2025 (11) TMI 333 - AT - Income Tax

Disallowance under Section 35AC overturned where taxpayer proved genuine donation despite investigation report and third-party statements

ITAT held that the AO's disallowance of a deduction under s.35AC, based solely on an investigation wing report and third-party statements, was not ... Deduction u/s. 35AC - case was reopened based on the information received from the Investigation wing that the assessee had given donation of Rs. 25,00,000/- during the year to Charitable Trust for the purpose of deduction u/s. 35AC which was not a genuine transaction - HELD THAT:- AO had received information from the Investigation wing in respect of search/survey action conducted against the trust during which the donee trust was found to be providing accommodation entries and the amounts received were returned to the parties after deduction of commission as stated by the trustee in statement recorded on oath. Based on this information, the assessment was reopened and the ld.AO recorded the statement u/s 131 of Shri Devdas Prabhakaran Nair, Advisor of assessee company. He reiterated that the assessee had made genuine payment of the impugned donation to M/s. Navjeevan Charitable Trust. AO did not accept the claim of the assessee and relying solely upon the report of Investigation wing and statement of the trustee recorded by the wing, made the impugned addition in the hands of the assessee after disallowing the claim of deduction u/s. 35AC of the Act. The assessee is aggrieved and has objected to the same as no opportunity to cross examine the trustee was given and the evidence filed by assessee was rejected without any cogent reason. Entire donations received by the trust have to be added in its hands in the year of withdrawal of notification and charged at the maximum marginal rate. Accordingly, disallowance of the claim of deduction u/s 35AC in the hands of the assessee could not have been made more so without establishing that it had made a bogus donation and money was received back in cash. Disallowance of deduction claimed u/s 35AC deleted. Assessee appeal allowed. ISSUES PRESENTED AND CONSIDERED 1. Whether deduction claimed under section 35AC can be disallowed in the hands of the donor where the donee association/institution subsequently had its approval/notification withdrawn and investigative material suggests the donee carried out accommodation entry operations. 2. Whether the Assessing Officer/Revenue could sustain disallowance of deduction by relying on statements and investigation reports concerning the donee without affording the donor an opportunity to cross-examine the donee's trustees or otherwise test that evidence. 3. Whether findings and precedents relied upon (including coordinate-bench decisions and the Supreme Court authority cited) require treating the donor's claim as automatically vitiated once the donee's approval is withdrawn or once investigation indicates bogus activity. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Validity of disallowance of deduction under section 35AC where donee's approval was subsequently withdrawn Legal framework: Section 35AC allows deduction for expenditure by way of payment to an association/institution approved by the National Committee for carrying out eligible projects/schemes. Sub-section (6) provides that where approval/notification is withdrawn the total amount received by the donee shall be deemed income of the donee in the previous year in which the approval/notification is withdrawn and taxed at the maximum marginal rate. The Explanation (inserted w.e.f. 01.04.2006) to sub-section (2) clarifies that a donor's deduction 'shall not be denied merely on the ground that subsequent to the payment ... the approval granted ... has been withdrawn' (or notification withdrawn). Precedent treatment: Coordinate-bench authorities have in several cases denied donors' deduction where factual material established that the donee was a bogus conduit (e.g., findings that donations were returned in cash and no genuine charitable activity occurred). The decision of the Supreme Court in CIT v. Batanagar Education Trust (reported decision relied upon by the Tribunal) affirmed cancellation of registration where recipient confirmed receipts were accommodation entries. Interpretation and reasoning: The Tribunal analysed statutory text and legislative intent. Sub-section (6) operates to tax the donee on withdrawal of approval, not to automatically saddle the donor with disallowance. The Explanation to sub-section (2) expressly prevents denial of a donor's deduction merely because approval is withdrawn later. Thus, unless donor's participation in a bogus transaction is independently established (i.e., donor made a sham/non-genuine payment with receipt of cash back), statutory scheme does not mandate automatic disallowance against the donor. The Tribunal distinguished the statutory consequence on the donee (taxation in year of withdrawal) from the separate evidentiary question whether the donor's payment was a genuine charitable outlay; the former does not supplant the latter. Ratio vs. Obiter: Ratio - where donee's approval is