merely Because Its Price Rose – Without Assessee’s Link to Manipulation, Genuine LTCG Cannot Be Taxed u/s 68

The Surat Bench of the ITAT has held that capital gains arising from the sale of listed shares cannot be treated as unexplained cash credit u/s 68 merely because the Department has labelled the company as a penny-stock company. Where the assessee establishes the purchase, long holding, dematerialisation and sale of shares through recognised banking and stock-exchange channels, the AO must bring positive evidence connecting the assessee with the alleged price manipulation.

The assessee, Subhaschandra Patel, filed his return of income for AY 2018-19 declaring total income of ₹63,37,290. The Department received information that the assessee had booked long-term capital gain of ₹28,37,851 from the sale of shares of M/s Fiberweb India Ltd.

According to the information, Fiberweb India Ltd. was allegedly a penny-stock company whose share price had been inflated through a prearranged and artificial web of transactions. On this basis, the AO formed the view that income chargeable to tax had escaped assessment and reopened the case by issuing notice u/s 148.

In response, the assessee filed a return declaring total income of ₹63,37,580. The AO alleged that the assessee had failed to explain the market research undertaken before investing in the company and concluded that he had generated unexplained income through fraudulent practices. The sum of ₹28,37,851 was accordingly assessed as unexplained cash credit u/s 68 r.w.s. 115BBE.

The CIT(A) confirmed the addition. The assessee carried the matter before the Tribunal, challenging both the validity of reopening and the addition on merits.

The assessee explained that the shares were not acquired shortly before the alleged price rise. He had purchased 65,970 quoted equity shares of Fiberweb India Ltd. during FY 2008-09 at an average price of ₹11.32 per share, for a total consideration of ₹7,48,257.

The purchase was made through the Bombay Stock Exchange using the services of M/s Sunidhi Securities and Finance Ltd., a SEBI-registered stockbroker. The purchase consideration was paid from the assessee’s HDFC Bank account—₹5 lakh through cheque dated 01.07.2008 and ₹2,48,257 through cheque dated 08.07.2008.

The assessee produced the relevant bank statement, contract notes, demat statement reflecting the shares and the acknowledgement of the return filed for AY 2009-10. Thus, the purchase of shares was supported by contemporaneous evidence generated almost a decade before their eventual sale.

Subsequently, pursuant to proceedings before the Board for Industrial and Financial Reconstruction, the shareholding was reduced by 40%. The balance 39,582 shares, representing 60% of the original holding, was credited to the assessee’s demat account on 05.05.2016. The assessee furnished the company information relating to the BIFR action as well as the demat statement recording the reduction.

After holding the shares for nearly nine years, the assessee sold only 8,600 shares during FY 2017-18 through the Bombay Stock Exchange and the same registered stockbroker. The sales were made on different dates between April and August 2017, and not through one isolated transaction.

The assessee furnished the contract notes, demat statements showing the debit of shares, bank statements reflecting the sale consideration and the computation of capital gains. He also produced the share-price range and the volume traded on each date of sale. The market volume on those dates ranged from 16,123 shares to 2,82,629 shares, showing that the assessee’s sales were part of regular market trading.

The assessee disclosed LTCG of ₹27,25,783 and a small STCG of ₹290 from the transactions.

The Department relied upon the abnormal variation in the share price and contended that the assessee had failed to satisfactorily prove the genuineness of the purchase. Reliance was placed upon the Supreme Court decisions in Sumati Dayal v. CIT [1995] 214 ITR 801 (SC) and CIT v. Durga Prasad More [1971] 82 ITR 540 (SC), which permit the authorities to consider surrounding circumstances and apply the test of human probabilities.

The Tribunal found that the assessee had furnished all relevant evidence concerning the purchase, including the contract note, demat statement and bank statement evidencing payment. The BIFR-related reduction in the number of shares was also properly explained and supported by documentary material.

The shares had been held for approximately ten years. The AO had not brought any material establishing a link between the assessee and the alleged price manipulation. There was no evidence that the assessee had participated in rigging the price or that his trading activity had directly influenced the market price.

The Tribunal held that an investor’s commercial decision based on market conditions cannot be doubted unless the AO proves some connection between the assessee and the alleged artificial price variation. Once the purchase and sale were genuinely demonstrated through documentary evidence, the transaction could not be treated as unexplained merely by referring to general information regarding the scrip.

Accordingly, the addition u/s 68 r.w.s. 115BBE was deleted and the assessee’s appeal was allowed.

