2025 (12) TMI 302 - HC - Income Tax

Powers under s.131 upheld; ss.68, 56(2)(viib) additions deleted; directions on ss.40A(2), 36(1)(iii), 36(1)(va) refined on existing record

The Principal Commissioner of Income Tax, Central 1, Chennai Versus Lalitha Jewellery Mart P Ltd.

HC held that authorities under s.131 possess powers akin to a civil court, including administering oath, and rejected ITAT's view that statements under ... Addition made u/s 68 ​- assessments made which were part of the block assessment made based on search and seizure operation conducted under Section 132 of the Act in the business premises of the assessee - ITAT proceeded to record the finding against the revenue and in favour of the assessee accepting the assessee's submission that the statement recorded under Section 131 of the Act is not an admissible piece of evidence under the Act - Whether authorities are not empowered to administrate the oath of the deponent u/s. 131? - HELD THAT:- ​​​​​​ITAT has recorded a finding that, as the authorities are not empowered to administer oath to the deponent, the statement recorded under Section 131 of the Act has no evidentiary value and, consequently, the so-called statement said to have been recorded from Mahendra Kumar Sethia requires to be excluded from consideration and once that is excluded, there is no material available on record for making any addition either under Section 68 of the Act or Section 56(2)(viib) of the Act. Accordingly, the addition made by the Assessing Officer has been found to be unsustainable. ITAT arrived at the conclusion that the statement recorded under Section 131 of the Act is not at all admissible, as the authorities mentioned therein are vested with power regarding discovery, production of evidence, etc., but do have the power to examine a person on oath. The said finding, in our considered opinion, is directly against the specific provision contained in Section 131(1). The authorities mentioned therein are having the same powers as are vested in a court under the Code of Civil Procedure, 1908, which ostensibly includes enforcing the attendance of any person, including any officer of a banking company and examining him on oath. Irrespective of the evidentiary value to be attached to such a statement recorded under Section 131 of the Act, in the attending facts and circumstances of the given case, it cannot be accepted as a proposition of law that the statement recorded under Section 131 of the Act is not admissible for the reason that the authority is not empowered to administer oath and, therefore, has no evidentiary value. Additions u/s 68 - unexplained share capital/share premium based primarily on the statement of a third party - In cases where the assessee is a company (not being a company in which the public are substantially interested) and the sum so credited consists of share application money, share capital, share premium or any such amount by whatever name called, any explanation offered by such assessee shall be deemed to be not satisfactory if the two conditions incorporated in Clauses (a) and (b) therein are satisfied. The effect of insertion of the new proviso, referred supra, appears to be intended to only avoid any confusion that mere explanation about the nature and source of sum so credited may not be claimed to be accepted as such, without any scrutiny of the nature and source of the transaction and nothing more. This power was available with the AO even before the insertion of the proviso as aforesaid. The use of the words “any sum is found credited in the books” in Section 68 of the Act, on its plain reading, clearly indicates that the provision is not restricted, but is very widely worded. It does not restrict the authority of the Assessing Officer from making any enquiry as regards the true nature and source. It cannot be said that merely because a sum is credited as receipt of share application money, or that the payment was received through credible transaction, or that the applicants are otherwise companies, by itself, would bring the enquiry to an end. Thus, the proviso inserted wide the Finance Act, 2012, on its true construction, only seeks to clarify the legal position with regard to the scope and ambit of power of enquiry under Section 68 of the Act, lest it is understood as limited in nature. In taking this view, we find support from a decision of the Calcutta High Court in Pragati Financial Management (P) Ltd. [2017 (3) TMI 1242 - CALCUTTA HIGH COURT] If that be the legal position, it cannot be said that the decision of Lovely Exports P. Ltd. [2008 (1) TMI 575 - SC ORDER] and the decision of this court in the case of the assessee, in identical circumstances pertaining to assessment year 2007-2008, and the principles enunciated therein cease to be applicable. The principles underlying Section 68 of the Act continue to remain the same. Ergo, we are unable to hold that the ITAT committed any illegality in applying those principles which were enunciated by the Supreme Court in the case of CIT v. Lovely Exports P. Ltd (supra) and followed in the case of the assessee in