Profit element in disputed purchases estimated using industry benchmark; disallowance limited to 2% of purchases, favourable to taxpayer

Where sales from disputed purchases are accepted but supplier genuineness is not conclusively established, the taxable adjustment may be limited to an estimated profit element rather than treating entire purchases as bogus; industry profit benchmarks may be applied to fix that estimate. Applying diamond trade precedents and sectoral data, the embedded profit in the contested purchases was estimated at 2% for the relevant assessment years, and the disallowance for income computation was restricted to that 2%, favourable to the taxpayer.

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Issues: (i) Whether the profit element embedded in disputed purchases treated as bogus/non-genuine can be estimated and, if so, at what percentage for the assessment years 2009-10 and 2011-12.

Analysis: Sales arising from the questioned purchases were accepted as genuine; consequently the entire value of purchases need not be taxed but only the profit element embedded in such purchases. Precedent and sectoral data for the diamond industry indicate net profit ranges lower than the percentages adopted by the authorities. Given inability of the assessee to conclusively prove the identity of certain suppliers, an estimation of the profit element is appropriate rather than treating entire purchases as bogus. A coordinate bench decision applying industry profit ranges estimated the embedded profit at 2% on similar facts.

Conclusion: The profit element embedded in the disputed purchases for both assessment years is to be estimated at 2% and the disallowance of purchases restricted to 2% for computation of income, in favour of the assessee.

Ratio Decidendi: Where sales out of disputed purchases are accepted but supplier genuineness is not conclusively proved, only the profit element embedded in such purchases may be estimated and taxed; industry-relevant profit benchmarks may be applied to fix a reasonable percentage (2% in the facts of this case).

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