TaxTMI 
TaxTMI 
TaxTMI 
Section 68 – cash credit- practice support:
A credit entry for cheque in hand may attract S.68, even if cheque is not honored or not presented and money is actually not received – learning from reported judgment.
Prudent policy is to make credit entry after actual realization of money on presentation of cheque and based on amount realized and credited by bank in the account of cheque holder.
Ground reality:
When a cheque is received, a receipt is insisted by giver and it is given and receipt is issued and generally it is mentioned on the receipt issued, that the receipt or acknowledgement is subject to realization of cheque.
Even otherwise, mere receipt of a cheque does not amount to actual receipt of money. Sum is actually received when the drawee bank honors the cheque on presentation and pays cash or it is paid by way of remittance through clearing system or transfer to account of payee. The drawee bank debit the account of issuer of cheque against available balance and remit the amount through clearing system or pay it if it is bearer cheque or un crossed cheque payable in cash on presentation.
Therefore, receipt issued against a cheque is in fact and is considered a provisional receipt, and receipt will be final when it is actually realized.
It is worth to mention that mere issue of a receipt does not amount to a credit in books of account of the person who issued the receipt that is usually the payee of cheque or holder in due course.
If cheque is dishonored, the provisional receipt stand cancelled. Depending on relations and mutual decision of parties the cheque is either returned to the issuer for a new cheque or payment in some other manner like cash/ draft or exchange of goods . Or the cheque may be redeposited after having a word with the issuer.
In case any legal action is to be taken, then a notice is to be issued. All these are practical aspects and decision is to be taken in mutual interest of parties.
Entry in books of account:
If any entry is made in books of account based on mere receipt of cheque, and account of cheque issuer is credited, it may still be considered a ‘sum found credited’ in books of account. If cheque is returned, and a reverse entry is made even then the reverse entry will not wipe out credit entry made at the time of receipt of the cheque.
Therefore, author always advises to credit account of party only after cheque is realized and amount is credited in bank account and the bank confirms balance available against sum realized through cheque deposited.
Now-a-days it is very simple and convenient due to information technology services by way of SMS, email and online banking etc. over App or bank or on website of bank.
A credit entry made in books of account based on sum duly realized and credited by bank can be easily proved because source of credit entry is funds available in account of cheque issuer / drawer of cheque.
Case study:
Case of M/s METLONICS INDUSTRIES (P) LTD ( Assessee in short):
The facts are placed in simple language for understanding facts without figures and dates to understand principal aspects in easy language.
The assessee received a cheque on last day of previous year and made an entry in books of account y crediting account of cheque issuer who was one of directors of company.
It is not clear whether cheque was actually deposited in bank for presentation and realization and dishonored
From excerpts appearing in discussions in orders it can be a case that cheque was not deposited in bank account and the drawer of cheque took back the cheque and a reverse entry was made on the next day that is first April.
Whether cheque was dishonored and returned to cheque issuer or it was simply returned to the cheque issuer , in given circumstances will not make a difference, if entry was already made crediting the account of cheque issuers.
Furthermore, it appears that the assessee made entry in books of account. As that date was last day, and assessee might have intended to show promoters contributions or current assets. The reason was not spelt out before the Ld. AO or CIT(A) and even before ITAT. Alhough it was contended that it was not a real transaction but only a paper transaction and some sort of window dressing was adopted.
As the amount was not realized but credit entry was made in books of account on 31 March so on next day that is on 1st April a reverse entry was made.
The assessee made presentation on the final account as cheques in hand in current assets as on balance sheet date.
Accounting and auditing lacunae:
In this case it is also evident that there might be accounting and auditing lacunae. This is because when cheque was shown as cheque in hand but it was not realized at all and was returned post balance sheet date. Then it was prudent to reverse entry on 31st March itself to present true state of affairs as on 31 March. But it was not done.
Though the event of return of cheque as unpaid / bounced, was an important event, after balance sheet date, but it related to balance sheet and state of affairs as on 31st March so it deserved to be given effect as on 31st March itself but it was given effect on 1st April.
And there was no explanatory note on accounts and it was not explained before tax authorities as to why this cheque was shown as a current asset and was returned back to the issuer who was a director of company.
On reading of the judgment of Tribunal it was found that the cheque was issued by one of Directors of company, who had no available balance in bank.