relation to the assessment year 2007-2008. Decided in favour of the assessee. Whether the ITAT acted perversely in deleting the addition without having regard to the evidence on record, we find that the ITAT has recorded its finding after scrutiny of the evidence of Mahendra Kumar Sethia and it is not a case where the entire evidence of the said person was omitted from consideration. Present is a case of re-appreciation of evidence by the ITAT and taking into consideration that the addition made was based on the statement of Mahendra Kumar Sethia, the approach of the ITAT cannot be said to be perverse. The revenue could not point out as to which concrete clinching evidence of incriminating nature was omitted from consideration by the ITAT while deleting the addition made under Section 68 of the Act. In our view, once the evidence of Mahendra Kumar Sethia is reappreciated by the ITAT, which power it does have under the law, merely because it had taken another view, without anything more, it cannot be held to be perverse in law. Addition under Section 56(2)(viib) - Where the valuation is based on value, on the date of issue of shares, of its assets, which include the intangible assets like goodwill, know-how, patents, copyrights, trademarks, licences, franchises, etc., such valuation requires application of mind. If the Assessing Officer finds any specific point for rejecting or recording dissatisfaction qua the valuation made by the assessee, recourse may be had to the procedure prescribed under Rule 11UA of the Rules. However, in the case on hand, the ITAT noted that the Assessing Officer had not found any specific fault in rejecting or not satisfying with the valuation made by the assessee. If that be so, the view taken by the ITAT that valuation made under Rule 11UA of the Rules by the Assessing Officer cannot be upheld, in our considered opinion, does not suffer from any legal infirmity, much less any error of fact. Ergo, the addition under Section 56(2)(viib) of the Act is found not justified - Decided against the revenue. Disallowance made on lease rent paid by the assessee company to its Director - ITAT, noting that the aforesaid relevant aspects were not considered by the Assessing Officer, thought it just, fair and appropriate that the issue should be reconsidered with reference to the relevant aspects and remanded the issue for an exercise de novo by the Assessing Officer, while setting aside the orders of the Assessing Officer and the CIT(A). The decision taken to remand for consideration afresh does not prejudice the revenue. We are not at all satisfied with the submission of learned counsel for the revenue that it involves any question of law as such. Since the amount paid towards rent was to the Director of the assessee company, in view of the provisions contained in Section 40A(2)(a) read with Section 40A(2)(b) of the Act, unless a categoric finding is recorded, taking into consideration all relevant aspects, that the expenditure is excessive or unreasonable, disallowance should not be made. Claim of deduction under Section 36(1)(iii) - ITAT has held that if the employees' and employer's contributions were paid to the respective account within the due date provided for filing the return of income it has to be allowed. However, having so held, the ITAT has not recorded any finding as to how delayed payment of employees' contribution could be claimed. No reasons have been recorded by the ITAT on this account as to how it has remanded to the Assessing Officer for re-examination with regard to the actual date of payment made by the assessee to the government account, Accordingly, this substantial question of law is decided in favour of the revenue and against the assessee. The order of the ITAT in so far as it remands the issue regarding disallowances under Sections 36(1)(iii) and 36(1)(va) of the Act is set aside. The ITAT is directed to re-examine the entire issue based on material available on record the applicable provisions of law. 1. ISSUES PRESENTED AND CONSIDERED 1.1 Whether a statement recorded under Section 131 of the Income-tax Act has evidentiary value, and whether the Tribunal erred in holding that authorities under Section 131 lack power to examine a person on oath. 1.2 Whether, in making additions under Section 68 towards unexplained share capital/share premium based primarily on the statement of a third party, the Tribunal's deletion of such additions was perverse in law, and whether reliance on an earlier decision in the assessee's own case (pre-proviso Section 68) remained applicable after insertion of the 2012 provisos. 1.3 Whether additions under Section 56(2)(viib) were legally sustainable where the Assessing Officer rejected the assessee's share valuation without recording specific dissatisfaction or following the prescribed valuation framework under Rule 11U/11UA. 1.4 Whether any substantial question of law arose from the Tribunal's remand of the disallowance of lease rent paid to the assessee's director under Section 40A(2)(a) and (b). 