AO failed to verify unsecured loans under section 68, PCIT's revision order under section 263 upheld

The ITAT Pune upheld the PCIT's revision order under section 263, directing the AO to examine unsecured loans under section 68. The AO had failed to verify the identity, creditworthiness, and genuineness of transactions despite receiving confirmation letters from the assessee. The ITAT noted that confirmation letters only establish identity but not creditworthiness or genuineness. The AO should have called for financial statements, income tax returns, and bank statements of creditors and issued notices under sections 133(6) or 131 if necessary. The assessee's contention that section 263 cannot be invoked after approval under section 153D was rejected since the approval order did not consider the unsecured loans issue. The appeal was dismissed.

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1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered by the Tribunal in this appeal are:

• Whether the Principal Commissioner of Income Tax (PCIT) was justified in invoking the revisionary jurisdiction under section 263 of the Income-tax Act, 1961 ("the Act") against the assessment order passed under section 143(3) read with section 153A of the Act for the Assessment Year (AY) 2019-20, particularly when the assessment order was passed after obtaining prior approval under section 153D of the Act;
• Whether the Assessing Officer (AO) had conducted adequate inquiry and verification regarding the identity, creditworthiness, and genuineness of unsecured loans aggregating over Rs. 52 crores appearing in the books of the assessee, as required under section 68 of the Act;
• Whether the assessment order dated 20.04.2021 was erroneous and prejudicial to the interests of the revenue for failure to make necessary inquiries or verification concerning unsecured loans;
• Whether the invocation of revisionary powers by PCIT under section 263 could be sustained on the ground that the AO's assessment was based on mere confirmations without further verification of financial credentials of the lenders;
• Whether the approval granted under section 153D of the Act for the assessment order passed under section 153A/143(3) precludes the PCIT from exercising powers under section 263;
• Whether the legal principles and judicial precedents relied upon by the assessee and the Revenue support or negate the exercise of revisionary powers in this case.

2. ISSUE-WISE DETAILED ANALYSIS

Issue 1: Jurisdiction of PCIT to invoke section 263 despite prior approval under section 153D

Relevant legal framework and precedents: Section 153D mandates prior approval of the Additional Commissioner for assessment orders passed under section 153A (search cases). Section 263 empowers PCIT to revise any order passed by AO if it is erroneous and prejudicial to revenue. Explanation 1(a) to section 263 clarifies that orders passed on the basis of directions by Joint Commissioner or Additional Commissioner are included within the ambit of revision under section 263. Judicial precedents including the Supreme Court ruling in T.N. Civil Corporation vs CIT and various High Court and Tribunal decisions affirm that approval under section 153D does not oust the jurisdiction of PCIT to invoke section 263.

Court's interpretation and reasoning: The Tribunal noted that the approval under section 153D was granted only with respect to issues arising from the search action and not with regard to the unsecured loans. Since the AO had not considered or made any inquiry on unsecured loans, the approval under section 153D could not be construed as covering this aspect. The Tribunal agreed with PCIT that there is no statutory bar preventing revision under section 263 of an assessment order passed with prior approval under section 153D, especially when the order is erroneous and prejudicial to revenue.

Application of law to facts: The assessment order did not address unsecured loans, which were substantial and required verification. The approval under section 153D was silent on this issue, hence PCIT's revisionary jurisdiction remained intact.

Conclusion: The Tribunal held that the invocation of section 263 by PCIT was valid despite prior approval under section 153D.

Issue 2: Adequacy of AO's inquiry and verification regarding unsecured loans under section 68

Relevant legal framework and precedents: Section 68 imposes burden on the assessee to explain the nature and source of any sum credited in books, failing which it can be treated as income. The explanation must satisfy the AO about the identity, creditworthiness, and genuineness of the transaction. The Supreme Court in Kale Khan Mohd. Hanif vs CIT laid down the three limbs of examination under section 68. Various decisions emphasize that mere submission of confirmation letters is insufficient; detailed verification including financial statements, income tax returns, and bank statements of lenders is necessary.

Court's interpretation and reasoning: The Tribunal observed that the AO called for details and confirmations of unsecured loans but did not conduct further inquiries or verification of creditworthiness and genuineness. The AO accepted confirmation letters as full compliance without examining financial documents or conducting inquiries under sections 133(6) or 131 of the Act. The PCIT rightly found the assessment order erroneous and prejudicial to revenue due to lack of necessary inquiries.

Key evidence and findings: The unsecured loans totaled Rs. 52.19 crores from 203 parties, including related and unrelated parties. The assessee submitted confirmations from 70 parties but failed to provide corroborative evidence such as income tax returns or bank statements. The AO's assessment order dealt primarily with on-money transactions from the search and did not address unsecured loans.

Application of law to facts: The AO's failure to verify creditworthiness and genuineness of loans contravened the requirements under section 68, rendering the assessment order erroneous.

Treatment of competing arguments: The assessee argued that prior years' assessments had verified unsecured loans and that the AO had made inquiries and accepted the documents. The Tribunal noted that while prior years' loans might have been examined, the current year's loans and interest additions required fresh verification. The AO's acceptance of confirmation letters without further inquiry was insufficient. The Revenue's contention that mere confirmations cannot substitute detailed verification was upheld.