It can be that the Director had issued cheque in expectation of funds inflow in his account on 1st April, but it did not materialize hence the cheque was returned. However, assesse did not reveal real reason which assesse was knowing but did not reveal- this aspect was taken seriously in view of precedence’s including observations of honorable Supreme Court in some cases.
Perhaps this tendency or behavior not to speak truth was taken seriously and addition made by Ld. AO, though deleted by Ld. CIT(A) was later addition was confirmed by Tribunal and it stood approved by High Court and the Supreme Court, because Tribunal was considered final fact finding authority and there was no mistake or perversity in finding recorded by Tribunal.
Return of cheques unpaid or on request of drawer of cheque:
Ground reality is that many times cheque received are not deposited on request of drawer of cheque because he have no full arrangements of funds. By mutual consent, date of presentation / depositing of cheque is extended. In some situations, by mutual consent new cheque is received.
Dishonour of cheque, though not good for reputation and good will of issuer is still a ground reality. Cheque are dishonored and for remedy legal provisions are made to provide some sort of protection to the holder of cheque.
There is nothing unusual, return of cheques can be due to several reasons. It is a ground reality and known commercial and financial aspect. Many times post dated cheques are also received just in expectation that the cheque issuer will have balance on date of cheque presentation and cheque will be cleared. However, sometimes it does not materialize and cheque is dishonored.
Assessment and appeal:
The learned AO made an addition u.s. 68 . However, it was deleted by Ld. CIT(A) on the basis that receipt and credit entry made on 31 March was provisional or mistaken and it stood reversed or rectified on next day and that there was no actual receipt of money / credit in bank statement so there was no sum actually received and found credited.
Order of Ld. AO- :
From order of Tribunal vide para 3 we find as follows about observations and decision of Ld. AO, with highlights added for ease of understanding and analysis:
“3. After hearing both the parties we find that during assessment proceedings it was noticed that assessee has taken various loans from director and their relatives. During enquiries in respect of these loans, it was further noticed that in case of one individual namely Mrs Harbinder Kaur who was wife of the Director had advanced a sum of Rs. 1.80 crores to the company. The return of income filed by Mrs Harbinder Kaur depicted that gross receipts from business were Rs. 1,06,542/-, other sources Rs. 3000/- and agricultural income Rs. 3,15,000/- totaling Rs. 4,24,545/-. Therefore, assessee was asked to explain how Mrs Harbidner Kaur could advance such huge amount to the company when she did not have commensurate sources of income. In response, an undertaking from Mrs Harbinder Kaur claiming that she had made payment from her Canara Bank account No. 2400101001501 on 31.3.2010 was made. It was further explained that said amount was given by her on 31.3.2010 and taken back on 1.4.2010 and, therefore, it was only a paper transaction. The Assessing Officer after examination of these submissions observed that it was merely an after thought. He also observed that assessee has failed to prove the creditworthiness of the depositor. However, since the assessee has shown this transaction in the books of account and created a liability on the same and had also given effect on the asset side in the fixed assets and closing stock etc. of the company, the Assessing Officer observed that if it was a paper transaction then it was a manipulation of the account which is best known to the assessee. In any case the provision of section 68 is clearly applicable and, therefore, he added a sum of the income to the assessee.”
Order of CIT(A):
In the order of Tribunal effective portion of order of CIT(A) is reproduced as follows (with highlights added) for ease of understanding and analysis:
4. The Ld. CIT(A) has not produced the submissions made before him and has decided the issue vide paras 4 & 5 in favour of the assessee which is are under:-
“ 4. It is also noticed that the amount was shown under the head 'cheque pending realization / encashment' in the relevant schedule of the balance sheet. Thus, in reality, the said amount of Rs. 1,80,00,000/- was never received by the appellant company. The Assessing Officer did not accept the explanation of the appellant in the assessment proceedings, firstly on the ground that the transaction could not be verified/ authenticated and such a document can always be created at any stage. Secondly, the submission regarding paper transaction was made by the appellant only after being confronted regarding the source of funds.