1.5 Whether the Tribunal was justified in remanding the issues of (i) disallowance of interest under Section 36(1)(iii) in respect of a large lease advance to the managing director, and (ii) disallowance under Section 36(1)(va) for delayed deposit of employees' contributions, without proper examination of the statutory tests and factual material. 2. ISSUE-WISE DETAILED ANALYSIS Issue 1: Evidentiary value of statement under Section 131 Legal framework 2.1 Section 131(1) confers on specified income-tax authorities the same powers as a civil court under the Code of Civil Procedure, 1908, including 'enforcing the attendance of any person... and examining him on oath'. Interpretation and reasoning 2.2 The Tribunal had held that statements recorded under Section 131 have no evidentiary value because the authorities are not empowered to administer an oath. 2.3 The Court held this to be directly contrary to the express language of Section 131(1)(b), which clearly authorises examination on oath. Thus, as a matter of law, it is incorrect to say that a statement under Section 131 is inadmissible or without evidentiary value merely because the authority records it. 2.4 However, the Court observed that the Tribunal, despite this erroneous legal proposition, proceeded to reassess the statement of the deponent (Mahendra Kumar Sethia) on merits. Therefore, the ultimate outcome would depend on whether the Tribunal's appreciation of that evidence was perverse, rather than on the abstract admissibility point. Conclusions 2.5 The Tribunal's view that authorities under Section 131 cannot examine on oath, and that such statements have no evidentiary value, is legally unsustainable. The question was answered in favour of the Revenue, though the error did not by itself vitiate the Tribunal's ultimate factual conclusions. Issue 2: Deletion of additions under Section 68 and applicability of earlier precedent after 2012 provisos Legal framework 2.6 Section 68 permits addition of any sum found credited in the books where the assessee's explanation about its nature and source is not satisfactory. 2.7 The provisos inserted by Finance Act, 2012 (for closely held companies) deem the explanation regarding share capital/premium to be unsatisfactory unless the resident investor also explains the nature and source of the sum, and such explanation is found satisfactory by the Assessing Officer. 2.8 The Court referred to: * The Supreme Court decision in CIT v. Lovely Exports P. Ltd., which allows the Department to proceed against individual investors if share applicants are identified, rather than automatically treating the share capital as unexplained income of the company. * Its own earlier decision in the assessee's case for AY 2007-08, where additions under Section 68 on similar facts were deleted on the principles that: (i) suspicion is no substitute for proof; (ii) payments through banking channels, identity of investors and allotment of shares, if established, generally preserve the character of capital receipts; and (iii) the assessee is not required to prove the investors' commercial wisdom or complete financial history. * The Supreme Court in PCIT v. NRA Iron & Steel (P) Ltd., which reaffirmed that the assessee must prove identity, genuineness and creditworthiness, and that the AO must properly investigate these aspects. 2.9 The Court also considered the Calcutta High Court decision in Pragati Financial Management (P) Ltd. on the nature of the 2012 provisos as clarificatory of the AO's already-wide enquiry powers under Section 68. Interpretation and reasoning 2.10 The additions under Section 68 for the relevant years were primarily based on: * Statements of a third party, Mahendra Kumar Sethia, recorded under Sections 132(4) and 131; and * A past pattern of similar additions in AY 2007-08, with reliance on the ITAT's adverse findings in that year. 2.11 The Tribunal reassessed Sethia's statements, noting they were vague and lacked any categorical assertion that the assessee paid cash to the alleged entry provider or that the amounts invested as share premium were actually the assessee's unaccounted income routed back. 2.12 The Court reviewed the Tribunal's extracted findings and confirmed that: * Sethia's answers merely stated it was 'possible' that cash was received by some group entity and that original amounts 'would be' cash receipts by one of the layers, without any concrete assertion about the assessee; and * There was no corroborative material on record showing that the assessee had paid cash to Kothari Credit India Pvt. Ltd. or to Sethia for being routed back as share capital/premium. 2.13 The Court found that the Assessing Officer, while stressing the suspicious nature of the transactions and relying on the 2007-08 ITAT order, did not produce any clinching evidence establishing that the funds originated from the assessee, as opposed to the investors. 2.14 As regards the effect of the 2012 provisos to Section 68, the Court held: * The provisos merely clarify that the AO's enquiry can and should extend to the investor's nature and source; they do not alter the basic principles of Section 68, nor do they displace the ratio of Lovely Exports or the earlier High Court decision in the assessee's own case. * The wide wording of Section 68 ('any sum... found credited') always permitted deeper enquiry; the provisos serve only to remove doubts that mere explanation by the assessee, without scrutiny of the investor, suffices. 