COMMISSIONER OF INCOME TAX vs. M/S SAI METAL WORKS

Income-tax Appeal No.125 of 2004 -1- *** IN THE HIGH COURT OF PUNJAB AND HARYANA AT CHANDIGARH Income-tax Appeal No.125 of 2004 and other connected appeals being ITAs No. 127 and 128 of 2004. Date of decision: 10.3.2011. Commissioner of Income-tax (Central), Ludhiana ...Appellant Versus M/s Sai Metal Works ...Respondent CORAM: HON'BLE MR.JUSTICE ADARSH KUMAR GOEL HON'BLE MR.JUSTICE AJAY KUMAR MITTAL Present: Ms. Urvashi Dhugga, Senior Standing Counsel for the appellant. Mr. Pankaj Jain, Advocate for the respondent. **** ADARSH KUMAR GOEL, J ( Oral) . 1. This order will dispose of ITAs No.125, 127 and 128 of 2004, as it is stated that question of law involved in these appeals is common. 2. ITA No.125 of 2004 has been preferred by the revenue under Section 260A of the Income Tax Act, 1961 (hereinafter referred to as “the Act”) against order dated 23.9.2003 passed by the Income Tax Appellate Tribunal, Amritsar Bench, Amritsar in IT (SS)/No.3/(ASR)/2003, for the block period 1.4.90 to 6.4.2000, claiming following substantial question of law:- “Whether on the facts and in the circumstances of the case, the ITAT was right in law in holding that the Income-tax Appeal No.125 of 2004 -2- *** disallowance under Section 40A(3) cannot be made in block assessment?” 3. The assessee filed its return for the block period 1.4.90 to 6.4.2000. The assessing officer in the course of the assessment made addition on account of claimed expenses being found to be in violation of Section 40A(3) of the Act. It was observed that the seized material revealed that ledger containing the details of purchases made against cash payment exceeding Rs.20,000/- which could not be allowed and on that account addition towards undisclosed income had to be made. The assertion of the assessee was that on that account disallowance could not be made. The assessing officer did not accept this plea with the following observations. “I do not agree with the argument put forth by the assessee because the examination of seized material shows that cash book and ledger etc. have been maintained by the assessee. Although these cash book and ledger have not been maintained in normal course but it has been noted that the assessee had developed his own accounting system. It is noted that the balance sheet as on 4.4.2000 has been prepared after taking into account the expenses debited in cash book and ledger. Thus, the assessee has taken care of all expenses while preparing the balance-sheet. As the assessee has claimed the expenses, the disallowance u/s 40A(3) has Income-tax Appeal No.125 of 2004 -3- *** rightly been made in respect of those expenses which have been made in violation of provisions of Section 40A (3) of the Income-tax Act, 1961. Further, the rationale of incorporating the provisions of Section 40A(3) were explained by the Hon'ble Supreme Court in the case of Attar Singh Gurmukh Singh Vs. ITO Ludhiana, 191 ITR 667. It was explained by Hon'ble Supreme Court that while interpreting the taxing statutes, the Court cannot be oblivious of the proliferation of black money, which is under circulation in our country. Any restraint intended to curb the chances and opportunities to use or create black money should not be regarded as curtailing the freedom of trade or business. It was held that the provisions of Section 40A(3) and Rule 6DD intended to prevent use of unaccounted money or reduce the chances to use black money for business transactions. In the light of these observations, it would be going totally against the judgment of the Hon'ble Supreme Court to hold that the provisions of Section 40A(3) should not be applicable in respect of unaccounted business. This view also is supported by the decision of learned Andhra Pradesh High Court in the case of S.Venkata Subarao Vs. CIT reported in 173 ITR 340 in which it has been held that:- “There is no doubt about the proposition that profits Income-tax Appeal No.125 of 2004 -4- *** and gains derived from an illegal business are liable to be taxed. Such profits and gains are to be determined in accordance with the provisions of the Act. It is not possible to hold that some of such provisions do not apply to the taxable income in the case of an illegal business while some others do. May be that in an illegal business it may not be practicable to comply with the requirements of section 40A(3) but that only means that such illegal business ought not be carried on. By carrying on a business out of his regular books of account he cannot be placed at an advantage as compared to other carrying on their business as per books in implemented section 40A(3).” Reliance is also placed on the decision of Hon'ble Income Tax Appellate Tribunal, Chandigarh Bench as per their order dated 06.3.2000 in appeal No.ITA No.1063 (Chd.)