Section 68 can’t be invoked if Transactions made are through proper Banking Channel & Assessee proves Identity & Genuineness

Brief of the Case

In the present case there were the three issues which were decided by the Hon’ble Tribunal where it was held that whenever the transactions have been made through proper banking channel, then invocation of section 68 will not be valid. Further, the Tribunal on second issue remitted the matter where there was a doubt between borrowed funds and investment made. Then, on the third and the last issue it was held that expenses made during the previous year will not be made taxable in the current year.

Facts of the Case

In the present case there are different issues and all the facts of different issues have been dealt seperately. The relevant facts of different issues are as follows:-

• Assessee is in a business of manufacturing of earth boring and drilling equipments. AO noticed that the assessee have introduced an amount of Rs.9,88,50,000 as share application money in its books of account in the names of 19 persons. It was explained that the share capital also consists of the contribution made by the Directors of the Company of Rs. 19,44,371 and Rs. 3,57,121 respectively. It was mentioned by the Aseessee that there were agreements with the persons concerned where both the Directors of the Company have given their undertaking to repay the particular amount taken. But AO observed that the assessee has neither produced any agreement nor they have produced any communication from the side of creditors which made AO to doubt the genuineness of the creditors. Therefore, the Ld. AO called Assessee to prove the identity of the creditors so that the genuineness of the Agreement could be proved. After going through the 7 confirmation letters the Ld. AO reached the conclusion that nobody have mentioned the source of money in their letters and doubted the genuineness of the money given to the assessee. The assessee was not able to produce the remaining 12 confirmation letters which created serious doubts in the mind of AO. As, a result the Assessee added the amount lend by 12 different individuals in the income of the assessee. [The amount received from the remaining 7 individuals were accepted by CIT(A)].
• The second issue was that during the assessment proceeding, the A.O. while verifying the balance sheet of the company along with the books of account noticed that during the year assessee has made the investments out of the borrowed funds and the A.O. called upon the assessee to explain that why proportionate amount out of the interest expenditure shall not be disallowed, as investments made with sister concerns/related parties were not for business purpose.
• The third issue was that during the assessment proceeding, the A.O. noticed that the assessee has debited an amount of Rs.25,46,846 as interest on other loans on which The A.O. was of the view that provisions of section 194A is applicable to such payments. Since the assessee has not deducted tax at source while making the payment, the A.O. disallowed an amount of Rs.21,67,937.

Held by the CIT(A)

• Regarding the first issue of section 68 the assessee submitted 12 confirmation letters before Ld. CIT(A). On the basis of it Ld. CIT(A) called for remand report from A.O. Ld. CIT(A) observed that A.O. in his report has pointed out that information submitted by assessee do not substantiate the genuineness of the transaction and creditworthiness of the creditors. He also concluded that assessee has not furnished share applications made by investors nor produced any evidence to show that shares were allotted to them. According to Ld.CIT(A), the whole amount was the loan taken by Directors in their individual capacity as Directors undertook to pay the said amount individually by themselves. Ld. CIT(A) observed that no material has been furnished to prove that these amounts have been invested by share applicants for buying shares of the company. Ld. CIT(A) further observed that assessee even did not produce before A.O. the personal agreements. Thus, ld. CIT(A) by observing that onus is on assessee to prove that credits appearing in the books of account are share application money, which assessee has failed to discharge, confirmed the addition of Rs.7,44,34,609. As far as the amount of Rs.2,95,91,391 representing the investment made by seven persons in whose case confirmation letters were filed before AO, but, additions were not made, Ld. CIT(A) observed that in the remand report, AO has stated that genuineness of the transactions relating to the aforesaid amount is not established, hence, the amount of Rs. 2,95,91,391, though was not added at the time of assessment proceeding, also needs to be treated as unexplained credit and added to the income of assessee. u/s 68 of the Act.
• In the second issue the learned CIT(A) also confirmed the addition made by the A.O. (for the order of AO see the contentions of Revenue).
• Regarding third issue, Ld. CIT(A) after considering the submissions of the assessee and referring to CBDT Instruction No.1425 F.No.275/9/80-IT(B) dated 16.11.1981 directed the A.O. to re-examine assessee’s claim.

Contention of the Assessee

• Regarding the issue of section 68 the Ld. AR of the Assessee submitted that names, addresses, PAN and assessment particulars, etc. were produced in respect of the seven individuals who lend money to the Assessee. Further, it was submitted that in respect of rest of the creditors, assessee has disclosed identity of the creditors with assessment particulars and all other necessary details with their bank account copies and when the creditors have confirmed of having made investment in the company, it cannot be said that assessee has failed to discharge its onus of providing cash credits. Ld. AR submitted, as far as the ingredients of section 68 are concerned, assessee has fulfilled the first ingredient of establishing identity of creditors which also the department has accepted. As far as the second ingredient, genuineness of the transactions is concerned, the transaction is through regular banking channel. Therefore, the only other ingredient remains to be fulfilled is creditworthiness of the creditor. Ld. AR submitted that when all the creditors have confirmed of having advanced the amount and it is reflected in their respective accounts and more over when all the creditors are income-tax assessees, no doubt can be raised with regard to their creditworthiness. Moreover, assessee having discharged the initial onus cast upon it, it cannot be expected to prove the source of source. Further it was submitted that whether it is share application money or investment, addition cannot be made at the hands of assessee u/s 68 if the ingredients of the said provision are not attracted. He, therefore, submitted, no addition can be made u/s 68 of the Act.