Author’s Comments

The decision draws the necessary line between investigation-based suspicion and assessee-specific evidence. A report suggesting manipulation in a particular scrip may provide a valid starting point for enquiry, but it cannot become conclusive proof against every investor who traded in that share.

The unusually long holding period was an important circumstance. Penny-stock accommodation-entry cases ordinarily involve shares acquired and sold within a planned cycle. Here, the shares were purchased in 2008 through a recognised exchange, paid for by cheque, subjected to a BIFR-linked reduction and sold only after nearly a decade. These facts required specific rebuttal rather than a general reference to price rigging.

The test of human probabilities recognised in Sumati Dayal and Durga Prasad More is undoubtedly relevant, but it is a tool for evaluating evidence -not a substitute for evidence. It cannot be used to disregard contract notes, banking records and demat statements without identifying contradictions or establishing the assessee’s connection with entry operators.

The ruling does not mean that every transaction routed through a stock exchange must automatically be accepted. If the Revenue establishes circular trading, synchronized deals, cash trail, accommodation-entry providers or a direct nexus with manipulators, the apparent documentation may be pierced. But where no such linkage is established, the label “penny stock” cannot by itself convert disclosed capital gain into unexplained cash credit u/s 68.

Cases Discussed

• CIT vs. Durgaprasad More — 82 ITR 540 (SC)
• Sumati Dayal vs. CIT — 214 ITR 801 (SC)

FULL TEXT OF THE JUDGMENT/ORDER OF ITAT, SURAT

The appeal filed by the assessee is against the order passed by the Learned Commissioner of Income Tax, Appeal, National Faceless Appeal Centre (NFAC) [in short “CIT(A)”] dated 07.01.2025 for the Assessment Year (in short “AY”) 2018-19.

2. The assessee has raised the following grounds of appeal:

“1. On the facts and circumstances of the case, the CIT(A) erred in upholding the validity of the AO’s action of reopening notice u/s 148 of the Act and the consequent assessment order passed us 143(3) r.w.s 147 of the Act which is invalid, without jurisdiction, bad in law and void ab initio.

1.1. On the facts and circumstances of the case, the CIT(A) erred in upholding the AO’s action of reopening the assessment u/s 148 of the Act by relying on the unsubstantiated information and that too without verifying the contents of the information. The impugned order is bad in law as the basis of the reopening is on the borrowed satisfaction.

2. On the facts and circumstances of the case, the CIT(A) legally erred in confirming the action of the AO in taxing a sum of Rs.28,37,851 u/s 115BBE r.w.s. 68 of the Act.

2.1. On the facts and circumstances of the case, the appellant submits that the source of the money is by way of sale of shares of Fiberweb India Ltd. (Fiberweb) through banking channels from BSE/NSE through registered stock brokers. The Ld. AO failed to establish that there was any other source of the money introduced in the books of accounts so as to be liable to be taxed u/s 115BBE r.w.s.

2.2. On the facts and circumstances of the case, The CIT(A) erred in confirming the action of the AO in taxing the LTCG on sale of shares of Fiberweb (held since 2008) as unexplained cash credit u/s115BBE instead of the treatment given under LTCG.

2.3. On the facts and circumstances of the case, the CIT(A) / AO has exceeded his jurisdiction by branding the company Fiberweb as a penny stock company and the appellant as if involved in price rigging/price manipulation which is not the case.

3. The appellant craves leave to add, to alter or amend the Grounds of Appeal on or before the hearing of this appeal.”

3. The assessee, an individual, filed his return of income on 10.10.2018 declaring total income at Rs.63,37,290/-. As per the information available on record, it is found that the assessee has booked Long Term Capital Gain (in short “LTCG”)of Rs.28,37,851/- from sale of scrip M/s Fiberweb India Ltd. The scrip M/s Fiberweb India Ltd. is a penny stock that was inflated by prearranged method. As the scrip M/s Fiberweb India Ltd. was identified for manipulation of trade by way of complex web of prearranged or artificial web of transactions, it suggests that income chargeable to tax to an extent of Rs.28,37,851/- has escaped assessment for the relevant A.Y 2018-19. In view of the same, the case was reopened by issuing notice under section 148 of the Income Tax Act, 1961 (in short “the Act). In compliance to the notice issued under section 148 of the Act, the assessee filed return of income on 18.04.2022 declaring total income at Rs.63,37,580/-. Further, the assessee failed to submit any reasons for making investment in the above penny stock including what market research was made before making investment in the above said stock. The above stated facts clearly indicate that the assessee was engaged in generating unexplained income through fraudulent practices. Since the assessee failed to furnish complete details/information as required vide statutory notices issued by the Assessing Officer (in short “the AO”) on various dates during the assessment proceedings the following additions were made by the AO in the order passed u/s. 147 r.w.s. 144B of the Act based on the information available on record:

1. Rs.28,37,851/- as unexplained credits u/s. 68 r.w.s. 115BBE of the Act.

4. Being aggrieved by the assessment order the assessee filed appeal before the CIT(A). The CIT(A) dismissed the appeal of the assessee.