5. The simple point involved in this case is whether the amount of Rs. 1,80,00,000/- was credited to the bank account of the appellant or not. If there was no credit to the bank account of the appellant company, which appears to be the case here, there cannot be any question of application of section 68 of the Act. Section 68 applies only when a sum is found credited in the books (which in this case would imply the bank account) of an assessee. If there is no credit entry in the bank account, how can Section 68 be invoked? I may also add that if the amount would have been credited to the bank account of the appellant, the source of the credit would have stood explained, it having been transferred from the bank account of the director and even in that case, no action could have been taken in the case of the appellant, The addition made by the Assessing Officer is accordingly deleted. Grounds of appeal taken by the appellant are allowed.”
Observation of Author:
Ld. CIT(A) took view that since amount was not credited in bank account of assessee, s. 68 cannot be invoked. He took view that the amount credited in books of account maintained by assessee without a credit in bank account by bank is of no consequence. In fact ld. CIT(A) went step ahead to hold that if the amount was credited in bank account then the source of credit would have stood explained.
Observations: Author is of view that the approach of ld. CIT(A) was based on totality of facts (though spread over two years) accordingly there was ‘no sum found credited’ a sum was credited on 31st March and debited on 1st April in the same account. SO there was no sum actually credited in the account of party.
A credit entry which is backed by actual receipt of consideration ( may be cash, cheque realised, demand draft or goods and services ) can only be considered a sum credited. This is because if a sum is credited then a liability is recognized. A provisional credit or issue of receipt does not make a credit balance in favour of person from whom cheque is received.
Furthermore, if entries made on two days are considered, then there is no sum credited.
However, these contentions were not forcefully placed.
Department preferred appeal and Tribunal reversed order of CIT(A). Important parts of The order of ITAT are discussed with highlights added:
Grounds raised by revenue reads as follows:
1. On the facts and in the circumstances of the case and in law, the Ld. CIT(A) has erred in allowing appeal of the assessee without appreciating the facts of the case.
2. The Ld. CIT (A) has erred in Law and in facts in deleting the additions of Rs,1.8 Crores made u/s 68 by observing that when there was no credit to the bank account of the appellant company, which appears to be the case here, there cannot be any question of application of section 68 of the Act, whereas Schedule 'D' to the Balance Sheet as on 31.03.2013 as well as Annexure-IV [Paragraph 24 (a)] to the Form No. 3CD (Stating Audit Report) showing particular of each loan or deposit in an amount exceeding the limit specified in section 269SS taken or accepted during the year clearly mentioned that the loan amount of Rs. 18,000,000/- has been taken by the 'A1 from Ms, Harbinder Kaur and assessee has also submitted confirmatory letter from the alleged creditor certifying that she had advanced Rs. 1,80,00,000/- to the assessee.
3. The Ld. CIT (A) has erred in Law and in facts in deleting the additions of Rs. 1.8 Crores made u/s 68 by accepting the plea of the assessee that the amount of creditor i.e. Rs. 1.8 Crores was shown in the balance sheet under the head 'Cheque Pending for realization/ encashment' when the total amount appearing in the Audited Balance Sheet Schedule *F' current assets, Loans & Advances as on 31.03.2010 of the assessee under this head is Rs. 86,18,786.62 only and as per ledger of the alleged creditor in the books of accounts of the assessee the amount of Rs. 1,80,00,000/- has been raised on 31.03.2010 through single cheque No. 513501.
4. The Ld. CIT (A) has erred in Law and in facts in deleting the additions of Rs. 1.8 cores made u/s 68 when the assessee has failed to bring on record any evidence to prove the credit worthiness and genuineness of the transaction of the said creditor.
Discussions and decision of Tribunal are found in paragraph 5 onwards. Various judgments have been referred and discussed. It appears that the Tribunal has given heavy weightage on aspects that :
S.68 is a deeming provision and a fiction is created.
If the fiction is applied, that as per Tribunal applied once a credit entry in books of account was made.
If the assesse was having some information but did not reveal the same. Authorities can take an adverse view. Therefore, some contentions raised by counsel of assessee were rejected as ‘after thought’. If assessee had made full and true disclosure before Ld. AO, it was likely that addition was not made by Ld. AO himself.
Appeal before the High Court:
Assessee preferred appeal before High Court, however, assessee could not get relief.
