Kar Vivad Samadhan Scheme immunity can extend to linked penalty and interest; refund adjustment needs prior notice and objection.

Kar Vivad Samadhan Scheme immunity was read to cover penalty and consequential interest directly linked to tax arrears outstanding on 31.03.1998, even where the formal penalty order was passed later, provided the liability arose from the same declared arrears and the scheme certificate had been issued for that subject matter. The commentary also states that refund adjustment under section 245 requires prior written intimation of the proposed set-off and a real opportunity to object; absent such notice and opportunity, the adjustment offends natural justice and is invalid. On that basis, the penalty demand, related interest, and refund adjustment were set aside.

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Issues: (i) whether penalty and consequential interest relating to tax arrears outstanding on 31.03.1998 were covered by the Kar Vivad Samadhan Scheme even though the penalty order was passed after that date; (ii) whether a refund could be adjusted against the alleged penalty and interest demand without prior notice and opportunity under the Act.

Issue (i): whether penalty and consequential interest relating to tax arrears outstanding on 31.03.1998 were covered by the Kar Vivad Samadhan Scheme even though the penalty order was passed after that date.

Analysis: The Scheme defined tax arrear to include tax, penalty or interest determined on or before 31.03.1998, but the Court read the scheme provisions together with the Board circular and held that the immunity under the Scheme extended to penalty and interest directly related to the income that formed the subject-matter of the declaration. The declarant had obtained a certificate under the Scheme in relation to the same tax arrears, and the circular clarified that where taxes were outstanding on the specified date, waiver could extend to penalty and interest, even if the formal penalty order was passed later. The Court also held that a protective penalty could not be sustained where the underlying assessment itself was protective.

Conclusion: The penalty and related interest were covered by the Scheme and could not be enforced against the assessee.

Issue (ii): whether a refund could be adjusted against the alleged penalty and interest demand without prior notice and opportunity under the Act.

Analysis: The Court held that adjustment of refund under section 245 required prior intimation in writing of the proposed adjustment and a meaningful opportunity to object, since the assessee must be told the basis and reasons for the proposed set-off before the refund is appropriated. The impugned adjustment communication was made without affording such opportunity and therefore offended the principles of natural justice.

Conclusion: The adjustment of the refund was invalid and could not be sustained.

Final Conclusion: The demand towards penalty and interest, the refund adjustment, and the consequential interference with the assessee's refund were set aside, leaving the assessee entitled to the refund determined under the earlier order.

Ratio Decidendi: Where tax arrears are settled under the Kar Vivad Samadhan Scheme, immunity can extend to penalty and interest directly linked to the declared arrears even if the penalty order is passed later, and any adjustment of refund must be preceded by notice and a real opportunity of objection under section 245 of the Income-tax Act, 1961.

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