• Regarding the second issue it was submitted by the assessee that the investments were for business purposes as the investment in Dubai were made to acquire an industrial facility in a free trade zone with a view to facilitate assembly of equipment exported by assessee company and market the products as made in UAE. Then, another investment in KLR Mining Equipment is concerned, it was submitted by the assessee that the amount was advanced to clear/pay off the liability of the concerned party to bank and to pay for the personnel employed by it as the assessee was operating from the same premises and in the event, the property is attached by the bank for recovery of their dues, then, the business of the assessee would have suffered. Also, the company has substantial reserves and the amounts advanced were out of such reserves and surplus and not out of interest bearing funds. It was submitted that even otherwise also the advances made were for the purpose of business. Regarding further investments, the assessee submitted that the amount of Rs.1,32,86,987 was advanced to M/s. KLR Mining and Equipments Ltd., which is a sister concern of the assessee. The said company went out of production but it has substantial plant and machinery and sheds. The assessee also stood guarantee for some loans taken by the said company from bank. Thus it was submitted by the learned A.R. that disallowance of interest is not justified.

• Regarding the third and the last issue in which non-deduction of TDS is under dispute. Before the first appellate authority, it was submitted by the assessee that since the payment was towards EMI of the hire purchase agreement it will not come within the purview of section 194A of the Act. He also submitted that provisions of section 194A will not be applicable to interest paid to banks. Since the entire interest amount was paid during the relevant previous year and nothing remained payable, no disallowance under section 40(a)(ia) can be made in view of the decision of the ITAT, Vizag Special Bench in the case of Merlyn Shipping and Transport 146 TTJ (1).
  

Contention of the Revenue

• Regarding the first issue, the ld. Counsel for the Revenue submitted that no proper documentary evidence at any stage of the proceeding were produced. None of the creditors admitted of having advanced the amount as share application money. The Ld. Counsel mentioned the Judgment of Hon’ble Supreme Court in the case of Rajendran Chingaravelu vs. Addl. CIT & Others (2010) 320 ITR 1 (S.C.) and argued that income tax authorities are well within their powers to not only satisfy themselves that money is from legitimate source, but also satisfy themselves that money is going to be utilized for legitimate purpose. Thus, the assessee have failed to explain the credit in this case. Therefore, addition was justified.

• Regarding the second issue of investments from the borrowed funds the ld. Counsel for the Revenue relied on the orders of AO where the A.O. observed that the assessee did not adduce any evidence to show that the investment made is for the purpose of assessee’s business. Further he opined that even if it is accepted that assessee has utilized the investment for assembling equipment in an industrial unit in Dubai but the same is going to be a separate entity taxable under the tax laws of UAE. Also, he observed that when interest bearing funds of assessee were utilized to meet liabilities of another company, it cannot be for the purpose of assessee’s business.

• Regarding the third issue the Ld. Counsel for the Revenue supported the disallowance of interest as made by CIT(A).

Held by the Tribunal

• The Hon’ble Tribunal on the first issue observed that it was on the record that the advances were actually obtained by the Director’s from their known persons and on their advice it was shown as share application money in the books of the company since capital was required for the company to diversify its activities to real estate business. It is also a fact on record that all the creditors have not only confirmed of having advanced the amount in question, but the entire transaction is through proper banking channel by way of cheque or DD. In the facts of the present case, it is a matter of record that the assessee has produced confirmation letters in respect of all the creditors wherein not only the identity of the creditors with their address have been furnished but income tax particulars including PAN has also been given. Therefore, the identity of the creditors remains established. Also, it is evident, that the entire transaction has been through proper banking channel. Therefore, as far as the assessee is concerned, the genuineness of the transaction has been established as not only the transaction is through banking channel but the source of such credit has also been proved by the assessee. Now coming to the third ingredient, the creditworthiness of the creditors, it is to be noted that all the creditors have not only confirmed of having advanced the money to the assessee but have also stated that it is out of their own sources. It is also not disputed that all the creditors are income tax assessees’ in the role of the department. Only because the credits have been shown as share application money in the books of accounts of the assessee, it will not automatically lead to the conclusion that the amount received is unexplained credit. Regardless, whether the advances were towards share application, as claimed by the assessee, or investment as stated by the creditors in the confirmation letters and affidavits, fact remains that the assessee has proved the source from which such credit has come to him. Therefore, no addition under section 68 of the Act can be made in the present case.
• Regarding the second issue it was mentioned by the Hon’ble Tribunal that the primary contention of the assessee is that the investments made are out of surplus fund and no interest bearing fund has been utilized. The aforesaid facts require verification since if there is no nexus between the investment made and the borrowed fund, then, no disallowance can be made. As these aspects have not been examined by either A.O. or learned CIT(A), the matter was remitted to the file of A.O. to verify and take a decision in the matter, after giving due opportunity of being heard to the assessee.
• Regarding the third issue, the Hon’ble Tribunal mentioned that while relying on Vizag Special Bench in the case of Merylin Shipping and Transport (supra), no disallowance under section 40(a)(ia) can be made if the entire amount was paid during the relevant previous year and nothing remained payable. The Hon’ble Allahabad High Court also in case of CIT vs. Vector Shipping Services P. Ltd., 357 ITR 647 expressed similar view. Therefore, following the aforesaid decisions, the Hon’ble Tribunal directed the A.O. to verify and allow the deduction claimed, if it is found that the entire amount was paid during the relevant previous year and nothing remained payable.