2025 (10) TMI 37 - AT - Income Tax

Penalty deleted under s.271(1)(c) where recharacterisation as deemed dividend u/s 2(22)(e) and s.40A(3) disallowance didn't prove inaccurate particulars

ITAT MUMBAI-AT deleted penalty under s.271(1)(c) and allowed the assessee's appeal. The tribunal held that recharacterisation of a loan as deemed dividend ... Penalty u/s 271(1)(c) - deemed dividend u/s. 2(22)(e), amount on account of 26AS mismatch and made a disallowance of expenditure u/s. 40A(3) - HELD THAT:- The fact that loan transaction has been re-characterized and taxes as deemed dividend cannot be held as furnishing of inaccurate particulars of income where all relevant facts were available on record as part of audited financial statements and/or called for during the assessment proceedings. Secondly, equally relevant to note is that the decision of Bhaumik Colours (P) Ltd. [2008 (11) TMI 273 - ITAT BOMBAY-E], in case of Universal Medicare (P) Ltd [2010 (3) TMI 323 - BOMBAY HIGH COURT] and Madhur Housing and Development company [2017 (10) TMI 1279 - SUPREME COURT] were rendered well before the passing of the assessment order u/s 143(3) dated 30-10-2015 and date of issuance of first show-cause u/s 271(1)(c) on 30-10-2015 and decision of Madhur Housing and Development company was rendered on 05-10-2017 well before passing of the penalty order u/s 271(1)(c) on 28-03-2019 and therefore, the assessee has strong basis to rely on these decisions to submit that the amount of loan transaction cannot be brought to tax in its hands as deemed dividend u/s 2(22)(e) of the Act. The fact that the AO has went ahead and taxed the amount as deemed dividend in the hands of the assessee and the assessee didn’t challenge initially or couldn’t challenge successfully later on and accepted its fate of the closure of the quantum proceedings cannot disturb the legal basis so held by the Coordinate Bench and the Hon’ble Courts that the amount cannot legally be brought to tax in its hands and has to be brought to tax in the hands of the common shareholders. Interestingly, the AO of the common shareholder seeks to rely on the very same decision rendered by the Hon’ble Supreme Court in case of Madhur Housing has reopened the case of the common shareholder and has brought the same amount to tax as deemed dividend in the hands of the shareholder. We therefore find merit in the contention advanced by the Ld.AR that where the Courts have held the amount as not taxable in the hands of the assessee, there is legally and justifiably no basis for levy of penalty u/s 271(1)(c) of the Act. On the issue of disallowance u/s 40A(3), we find that mere fact that the amount has been disallowed cannot lead to levy of penalty as the AO has again failed to satisfy how the assessee has furnished inaccurate particulars of income. Penalty so levied u/s 271(1)(c) is hereby directed to be deleted. Appeal of the assessee is allowed. ISSUES PRESENTED AND CONSIDERED 1. Whether levy of penalty under section 271(1)(c) for assessment year 2013-14 is justified in respect of a loan of Rs. 55,00,000 treated by the Assessing Officer as deemed dividend under section 2(22)(e) where (a) the loan/transaction and parties were disclosed in financial statements/notes and (b) subsequent judicial decisions indicate such amounts are taxable only in the hands of the shareholder and not the recipient company. 2. Whether penalty under section 271(1)(c) is leviable in respect of a small disallowance under section 40A(3) of the Act when the Assessing Officer has not specified how the assessee furnished inaccurate particulars of income. 3. Whether the Assessing Officer's and Commissioner (Appeals)'s reliance on the finality/confirmation of quantum additions (and non-maintainability of a later quantum appeal) by itself satisfies the requirements for imposing penalty under section 271(1)(c). ISSUE-WISE DETAILED ANALYSIS Issue 1 - Penalty for deemed dividend (section 2(22)(e)) Legal framework: Section 271(1)(c) penalises concealment of particulars of income or furnishing inaccurate particulars of income. Section 2(22)(e) deems certain loans/advances by a company to be dividends for taxation purposes. Assessment and penalty proceedings are separate; imposition of penalty requires satisfaction of the statutory conditions showing concealment or inaccuracy. Precedent Treatment: The Tribunal relied on earlier coordinate/High Court and Supreme Court authority (including decisions of a Special Bench and High Court and the later Supreme Court decision) holding that the deeming fiction in section 2(22)(e) is directed at taxing the dividend in the hands of the shareholder and not in the hands of the recipient company. Those authorities were considered binding in approach; the Tribunal treated them as supportive of the assessee's legal position. Interpretation and reasoning: The Tribunal examined the record and found that the loan transaction, identity of related parties and shareholding structure were disclosed in audited financial statements and notes; the Assessing Officer had called for information and examined explanations before characterising the loan as deemed dividend. The Tribunal held that re-characterisation of an openly disclosed transaction in assessment does not ipso facto amount to furnishing inaccurate particulars of income where the relevant facts were available on record. Further, subsequent judicial pronouncements (rendered prior to the penalty order) adopting the view that section 2(22)(e) operates to tax the shareholder, not the recipient