2.15 The Court held that the core principles on which the earlier decision in the assessee's case for AY 2007-08 was decided-dealing with similar facts and type of additions-continue to apply even post-2012, as reaffirmed by the Supreme Court jurisprudence including NRA Iron & Steel. 2.16 The Court, therefore, rejected the Revenue's contention that insertion of the 2012 provisos rendered the prior decision inapplicable. 2.17 On the allegation of perversity, the Court found that the Tribunal had duly reappreciated the material, particularly Sethia's statement, and arrived at a plausible factual conclusion that it was too vague and uncorroborated to sustain additions under Section 68. No concrete incriminating material overlooked by the Tribunal was pointed out by the Revenue. Conclusions 2.18 The Tribunal was entitled to rely on the earlier High Court decision in the assessee's own case and the principles of Lovely Exports and NRA Iron & Steel; the 2012 provisos to Section 68 did not alter those foundational principles. 2.19 The Tribunal's deletion of additions under Section 68, based on its assessment that Sethia's statement was vague, uncorroborated and insufficient to prove that the share capital/premium represented the assessee's own unaccounted funds, was not perverse. 2.20 The third and fourth substantial questions of law were answered in favour of the assessee and against the Revenue. Issue 3: Validity of additions under Section 56(2)(viib) and AO's satisfaction on valuation Legal framework 2.21 Section 56(2)(viib) taxes as 'income from other sources' the excess of consideration received for issue of shares (by a closely held company) over the 'fair market value' (FMV) of such shares. 2.22 Explanation (a) to Section 56(2)(viib) provides two alternatives for determining FMV: * As per prescribed method; or * As substantiated by the company to the satisfaction of the Assessing Officer based on the value of its assets, including specified intangible assets, on the date of issue, whichever is higher. 2.23 Rules 11U and 11UA of the Income-tax Rules prescribe: * Definitions and parameters, including 'balance sheet', 'valuation date' etc.; and * Formulae/methods for valuation of unquoted equity shares and other unquoted securities, including asset-based and DCF-type methods, with options provided to the assessee in certain circumstances. Interpretation and reasoning 2.24 The Tribunal held that where the Assessing Officer is not satisfied with the valuation adopted by the assessee, such dissatisfaction must be: * Based on objective reasons consistent with recognised valuation methods; and * Supported by due application of mind to the Explanation to Section 56(2)(viib) and the detailed valuation machinery in Rules 11U/11UA. 2.25 The Tribunal characterised the 'satisfaction' under the Explanation as 'judicial satisfaction', meaning that the AO's conclusion cannot be arbitrary or mechanical, but must rest on established valuation principles and statutory methodology. 2.26 The Court, after reproducing Section 56(2)(viib) and the relevant portions of Rules 11U and 11UA, endorsed this approach, holding that: * Where valuation is based on the value of assets including intangibles, the AO must apply his mind to the methodology and parameters used. * If the AO wishes to reject or doubt the assessee's valuation, he must identify specific defects or reasons and then follow the prescribed methodology under Rule 11UA to determine FMV. 2.27 In the present case, the Tribunal had found, as a matter of fact, that: * The AO did not point out any specific error, inconsistency or defect in the assessee's valuation; and * The AO applied Rule 11UA mechanically without first recording any concrete dissatisfaction or engaging with the assessee's method. 2.28 Accepting these factual findings, the Court held that the AO's determination of FMV under Rule 11UA could not stand when not preceded by a reasoned and specific dissatisfaction regarding the assessee's valuation. Conclusions 2.29 The addition under Section 56(2)(viib) was not legally justified, as the AO had failed to record a specific, reasoned dissatisfaction with the assessee's valuation or properly apply the statutory valuation framework. 