Income escaping assessment provisions cannot be invoked beyond reason recorded

Introduction

Section 147 of the Income Tax Act deals with provisions of “income escaping assessment”. The grounds or reasons which led to formation of the belief that income chargeable to tax has escaped assessment must have a material bearing on the question of escapement of income of the assessee from assessment because of his failure or omission to disclose fully and truly all material facts.

The expression “reason to believe” does not mean a purely subjective satisfaction on the part of the Income Tax Officer. The reason must be held in good faith. It cannot merely be a pretence. It is open to the court to examine whether the reasons for the formation of the belief have a rational connection with or a relevant bearing on the formation of the belief and are not extraneous or irrelevant.

Can income escaping assessment provisions be invoked beyond reason recorded?

 A decision highlighting the above was passed by the Bombay High Court in the case of Gateway Leaisng Pvt Ltd Vs ACIT

Facts of the Case

1. Petitioner is a company registered under the Companies Act, engaged in the business of financing and investing activities, as a non-banking financial company registered with the RBI.
2. For the assessment year 2012-13, Petitioner filed return of income. Initially, the return of income was processed under section 143(1) of the Act.
3. Petitioner’s case was selected for scrutiny pursuant to which notices under section 143(2) and section 142(1) were issued.
4. During the course of assessment proceedings, details of income, expenditure, assets and liabilities were called for and examined.
5. Following reply submitted by the Petitioner pursuant to such notices and after examination of the details filed, Assessing Officer (AO) computed the total income of the Petitioner vide the assessment order passed under section 143(3).
6. Respondent issued notice to the Petitioner under section 148 stating that he had reasons to believe that Petitioner’s income chargeable to tax for the assessment year 2012-13 had escaped assessment within the meaning of section 147 of the Act.
7. Proceeding to assess/re-assess the income for the said assessment year, Respondent called upon the Petitioner to submit return in the prescribed form for the said assessment year.
8. Petitioner sought for the reasons for issuing notice under section 148.
9. Petitioner also filed return of income under section 148 of the Act, returning the income as originally assessed by the AO under section 143(3).

Why did the respondent re-open the assessment?

1. According to Respondent, information was received from the Investigation Wing about search and seizure  action carried out in the premises of Naresh Jain.
2. The search action revealed that a syndicate of persons were acting in collusion and had managed transactions in the stock exchange, thereby generating bogus long-term capital gains, bogus short term capital gains and bogus business loss entries for various beneficiaries.
3. The search action unravelled the workings of the syndicate and brought on record the make believe nature of paper work that is manufactured in order to show the arranged transactions as legitimate market transactions.
4. Statements of various persons were recorded in the course of the search action. In his statement Naresh Jain stated that during the assessment year 2012-13, he had used scrips of seven entities to provide bogus entries which included the scrip of M/s. Scan Steels Ltd.
5. Further, information revealed that the Petitioner had traded in the shares of M/s. Scan Steels Ltd., and was in receipt of Rs. 23,98,014.
6. Therefore, Respondent stated that he had reasons to believe that this income had escaped assessment within the meaning of section 147 of the Act.
7. The main ground on which assessment was sought to be re-opened was that Petitioner had traded in the shares of Scan Steels Ltd., and was in receipt of Rs. 23,98,014, which the Petitioner failed to disclose fully and truly before the AO and which Respondent believed had escaped assessment.

Observations of the High Court pertaining to the reasons provided by the Respondents to justify reopening of the assessment

1. The Petitioner had disclosed TDS credit and claimed refund of the said amount.
2. On perusal of the tax assessment form prepared and issued by the AO alongwith the assessment order, it was noticed that Petitioner was issued a refund of the TDS alongwith interest which was reduced while determining the tax liability which thereafter stood as ‘NIL’.
3. But in the return filed, Petitioner had not reduced the amount of refund already received by him, which prima facie, resulted in excess claim of refund already granted.
4. However, this was not the ground for reopening the assessment as per the reasons furnished to the Petitioner.
5. The reasons furnished was that petitioner had traded in the shares of M/s. Scan Steels Ltd. and was in receipt of Rs. 23,98,014 which Respondent stated that he had reasons to believe had escaped assessment.
6. Thus, this contention of the Respondents is beyond the reasons furnished for reopening of the assessment.
7. Petitioner had furnished details relating to purchase and sale of shares of Mittal Securities Ltd, (now Scan Steels Ltd), but that did not amount to full and true disclosure of all material facts unless true and real facts are disclosed before the AO.
8. AO had not discussed in the assessment order about the genuineness or camouflage nature of the transactions of purchase and sale of shares of Mittal Securities Ltd. by the Petitioner.
9. From the above, it was seen that what Respondent contends is that though Petitioner had disclosed details of the transactions pertaining to purchase and sale of shares of Mittal Securities Ltd., (now Scan Steels Ltd.), Petitioner did not disclose the real colour / true character of such transactions and therefore, he did not make a full and true disclosure of all material facts which was also overlooked by the AO.