/1996 for the block assessment in the case of Sh. Madan Lal Basi Vs. ACIT, Central Circle, Ludhiana. With these observations, I, therefore, disallow an amount of Rs.9,26,673/- @ 20% of Rs.46,33,364/- u/s 40A(3) of the Income-tax Act, 1961 which is brought to tax in the hands of the present assessee.” 4. The CIT(A) set aside the addition which view has been upheld by the Tribunal. It was held that Section 40A(3) could not be Income-tax Appeal No.125 of 2004 -5- *** invoked in the case of the assessee where block assessment was by estimate on the basis of GP rate. The finding recorded by the Tribunal is as under:- “We have considered the rival submissions and carefully gone through the material available on the record. The undisputed fact of this case is that a search was conducted at the residential premises of the partners of the assessee and the assessee declared an undisclosed income of Rs.14,54,500/- which was accepted by the A.O. by stating that income so declared was in agreement with the information brought on record. However, the A.O. invoked the provisions of Section 40A(3) while passing block assessment order and made the impugned addition. Admittedly, the entries which were taken into consideration by the A.O. were recorded in the books of account found during the course of search, however, no trading and profit and loss account was prepared to determine the income, but the income disclosed by the assessee was accepted and since no trading and profit and loss account has been prepared, there was no question of invoking the provisions of Section 40A(3). In a similar case, the I.T.A.T. Cochin Bench while deciding the issue in the case of Eastern Retreat Vs. ACIT (2000) 66-ITJ-839 held that:- “No doubt, if there was violation of the provisions of Income-tax Appeal No.125 of 2004 -6- *** section 40A(3) there could be disallowance of the expenses in computing the total income, but then the disallowance should be made in a regular assessment under section 143(3). In view of the provisions of Explanation below 158BA(2), it is open to the A.O. to make a regular assessment even in respect of any assessment year included in the block period and make disallowance under any provisions of the Income Tax Act. But such disallowance cannot be made in a block assessment, as in that case the assessee would be burdened with a higher rate of tax. As the procedure for assessment of the undisclosed income of the block period appears in a separate self-contained code, that assessment should be made strictly in accordance with the provisions in Chapter XIV-B. The addition on this account cannot be, therefore, sustained.” From the above, it would be clear that the disallowance under section 40A(3) cannot be made in block assessment.” 5. We have heard learned counsel for the parties. 6. Learned counsel for the revenue submitted that expenditure revealed from the seized documents which were not permissible being in contravention of Section 40A(3) had been taken Income-tax Appeal No.125 of 2004 -7- *** into account while preparing the balance sheet and thus profit element declared by the assessee did not truly reflect the income of the assessee. The Assessing Officer was justified in making addition on that account. The observations of the Tribunal that disallowance could be made in regular assessment under Section 143(3) and not in block assessment was not tenable in law. Explanation below Section 158BA(2) to the effect that block assessment was in addition to regular assessment was no bar to Section 40A(3). Reliance has been placed upon judgment of Madras High Court in M.G.Pictures (Madras) Ltd. Vs. Assistant Commissioner of Income Tax (2003) 185 CTR (Mad) 185 and judgment of Hon'ble Supreme Court in Commissioner of Income -Tax Vs. Suresh N.Gupta (2008) 297 ITR 322 (SC). 7. Learned counsel for the assessee supported the view taken by the Tribunal. It was submitted that Section 40A(3) could have no application to block assessment which was a complete Code by itself. Reliance has been placed upon the judgment of Gujarat High Court in Cargo Clearing Agency (Gujarat) Vs. Joint Commissioner of Income Tax (2008) 218 CTR (Guj) 541. It was also submitted that when assessment was made on the estimation of income by applying GP rate, Section 40A(3) could not be invoked. For this proposition reliance has been placed upon the following