2.30 The Tribunal's view that the AO's valuation could not be upheld in such circumstances did not suffer from legal infirmity. The second substantial question of law was answered in favour of the assessee. Issue 4: Remand of disallowance of lease rent to director under Section 40A(2) Legal framework 2.31 Section 40A(2)(a) and (b) empower disallowance where expenditure is incurred in respect of a specified person (including a director) and is, in the opinion of the AO, excessive or unreasonable having regard to the fair market value of the goods/services, legitimate needs of the business, or benefit derived. Interpretation and reasoning 2.32 The assessee paid lease rent for premises at a prime commercial location to its managing director. The Tribunal noted: * The location and area (4023 sq.ft) were not in dispute. * The AO had disallowed the lease rent as excessive without undertaking a proper exercise to determine fair rent in light of relevant factors. * Determination of fair rent required consideration of the property's location, amenities, prevailing market conditions, and the method of estimation reflected under the Tamil Nadu Buildings (Lease and Rent Control) Act, 1960 and the City Municipal Corporation Act. 2.33 Observing that these relevant considerations had not been properly examined, the Tribunal set aside the disallowance and remanded the matter for de novo examination by the AO. 2.34 The Court held that: * The remand order did not prejudice the Revenue; it merely directed a fuller factual inquiry before sustaining any disallowance. * Under Section 40A(2), disallowance against payments to a director requires a categorical finding, after considering all relevant aspects, that the expenditure is excessive or unreasonable. 2.35 The Court therefore found that the Tribunal's remand was a factual direction and did not give rise to any substantial question of law. Conclusions 2.36 No substantial question of law arose from the Tribunal's decision to remand the lease rent disallowance issue; the direction for fresh examination under Section 40A(2) was upheld. Issue 5: Remand on disallowances under Sections 36(1)(iii) and 36(1)(va) (A) Disallowance of interest under Section 36(1)(iii) linked to lease advance Legal framework 2.37 Section 36(1)(iii) allows deduction of interest paid in respect of capital borrowed for the purposes of the business or profession in computing income under Section 28. Interpretation and reasoning 2.38 The assessee had paid a substantial lease advance (Rs. 15 crores) to its managing director for premises at another address, and claimed deduction of interest on borrowed funds under Section 36(1)(iii). 2.39 The Revenue's case was that the amount was a diversion of borrowed funds to the director in the guise of lease advance; hence, the related interest should be disallowed as not for business purposes. 2.40 The Tribunal remanded the matter, focusing primarily on whether the amount of lease advance was properly determined under the Tamil Nadu Buildings (Lease and Rent Control) Act, 1960, in particular the permissible level of 'rental premium' (three months' rent). 2.41 The Court held that this approach was legally incomplete: * The central test under Section 36(1)(iii) is whether the capital was borrowed and used for the purposes of the business or profession. * If the property was genuinely taken on lease for business needs, the interest on borrowed capital used for that purpose would ordinarily qualify for deduction, subject to findings on actual use and non-diversion. 2.42 The Court found that the Tribunal failed to address the key legal question of business purpose and application of borrowed funds, instead diverting entirely to the quantum/computation of the lease premium. Consequently, the remand direction on this issue could not be sustained as framed. (B) Disallowance under Section 36(1)(va) for delayed employees' contributions Legal framework 2.43 Section 36(1)(va) allows deduction of employees' contributions to specified funds if credited by the employer to the employee's account in the relevant fund on or before the 'due date' as defined. Interpretation and reasoning 2.44 The Tribunal recorded that there was admittedly a delay in deposit of employees' contributions, but nonetheless set aside the disallowance and remanded the matter, relying on a prior judgment of the same Court (Industrial Security and Intelligence India (P) Ltd.), which had taken a view favourable to the assessee where contributions were paid before the due date for filing the return. 2.45 The Court noted that: * Despite acknowledging delay, the Tribunal did not examine the actual dates of payment vis-à-vis the statutory 'due date', nor explain how the delay could be reconciled with Section 36(1)(va). * The Tribunal remanded the matter for verification of actual dates without articulating the legal test or reasoning as to how deduction could be allowed where delay is admitted. 2.46 The Court found the Tribunal's order unsatisfactory on this aspect and held that the substantial question of law on this issue must be answered in favour of the Revenue, requiring proper reconsideration. Conclusions 2.47 On both Section 36(1)(iii) and Section 36(1)(va), the Tribunal's remand orders were set aside. The substantial questions were answered in favour of the Revenue. 2.48 The Tribunal was directed to re-examine, on the existing record and applicable law: * Whether interest under Section 36(1)(iii) is allowable, focusing on whether the capital was in fact borrowed and used for business purposes or diverted; and * The allowability of deduction under Section 36(1)(va) in light of the actual dates of payment of employees' contributions and the governing statutory 'due date'.