Unexplained money addition under section 69A set aside for failure to follow CBDT demonetization verification procedures
ITAT Hyderabad set aside CIT(A)'s order upholding AO's addition under section 69A for unexplained money relating to SBN deposits during demonetization. The tribunal found that neither AO nor CIT(A) followed CBDT's Standard Operating Procedure outlined in six circulars/notifications for verifying cash transactions during demonetization period. Both authorities rejected assessee's claim that deposited cash came from borrower collections without proper verification of records or examining genuineness of claim per CBDT guidelines. Matter remanded to CIT(A) for fresh adjudication following proper SOP verification procedures. Appeal allowed for statistical purposes.
The core legal questions considered in this appeal revolve around the treatment of cash deposits in Specified Bank Notes (SBNs) during the demonetization period, specifically:
1. Whether the deposits of SBNs made by the assessee between 9th November 2016 and 30th December 2016 can be treated as unexplained income under Section 69A of the Income Tax Act, 1961, given the demonetization notification and subsequent ordinance.
2. The legal effect of the Specified Bank Notes (Cessation of Liabilities) Ordinance, 2016, and the exact date from which SBNs ceased to be legal tender.
3. Whether the assessee's explanation that the deposits represent recovery of loans from borrowers during the demonetization period is acceptable and supported by evidence.
4. The applicability and interpretation of the Standard Operating Procedure (SOP) issued by the Central Board of Direct Taxes (CBDT) regarding verification of cash deposits during the demonetization period.
5. Whether the Assessing Officer (AO) and the Commissioner of Income Tax (Appeals) (CIT (A)) erred in law and procedure by making additions without proper verification and opportunity of hearing.
Issue-wise Detailed Analysis:
1. Treatment of SBN Deposits as Unexplained Income under Section 69A
The relevant legal framework includes Section 69A of the Income Tax Act, which deals with unexplained money, bullion, or valuable articles. The provision requires that for addition under this section, the assessee must be found to be the owner of money not recorded in books of account, and the explanation offered must not be satisfactory to the AO.
Precedents cited by the assessee emphasize that once the source of deposits is satisfactorily explained and recorded, no addition under Section 69A can be made.
The AO and CIT (A) rejected the assessee's explanation that the deposits represented loan recoveries, primarily on the ground that SBNs ceased to be legal tender from 9th November 2016, and thus acceptance of such notes violated the demonetization notification. They held that the deposits were unexplained money under Section 69A.
The assessee contended that the deposits were in the ordinary course of business, supported by audited financial statements and RBI regulation, and that the SBNs could be deposited up to 30th December 2016 as per the notification. The assessee also relied on SOPs issued by the CBDT and prior investigation reports which found no adverse findings.
The Court noted that the AO and CIT (A) did not apply the CBDT SOPs which require detailed verification of cash deposits, including comparison with normal business operations and prior years' data. The assessee's detailed records and loan agreements were not adequately examined.
Thus, while the AO and CIT (A) relied solely on the demonetization notification to reject the explanation, the Court found that proper verification as per CBDT guidelines was lacking, necessitating remand for fresh adjudication.
2. Legal Effect of the Specified Bank Notes (Cessation of Liabilities) Ordinance, 2016 and Date of Cessation of Legal Tender
The Government notification dated 8th November 2016 declared that SBNs of Rs. 500 and Rs. 1000 ceased to be legal tender with effect from 9th November 2016. However, the notification allowed exchange or deposit of such notes up to 30th December 2016.
The assessee argued that the Ordinance promulgated later provided that SBNs ceased to be legal tender only from 31st December 2016, thus deposits before that date were lawful.
The AO and CIT (A) held that the effective date of cessation of legal tender was 9th November 2016, as per the notification, and the Ordinance merely clarified liabilities of the Reserve Bank and Government, not the legal tender status.
The Court agreed with the authorities below that the SBNs ceased to be legal tender from 9th November 2016, and the Ordinance did not extend the legal tender status but provided a grace period for exchange/deposit. Therefore, acceptance of SBNs after 8th November 2016, except as permitted by the notification, was not lawful.