From judgment of High Court with highlights added for analysis:
2. While admitting the appeal vide order dated 07.01.2016, the following substantial questions of law have been raised:-
(I) Whether in facts and circumstances of the case, the ld. Authorities below erred in law in making the provisions of section 68 of the Act applicable to the assessee in a mechanical manner without controverting the fact finding in favour of the assessee?
(ii) Whether income tax is on real income ascertained as per the provisions of the Act and not on hypothetical income?
3. Learned counsel for the appellant submits that in terms of Section 68 of the Income Tax Act, the said entries cannot be said to be the income for the previous year as it was wrongfully entered and reversed immediately on the next day. He further submits that one of the Directors had issued cheque for Rs.1,80,000,00/-, which was returned back on the next day.
4. Section 68 of the Act provides as under:- xxxx
“5. In view of the above, it is apparent that there is no question of mens rea involved to be examined by invoking the aforesaid provision. We cannot lose sight of the fact that once amount is credited in the books of accounts and the same returned on the next day, realising that too only on 31st March i.e. last day of the assessment year, would be including of the said amount as part of the income of that year. Returning back the same on the next day would not result in the income of the previous year being reduced. If we allow such entries, one cannot lose sight that the assessees may make fictitious entries and return the same on the next day for taking tax benefits. There may be cases where the entries in the books of accounts may not be reflected in the bank account as the entries may be made in cash or in cheque which may not be ultimately encashed. We, therefore, answer question no. 1 in favour of the revenue.
6. So far as question no. 2 is concerned, it is now trite law that the income to be assessed and ascertained under the provisions of the Act is the accrued income and not the actual income which the assessee may have acquired in a financial year. Therefore, the actual income of the assessee which accrues to him during the financial year, if there is an entry of any amount in the books of accounts as on 31st March, the same would be included as income of the assessee, even if he/ she may not have encashed the cheque on that day. The answer to question no. 2 is, therefore, in favour of the revenue. We do not find any more question of law required to be answered.
7. The appeal is dismissed.
Order of the Supreme Court:
On further appeal before the Supreme Court also assessee could not get relief. The order of the Supreme Court is as follows:
2. Having heard the learned Senior counsel appearing for the petitioner and having gone through the materials on record, we see no good reason to interfere with the impugned order passed by the High Court.
Observations of author:
In view of the author, the case was not properly presented by assesse for the following reasons:
a. a credit entry was made without realizing the cheque. The cheque was not for any income accrued, it was for a liability to be incurred on realization of cheque. Therefore, the entry in books of account was premature and it should not have been made on 31st March.
b. the cheque was not even deposited but account of cheque issuer who was a director was credited on 31st March and debited in next year on 1 April. Reasons for the same were not explained properly for this reason Ld. AO might have developed some suspicion and doubt. If the matter was explained properly, it was likely that Ld. AO would have applied discretion vested in him in provisions of S.68 by use of word ‘may’.
c. it was not a cheque for income receivable rather it was cheque for a loan on capital account and that was not realized. In case of loan there is no question of accrual of income. However, this was not properly pressed.
d. Honorable High Court also seems to have doubted the transactions only because the assesse did not came with full facts and clean hands. To prevent such practices honorable High Court seems to have observed as stated in the judgment.
e. It seems that the case was considered as a case of facts as found by honorable Tribunal. The facts found were not claimed to be wrong or perverse. In fact, it seems admitted that fact were rightly found as appears from the question which includes wordings ‘ without controverting the fact finding in favour of the assessee’ .
This is because there was no fact found in favour of assessee by the Tribunal. Though The CIT(A) has found and reads as facts in favour of assessee, but here the appeal before the High Court was an appeal against order of Tribunal who is final fact finding authority.
The fact found by Tribunal were not challenged by way of proper question of law and on ground of wrong and perverse.
Serious learning:
Making entries in books of account is a serious matter and once an entry is made, its effect can be forced, even if the entry is reversed for some reason. Reversal of entry can be more difficult to explain rather the entry itself. Therefore, there should be finality of matter before any entry is made in books of account.
For cheques received, an entry in books of account before its realist ion is risky. Taking advantage of the judgment discussed herein, the Income tax department can make additions even for cheques received, credited but dishonored and never realized.
Therefore, avoid any provisional entries in books of account. Rectifications and reversals of entries will find serious implications in future when audit trails will be used by authorities and accountant and management will be called to explain them.
Cases under study:
and various cases referred to therein.