5. The Ld. Authorised Representative (in short “Ld. AR”) for the assessee submitted that the assessee had Purchased 65970 Quoted Equity Shares of Fiberweb India Ltd. in the Financial year 2008-09 at an average price of Rs.11.32 per share. These Shares were purchased through Bombay Stock Exchange via SEBI registered Stock Broker M/s Sunidhi Securities and Finance Ltd [Address- Kalpataru Inspire, Unit-1, 8th Floor Off Western Express High Way, Opp. Grand Hyatt Hotel, Santacruz (East), Mumbai 400055]. The payments for the above purchase were made through bank transaction. The details are as follows:

• Share Purchased-65,970 shares
• Value paid Rs 7,48,257/-
• Amount Paid Via-HDFC Bank, Daman Branch, IFSC-HDFC0000130
• Rs.5,00,000/- on 01.07.2008 via Cheque No-754102
• Rs 2,48,257/- on 08.07.2008 via Cheque No-754108

The assessee submitted bank statement highlighting Payments for purchase, Copy of Demant – showing share held in Demat account, ITR Acknowledgement for Asst. Year 2009-10 to the AO. The Ld. AR further gave details that there was reduction in shares through BIFR action.

Therefore 65970 shares were reduced by 40% and balance 39582(i.e. 60%) shares were credited to assessee’s demat account on 05.05.2016. The Ld. AR submitted that the Company Information for BIFR action as well as Demat Statement Showing reduction in Shares were submitted before the AO. After holding for 8-9 Years (Purchase in F.Y-2008-09) in the Financial Year 2017-18, the assessee sold only 8600 shares through Bombay Stock Exchange via SEBI registered Stock Broker M/s Sunidhi Securities And Finance Ltd. The assessee submitted Contract Note of Sale of Shares, Bank Statement Highlighting receipt for Sale Proceeds, Copy of Demat – For Sale of Share, Capital Gain On Sale of Listed Equity Shares to the AO. Thus, the assessee earned LTCG on Sale of Listed Equity Shares of Rs.27,25,783/- and Short Term Capital Gain (in short “STCG”) on Sale of Listed Equity Shares of Rs.290/-.

6. The Ld. AR further submitted that the assessee has repeatedly replied the notices and has given the details. The assessee has given the share price and volume of shares in question on date of sale and the variations to that extent. The chart is as follows:

7. The Ld. AR further submitted that the assessee has conducted genuine transactions and was holding the shares of the company in 2008 and after holding the shares for approximately 10 years incurred the loss. Therefore, the addition made by the AO as well as confirmed by the CIT(A) is not justified.

8. The Ld. Departmental Representative (in short “Ld. DR”) submitted that there is an artificial price variation and in fact the purchase of shares was not at all proved by the assessee whether it was a genuine purchase or not. The Ld. DR relied upon the assessment order as well as the order of the CIT(A). The Ld. DR relied upon the decision of Sumati Dayal vs. CIT 214 ITR 801 (SC) and CIT vs. Durgaprasad More 82 ITR 540 (SC).

9. We have heard both the parties and perused all the relevant materials available on record. It is pertinent to note that the assessee has given all the details related to the purchase such as D-mat statement for purchase of shares, the bank statement showing the payment made for the purchase of shares, the contract note showing purchase of shares. In fact, the assessee has also given the details of company information for BIFR action and after taking the cognizance, the assessee, after holding it for approximately 10 years, has decided to sale the shares. The assessee has taken his decision in respect of the market activities which cannot be doubted unless and until the AO proves that there is a linkage in respect of the price variation and the assessee’s action directly impacting the price variation. But in this case, the assessee’s action has not been doubted by the AO related to the purchase. Therefore, the sale of said shares which was genuinely proved on record without giving any proper reasoning for discrepancies will not prove the transactions as unexplained income. Thus, the addition made by the AO is not justifiable. Hence, the addition does not survive.

10. In result, the appeal of the assessee is allowed.

Order pronounced in the open court on 10.09.2026