Conclusion: The Tribunal agreed with PCIT that the AO failed to make necessary inquiries and verification under section 68, making the assessment order erroneous and prejudicial to revenue.

Issue 3: Whether the order passed by AO can be revised under section 263 merely due to difference in opinion

Relevant legal framework and precedents: The Supreme Court in Malabar Industrial Co. Ltd. vs CIT and Max India Ltd. held that section 263 cannot be invoked to correct every mistake or difference of opinion. The order must be erroneous and prejudicial to revenue, i.e., based on incorrect facts or law or lack of application of mind.

Court's interpretation and reasoning: The Tribunal applied these principles and found that the AO's order was not a mere difference of opinion but an order passed without making necessary inquiries or verification, thereby erroneous. The failure to verify unsecured loans was a substantive omission prejudicial to revenue.

Application of law to facts: The AO had not applied mind to the issue of unsecured loans beyond accepting confirmations. This was not a permissible alternative view but an error.

Conclusion: The revision under section 263 was justified and not a mere change of opinion.

Issue 4: Whether the AO's inquiry during assessment was adequate and if the PCIT's order is justified

Relevant legal framework and precedents: The AO is duty-bound to make inquiries and verification as per section 68. PCIT's supervisory jurisdiction under section 263 is to correct orders that are erroneous and prejudicial to revenue.

Court's interpretation and reasoning: The Tribunal noted that the AO issued notices and received some details but did not pursue further verification. The PCIT issued show cause notice pointing out the failure to verify identity, creditworthiness, and genuineness of unsecured loans. The Tribunal found that the PCIT's conclusion that the assessment order was erroneous and prejudicial was well founded.

Application of law to facts: The AO's failure to examine the financial status of lenders and genuineness of transactions warranted revision. The PCIT's direction for reassessment was appropriate.

Conclusion: The Tribunal upheld the PCIT's order setting aside the assessment for fresh examination of unsecured loans.

Issue 5: Treatment of unsecured loans carried forward from prior years and loans from related parties

Relevant legal framework and precedents: Loans from prior years and related parties require verification each year to the extent they impact current year's accounts. Judicial decisions emphasize that acceptance in prior years does not automatically validate loans in subsequent years without fresh inquiry.

Court's interpretation and reasoning: The Tribunal acknowledged that majority of loans were brought forward from earlier years where assessments were completed. However, it emphasized that fresh verification is necessary for the current year, especially for additions due to interest or new loans. Related parties subject to search were assessed but the unsecured loans issue was not addressed in the assessment order.

Application of law to facts: The AO's failure to verify these loans in the current year was a lapse. The PCIT correctly identified this as an error prejudicial to revenue.

Conclusion: Prior verification does not absolve AO from making necessary inquiries for the current year.

3. SIGNIFICANT HOLDINGS

"There can be no doubt that the provision [section 263] cannot be invoked to correct each and every type of mistake or error committed by the Assessing Officer; it is only when an order is erroneous that the section will be attracted. An incorrect assumption of facts or an incorrect application of law will satisfy the requirement of the order being erroneous. ... The phrase 'prejudicial to the interests of the revenue' has to be read in conjunction with an erroneous order passed by the Assessing Officer." (Malabar Industrial Co. Ltd. vs CIT)

"In the instant case, merely confirmation letters have been filed which can at most give the details of Identity of the cash creditor. So far as credit worthiness and genuineness of the transaction is concerned, ld. AO has to call for the details from the assessee about the financial statements including income-tax return and bank statement of the cash creditor and also the nature of transaction as to whether it is in the regular course of business and also to verify that it is a genuine transaction."

"The approval under section 153D of the Act was granted only with regard to issues arising out of search and not with regard to unsecured loans. Therefore, the contention that section 263 cannot be invoked in case of assessment order passed after approval under section 153D has no merit."

"The AO failed to make further inquiries to obtain confirmation along with details supporting their creditworthiness, identity and genuineness. ... No verification/examination on the aforesaid issue has been done during the assessment proceedings by the AO. The AO should have verified/enquired/examined this issue." (PCIT's observation)

Core principles established:

• Section 263 can be invoked only when the AO's order is erroneous and prejudicial to revenue, not for mere difference of opinion;
• Approval under section 153D does not bar revision under section 263;
• Verification of unsecured loans under section 68 requires examination of identity, creditworthiness, and genuineness, not mere confirmations;
• Failure of AO to conduct necessary inquiries and verification renders the assessment order erroneous and prejudicial;
• PCIT's revisionary jurisdiction is supervisory and aimed at protecting revenue interests by correcting erroneous orders.

Final determinations:

• The Tribunal dismissed the appeal of the assessee;
• Confirmed the PCIT's order invoking section 263 to set aside the assessment order dated 20.04.2021 for AY 2019-20;
• Directed the AO to re-examine the issue of unsecured loans with proper inquiry and verification as per section 68;
• Rejected the contention that prior approval under section 153D precludes revision under section 263;
• Held that the AO's acceptance of unsecured loans based only on confirmation letters without further verification was erroneous and prejudicial to revenue.

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