2017 (4) TMI 1659 - AT - Income Tax

Tax authority cannot disallow earth cutting expenses without proper verification of business records and expense nature

Mohit Lal Ghosh Versus ACIT, Circle-1, Dist. Hooghly

ITAT Kolkata allowed the assessee's appeal against disallowance of earth cutting expenses in brick field business. AO disallowed expenses on ad-hoc basis ... Disallowance of earth cutting expense on the ad-hoc basis - addition made in the absence of any supporting documentary evidence - HELD THAT:- Asessee is engaged in the business of brick fields which is labour intensive industry. The assessee has to deploy labourers for various purposes. AO has made the disallowances on the ground that the name and the addresses of the recipients were not reflecting in the vouchers produced before him. From the above observation of the AO it is clear that the said expenses are not unreasonable or excessive. Thus these expenses are commensurate to the business of the assessee. AO chose to disallow only those vouchers of the expenses which are not supported with the name and address of the recipient. In the case before us the AO has taken a base to disallow those expenses in respect of those vouchers not supported with the name and address of the recipient. AO at the time of disallowances has quantified the disallowances on adhoc and estimated basis. AO has chosen to make the disallowance without finding the specific defect in the related vouchers. In our view it is the duty of the AO to point out specific vouchers for the disallowances where the name and address of the recipient are not reflecting. Thus disallowances made by the AO and subsequently confirmed by the CIT(A) are not sustainable in the eyes of law. Lower authorities before making the disallowances should have cross verified the history of the assessee, the nature of the expenses claimed and the books of accounts maintained in the course of the business. It was the duty of the AO to verify whether such expenses are commensurate to the business of the assessee on basis of past & subsequent history but there is no such finding given by the AO on this aspect. We find that the AO has made the disallowances in mechanical manner which is not are correct method. In these circumstances, we are of view that the estimated disallowance is not sustainable in the eyes of law. Thus, we delete the addition made by the lower authorities. We also find that the AO has not pointed out any defect in the books of accounts and the same were not rejected. Hence, this ground of assessee is allowed. 1. ISSUES PRESENTED and CONSIDEREDThe core legal question considered in this appeal is whether the disallowance of Rs. 2,76,518/- made by the Assessing Officer (AO) and confirmed by the Commissioner of Income Tax (Appeals) [CIT(A)] towards earth cutting expenses on an ad-hoc basis is justified and sustainable in law. Specifically, the Tribunal examined the validity of the AO's disallowance arising from the absence of recipient names and addresses in the debit vouchers submitted by the assessee to substantiate the earth cutting expenses claimed.2. ISSUE-WISE DETAILED ANALYSISIssue: Legitimacy and quantum of disallowance of earth cutting expenses on ad-hoc basis due to lack of adequate documentary evidence.Relevant Legal Framework and Precedents: Under the Income Tax Act, 1961, expenses claimed by an assessee must be substantiated by appropriate evidence to establish their genuineness and business connection. The burden lies on the assessee to produce supporting documents. However, disallowances must be made on a rational and scientific basis, considering the nature of business, the kind of expense, past conduct, maintenance of books, and industry practices. The Tribunal relied on a coordinate bench decision in the case of Animesh Sadhu Vs. ACIT, which held that estimated or ad-hoc disallowances are impermissible unless specific expenditures are identified as unverifiable or unvouched.Court's Interpretation and Reasoning: The Tribunal noted that the AO disallowed 10% of the earth cutting expenses solely because many vouchers lacked the name and address of the recipients, thereby preventing independent verification. The CIT(A) upheld this disallowance, emphasizing the need for muster rolls, labour returns, and statutory deposit evidence such as PF and ESI contributions to corroborate the expenses.However, the Tribunal observed that the AO did not identify any specific voucher or transaction as defective, nor did he find the expenses unreasonable or excessive. The expenses claimed were consistent with the nature of the assessee's business, which is labour-intensive brick manufacturing. The Tribunal emphasized that before making any disallowance, the AO must consider multiple factors including the business nature, expense character, past history, and books of accounts maintained. The absence of recipient details in vouchers alone does not justify an arbitrary or estimated disallowance.The Tribunal further held that the AO's approach was mechanical and lacked a scientific basis. The disallowance was made on an ad-hoc basis without pointing out specific defects in the vouchers or verifying whether the expenses were commensurate with the business requirements based on past and subsequent history. The Tribunal underscored that disallowance must be based on specific findings rather than conjecture or mere inability to independently verify.Key Evidence and Findings: The assessee had produced debit vouchers for the earth cutting expenses, although many lacked recipient names and addresses. No defect was found in the maintenance of labour registers, and the books of accounts were not rejected by the AO. The expenses were consistent with the labour-intensive nature of the brick manufacturing business. No evidence was presented by the AO to show that the expenses were excessive or unrelated to the business.Application of Law to Facts: Applying the principles from the relevant legal framework and precedent, the Tribunal concluded that the disallowance based on missing recipient details in vouchers without specific identification of defective entries was not sustainable. The AO failed to apply a scientific method or consider the totality of circumstances before making the ad-hoc disallowance. The Tribunal found that the expenses were genuine and incurred wholly and exclusively for business purposes.Treatment of Competing Arguments: The Revenue contended that the absence of recipient details in vouchers justified the disallowance as it prevented independent verification. The assessee argued that the expenses were genuine, supported by labour registers, and consistent with business operations, and that the AO's disallowance was arbitrary and not based on specific findings. The Tribunal sided with the assessee, holding that inability to verify expenses due to missing details does not warrant an ad-hoc disallowance without identifying specific unverifiable transactions.Conclusions: The Tribunal concluded that the disallowance of Rs. 2,76,518/- on ad-hoc basis was not sustainable. The AO's failure to point out specific defects or verify the expenses scientifically rendered the disallowance arbitrary. The Tribunal allowed the appeal and deleted the disallowance.3. SIGNIFICANT HOLDINGSThe Tribunal established the principle that 'no estimated disallowance can be made for inability to make independent verification. If any specific expenditure is unverifiable or is un-vouched, then such specific expenditure is disallowable. Here no such specific identification has been done.'The Tribunal emphasized the duty of the AO to consider various factors including the nature of business, nature of expenses, past history, and maintenance of books before making disallowances. Mechanical or ad-hoc disallowances without specific findings are not sustainable.The final determination was that the disallowance of earth cutting expenses on an ad-hoc basis due to lack of recipient details in vouchers was unjustified and was accordingly deleted, allowing the assessee's appeal.