3. Genuineness of Assessee's Explanation Regarding Source of Deposits
The assessee operates as an RBI-regulated NBFC engaged in microfinance, with extensive record-keeping, audits, and regulatory supervision. The collections are made from identifiable borrowers through a network of branches and centers, with loan agreements and repayment schedules documented.
The assessee submitted that deposits of SBNs represented recovery of loans disbursed earlier, supported by loan receivable balances exceeding Rs. 1500 crores as on 31/03/2016.
The AO and CIT (A) found this explanation untenable, reasoning that no prudent person or regulated NBFC would accept demonetized notes in violation of the notification, especially when no disbursements were made in SBNs during the period.
The Court observed that the AO and CIT (A) did not conduct a detailed verification of the records or compare deposits during the demonetization period with other periods, as required by the CBDT SOP. The assessee's evidence of consistent business operations and regulatory compliance was not adequately considered.
Therefore, the Court held that the genuineness of the assessee's explanation requires proper examination and verification, which was not done.
4. Applicability and Interpretation of CBDT SOPs on Verification of Cash Deposits
The CBDT issued multiple circulars and SOPs guiding tax authorities on handling cash deposits during demonetization. These instructions emphasize verifying the source of deposits, comparing with normal business patterns, and distinguishing genuine transactions from suspicious ones.
The assessee relied heavily on these SOPs, arguing that the AO failed to follow them, leading to an unjustified addition.
The AO and CIT (A) did not apply these SOPs or conduct the mandated detailed verification, relying instead on the demonetization notification alone.
The Court found this approach flawed and held that the matter must be remanded for application of the SOPs, detailed verification of records, and proper adjudication.
5. Procedural and Legal Errors by AO and CIT (A)
The assessee contended that the CIT (A) erred in not providing an opportunity for hearing and in confirming the addition without examining the evidence and applying the CBDT SOPs.
The Court noted that the CIT (A) confirmed the addition based on the notification and the AO's findings without proper verification of evidence or following the SOPs.
The Court did not expressly find procedural violation but emphasized the need for fresh adjudication with proper opportunity and application of relevant guidelines.
Significant Holdings:
"The notification dated 8/11/2016 categorically declares that the specified bank notes shall cease to be legal tender with effect from the 9th November 2016... The Specified Bank Notes (Cessation of Liabilities) Ordinance, 2016... cannot be accepted as correct legal proposition that the effective date on which the SBNs have ceased to be legal tender is 31st December 2016."
"The appellant's explanation that the specified bank notes deposited in the bank account represents collection in specified bank notes effected by the company from its loan borrowers... which were adjusted against the borrowers' regular loan obligations... defies the logic and common sense."
"Neither the AO nor the CIT (A) has examined the relevant facts and records of the assessee by following the SOP as notified by the CBDT."
"The matter requires a proper verification and examination of the record as well as the genuineness of the claim of the assessee in the light of the SOP issued by the CBDT in this respect. Hence, the impugned order of the CIT (A) is set aside and the matter is remanded to the record of the CIT (A) for fresh adjudication."
The core principles established include:
- The legal tender status of SBNs ceased from 9th November 2016 as per the Government notification, and the Ordinance clarifies liabilities but does not extend legal tender status.
- Accepting and depositing SBNs after 8th November 2016, except as permitted under the notification, is not lawful.
- For additions under Section 69A, the source of deposits must be proved unexplained after satisfactory explanation and verification.
- The CBDT SOPs on verification of demonetization period cash deposits are mandatory and must be followed by tax authorities before making additions.
- Proper verification and examination of evidence, including comparison with normal business operations and prior years' data, is essential before rejecting explanations.
Final determinations:
The Tribunal set aside the orders of the AO and CIT (A) confirming the addition of Rs. 39,66,15,500 as unexplained income under Section 69A and remanded the matter for fresh adjudication. The remand directs the CIT (A) to apply the CBDT SOPs, verify the genuineness of the assessee's claim supported by records, and pass a reasoned order after giving the assessee an opportunity of hearing.
TaxTMI 
AI Drafter ✕
TaxTMI 