What are the provisions pertaining to Income Escaping Assessment under Income Tax Act?

1. Section 147 of the Act deals with “income escaping assessment”.
2. Section 147 says that if the AO has reason to believe that any income chargeable to tax has escaped assessment for any assessment year, he may, subject to the provisions of sections 148 to 153, assess or reassess such income and also any other income chargeable to tax which has escaped assessment and which comes to his notice subsequently in the course of the proceedings under section 147.
3. The first proviso to section 147 is important. As per this proviso, where an assessment under section 143(3) or section 147 has been made for the relevant assessment year, no action shall be taken under section 147 after the expiry of 4 years from the end of the relevant assessment year, unless any income chargeable to tax has escaped assessment for such assessment year by reason of the failure on the part of the assessee to make a return under section 139 or in response to a notice issued under section 142(1) or section 148 or to disclose fully and truly all material facts necessary for his assessment, for that assessment year.
4. Section 149 deals with time limit for notice under section 148. As per Section 149(1)(a), no notice under section 148 shall be issued for the relevant assessment year, if 4 years have elapsed from the end of the relevant assessment year unless the case falls under clause (b) or clause (c).
5. Clause (b) says that no notice shall be issued if 4 years have elapsed but not more than 6 years have elapsed from the end of the relevant assessment year unless the income chargeable to tax which has escaped assessment amounts to or is likely to amount to one lakh rupees or more for that year.
6. Clause (c) deals with a situation where limitation is extended upto 16 years but the escaped income must relate to any asset located outside India.

Applicability of provisions pertaining to Income Escaping Assessment

1. Insofar the present case is concerned, the assessment year is 2012-13.
2. In this case impugned notice under section 148 of the Act was issued on 31.03.2019.
3. Therefore, it is a case of re-opening of assessment under section 149(1)(b) after expiry of 4 years but before expiry of 6 years.
4. Of course the limitation point though pleaded in the writ petition, has been given up by the Petitioner following filing of affidavit by the Respondents which clearly shows that the re-opening notice was issued within the limitation period of six years.
5. In such a case, the 1st condition for invoking section 147 is that the AO must have reason to believe that income chargeable to tax has escaped assessment for the relevant assessment year.
6. The 2nd condition is that the AO must arrive at the satisfaction that income chargeable to tax has escaped assessment for the said assessment year by reason of the failure on the part of the assessee to make a return under section 139 or to respond to a notice under section 142(1) or section 148 or due to the failure on the part of the assessee to disclose fully and truly all material facts necessary for his assessment for that assessment year
7. The key or crucial expressions appearing in section 147 are “reason to believe” and “failure to disclose fully and truly all material facts necessary for assessment”.
8. Before dilating on these two expressions, HC referred to section 148 of the Act, which deals with issue of notice where income has escaped assessment.
9. As per sub-section (1), before making the assessment, re-assessment or recomputation under section 147, a notice in the prescribed form is required to be served upon the assessee by the AO, calling upon him to file return of income in terms of such notice within the period specified and in such event the return so filed would be construed to be a return filed under section 139.
10. As per sub-section (2) of the said section, the AO shall before issuing any notice under section 148, record his reasons for doing so.

Reference to older case law

1.In GKN Driveshafts (India) Ltd, Supreme Court held that when a notice under section 148 of the Act is issued, the proper course of action for the assessee is to file the return and if he so desires, to seek the reasons for issuing the notice.

2. If sought for, AO is bound to furnish the reasons within a reasonable time. On receipt of reasons, the noticee is entitled to file objections to the notice in which event the Assessing Officer would be under an obligation to dispose off the same by passing a speaking order.

3. Reverting back to the two expressions “reason to believe” and “failure to disclose fully and truly all material facts necessary for assessment”, High Court mentioned that these two expressions were examined and interpreted in great detail by the Supreme Court in Income Tax Officer vs. Lakhmani Mewal Das. That was also a case where notice under section 148 of the Act was put to challenge.

4. It may further be noticed that in Lakhmani Mewal Das (supra), Supreme Court was considering validity of notice under Section 148 in respect of an assessment beyond the period of four years but within a period of eight years from the end of the relevant year.