company, provided a reasonable legal basis for the assessee to contend that taxation in the company's hands was not legally sustainable. The fact that the same amount was later assessed in the hands of the common shareholder (post the Supreme Court ruling) reinforced that the legal controversy favoured taxation in shareholder's hands. Ratio vs. Obiter: Ratio - Where all material facts about the loan and related-party relationship were disclosed and assessed, re-characterisation to deemed dividend does not necessarily demonstrate concealment or furnishing of inaccurate particulars for the purpose of section 271(1)(c); a genuine legal controversy supported by binding decisions negating taxability in the recipient company's hands negates the mens rea/culpability required for penalty. Obiter - Observations on the merits of conflicting precedents are explanatory but the decisive point is failure of the AO to specify the statutory satisfaction required for penalty. Conclusions: Penalty under section 271(1)(c) could not be sustained in respect of the Rs. 55,00,000 deemed dividend because (a) the transaction and related facts were on record and not concealed, (b) the AO did not demonstrate how inaccurate particulars were furnished, and (c) there existed strong judicial authority supporting the view that such deemed dividend is taxable in shareholder's hands, providing a reasonable and bona fide basis defeating the imposition of penalty. Issue 2 - Penalty in respect of disallowance under section 40A(3) Legal framework: Section 40A(3) disallows unreasonable payments to related parties; section 271(1)(c) still requires proof of concealment or inaccurate particulars. Mere disallowance under section 40A(3) does not automatically equate to concealment or furnishing inaccurate particulars. Precedent Treatment: The Tribunal applied the settled principle that only when the statutory conditions for penalty are independently satisfied can penalty follow a disallowance; routine or small quantum disallowances without evidence of deliberate concealment or inaccuracy do not attract penalty. Interpretation and reasoning: The Tribunal noted the small quantum of the disallowance and that the Assessing Officer did not articulate how the assessee furnished inaccurate particulars. Absent specification of misstatements, false particulars or deliberate concealment, the elements necessary for imposing penalty under section 271(1)(c) were not made out. Ratio vs. Obiter: Ratio - Disallowance alone (particularly of modest amounts) is insufficient to sustain a penalty under section 271(1)(c) unless the AO establishes concealment or the furnishing of inaccurate particulars; the AO's failure to specify such elements mandates deletion of penalty in respect of such disallowance. Obiter - Remarks on proportionality and quantum are explanatory. Conclusions: Penalty under section 271(1)(c) cannot be maintained in respect of the section 40A(3) disallowance where the AO failed to demonstrate concealment or inaccurate particulars; the disallowance by itself does not satisfy penalty conditions. Issue 3 - Reliance on finality/confirmation of quantum as a standalone basis for penalty Legal framework: Assessment (quantum) and penalty proceedings are distinct; confirmation of an addition in quantum proceedings does not ipso facto establish the statutory satisfaction required for penalty under section 271(1)(c). The AO must demonstrate with specificity how the assessee concealed particulars or furnished inaccurate particulars. Precedent Treatment: The Tribunal reaffirmed the well-settled proposition separating the two proceedings and requiring independent satisfaction of penalty conditions irrespective of quantum finality. Interpretation and reasoning: The Tribunal found that the Assessing Officer and Commissioner (Appeals) treated the penalty as consequential to the confirmed assessment without specifying the factual or mental elements constituting concealment or inaccurate particulars. Given that all material facts were on record and there existed bona fide legal grounds (supported by judicial decisions) to dispute the taxability in the company's hands, mere confirmation of the addition could not substitute for the required legal and factual satisfaction for penalty. Ratio vs. Obiter: Ratio - Confirmation of quantum is not a substitute for independent satisfaction of the requirements of section 271(1)(c); the AO must specify and establish concealment or inaccuracy. Obiter - Observations on the timing of judicial decisions relative to assessment and penalty orders underscore the legitimacy of the assessee's reliance on existing case law. Conclusions: The Assessing Officer's and Commissioner (Appeals)'s reliance on finality of the quantum addition, without demonstrating concealment or inaccurate particulars, does not justify imposition of penalty under section 271(1)(c). Overall Conclusion and Disposition The Tribunal concluded that the statutory conditions for levy of penalty under section 271(1)(c) were not satisfied: (a) the loan/related-party facts were on record and not concealed; (b) the AO failed to specify how inaccurate particulars were furnished; (c) authoritative judicial decisions provided a reasonable legal basis against taxing the amount in the recipient company's hands; and (d) mere confirmation of quantum or a disallowance under section 40A(3) does not automatically attract penalty. Accordingly, the penalty imposed under section 271(1)(c) in the amount directed by the Assessing Officer was deleted.