withdrawn, subsection (6) deems the receipts income of the donee and taxes them; Explanation to subsection (2) means withdrawal alone is not a ground to deny a donor's deduction. Obiter - references to legislative history and explanatory memorandum contextualise intent but are supplementary. Conclusion: Disallowance of the donor's s.35AC claim cannot be sustained solely on the fact of subsequent withdrawal of the donee's approval; in the absence of independent evidence that the donor received the money back or that the donation was a sham, the deduction should stand. The Tribunal therefore deleted the addition in respect of the donation amounts for the years under consideration. Issue 2 - Reliance on investigation reports and trustees' statements without affording cross-examination to the donor Legal framework: Principles of fair procedure and evidence require that adverse material taken into account in assessment/re-assessment proceedings be subject to testing and confrontation where relevant; in tax proceedings reliance may be placed on investigative material but fairness requires opportunity to meet such material. Precedent treatment: Coordinate-bench decisions have relied on unchallenged statements/discovery during search/survey operations to hold donations to be accommodation entries where such material was cogent and unrefuted. However, tribunals have also stressed that donors should be given opportunity to test adverse statements where those statements are crucial to disallowance. Interpretation and reasoning: The Tribunal examined the fact-matrix: the AO reopened assessment after receiving investigation reports and relied on trustees' statements (recorded by the investigation wing) and a section 131 statement of the donor's advisor. The donor asserted denial of an opportunity to cross-examine trustees whose statements implicated the donation scheme. The Tribunal found that the AO relied solely on investigation reports and trustee statements to disallow donor's claim, without establishing that the donor had actually received money back or actively participated in the bogus scheme. Given the statutory protection (Explanation to s.35AC(2)) and absence of direct evidence proving donor's complicity (cash back, commission arrangements involving the donor), the Tribunal held that reliance on untested third-party statements was insufficient to disallow the deduction. Ratio vs. Obiter: Ratio - adverse investigative statements about the donee, if untested and not corroborated to show donor's involvement in a sham, cannot sustain disallowance of donor's s.35AC claim. Obiter - observations on procedural fairness and the value of cross-examination in tax fact-finding are illustrative. Conclusion: The AO's reliance on trustee statements and investigation reports without establishing donor's receipt of funds back or giving the donor an opportunity to confront the trustees did not justify disallowance; the Tribunal deleted the additions. Issue 3 - Effect of precedents (coordinate benches and Supreme Court) on donor's entitlement where donee is found to be sham Legal framework: Judicial decisions interpreting s.35AC, including findings where donees were held to be conduits for accommodation entries, bear on the assessment of factual sufficiency to deny donors' deductions. Supreme Court authority affirming cancellation of registration of a trust as a sham strengthens the evidentiary weight of investigative findings where donors are directly implicated. Precedent treatment: Coordinate-bench rulings have upheld disallowances where evidence incontrovertibly established that donations were routed back to donors in cash and that donors were part of the scam. The Supreme Court decision cited confirmed the donee's registration cancellation where the donee itself was shown to have acted as a sham. Interpretation and reasoning: The Tribunal recognised those authorities but emphasized the distinction between (a) taxing the donee on withdrawal of approval under s.35AC(6) and (b) denying a donor's deduction. Where prior decisions found donors to be active participants with direct evidence (confessions, traced cash withdrawals, lack of any charitable activity), denial of donor deduction is justified. In the present case, however, the Tribunal concluded that such direct evidence linking donor's conduct to the sham (i.e., that donor received cash back) was absent; reliance on the donee's dubious conduct and subsequent withdrawal of approval alone could not override the statutory Explanation protecting donors. Ratio vs. Obiter: Ratio - coordinate precedents apply where facts demonstrate donor's complicity; they do not automatically apply where only the donee is shown to be improper and donor's independent culpability is not established. Obiter - comparative assessments of the precedents' facts vis-à-vis the present record. Conclusion: Precedents affirming denial of deduction in clear cases of accommodation entries were distinguished on facts; absent direct proof of donor's receipt of funds back or participation in the scam, the Tribunal followed the statutory scheme and protective Explanation and allowed the appeals.