5. Supreme Court observed that in such a case, two conditions would have to be satisfied before an Income Tax Officer acquires jurisdiction to issue notice. These two conditions are:

i. He must have reason to believe that income chargeable to tax has escaped assessment; and

ii. He must have reason to believe that such income has escaped assessment by reason of the omission or failure on the part of the assessee to make a return under section 139 for the assessment year under consideration or to disclose fully and truly all material facts necessary for his assessment for that year.

6. Both the two conditions must co-exist in order to confer jurisdiction on the Income Tax Officer.

7. Supreme Court observed that duty is cast upon the assessee to make a true and full disclosure of the primary facts at the time of the original assessment.

8. Once he has done that, his duty ends. It is for the Income Tax Officer to draw the correct inference from the primary facts.

9. If the Income Tax Officer draws an inference, which appears subsequently to be erroneous, it would amount to change of opinion and mere change of opinion with regard to that inference would not justify initiation of action for re-opening assessment.

10. The grounds or reasons which led to formation of the belief that income chargeable to tax has escaped assessment must have a material bearing on the question of escapement of income of the assessee from assessment because of his failure or omission to disclose fully and truly all material facts.

11. Once there exists reasonable grounds for the Income Tax Officer to form the above belief that would be sufficient to clothe him with jurisdiction to issue notice.

12. The expression “reason to believe” does not mean a purely subjective satisfaction on the part of the Income Tax Officer. The reason must be held in good faith. It cannot be merely a pretence.

13. It is open to the court to examine whether the reasons for the formation of the belief have a rational connection with or a relevant bearing on the formation of the belief and are not extraneous or irrelevant.

14. To this limited extent, initiation of proceedings in respect of income escaping assessment is open to challenge in a court of law.

15. Supreme Court held that reasons for formation of the belief must have a rational connection with or relevant bearing on the formation of the belief.

16. Moreover, powers of the Income Tax Officer to reopen assessment, though wide are not plenary. The words of the statute are “reason to believe” and not “reason to suspect”. Reopening of assessment after the lapse of many years is a serious matter.

17. In Prashant S. Joshi -vs- ITO, Court observed that the basic theory which underlines section 147 is formation of the belief by the AO that any income chargeable to tax has escaped assessment for any assessment year.

18. In other words, the AO must have reason to believe that income chargeable to tax for a particular assessment year has escaped assessment for the relevant assessment year before he proceeds to issue notice under section 148.

19. The reasons which are recorded by the AO for re-opening an assessment are the only reasons which can be considered when the formation of the belief is impugned.

20. Recording of reasons distinguishes an objective from a subjective exercise of power and is a check against arbitrary exercise of power. The reasons which are recorded cannot be supplemented subsequently by affidavits.

21. The question as to whether there was reason to believe within the meaning of section 147 that income has escaped assessment must be determined with reference to the reasons recorded by the AO.

22. Even in a case where only intimation is issued under section 143(1), the touchstone to be applied is as to whether there was reason to believe that income had escaped assessment.

Observations of HC pertaining to the current case

1. It was evident from the materials on record that Petitioner had disclosed that he had traded in the shares of M/s. Scan Steels Ltd the above information to the AO in the course of the assessment proceedings.
2. All related details and information sought for by the AO were furnished by the petitioner. Several hearings took place in this regard where-after the AO had concluded the assessment proceedings by passing assessment order under section 143(3).
3. Thus it would appear that Petitioner had disclosed the primary facts at its disposal to the AO for the purpose of assessment.
4. He had also explained whatever queries were put by the AO with regard to the primary facts during the hearings.
5. In such circumstances, it cannot be said that Petitioner did not disclose fully and truly all material facts necessary for the assessment.
6. Consequently, Respondent could not have arrived at the satisfaction that he had reasons to believe that income chargeable to tax had escaped assessment.
7. In the absence of the same, Respondent could not have assumed jurisdiction and issued the impugned notice under section 148.
8. That apart, Respondents tried to travel beyond the disclosed reasons in their affidavit which was not permissible.
9. The same cannot be taken into consideration, while examining validity of notice under section 148.
10. As has been held in Prashant S. Joshi (supra), the reasons which are recorded by the AO for re-opening an assessment are the only reasons which can be considered when the formation of the belief is impugned; such reasons cannot be supplemented subsequently by affidavit.

Therefore, in the light of the discussions made above, HC was of the view that the attempt made by Respondent to reopen the concluded assessment is not at all justified and consequently the impugned notice cannot be sustained.

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