100% Disallowance for bogus purchases can’t be made when sales are not doubted- ITAT

Introduction

Bogus basically means something which is counterfeit or fake, something which is not genuine. Bogus Purchase are entries made in books of accounts for purchases made, when in fact, no purchases are actually been made. The aim of the tax payer is to reduce taxable income by inflating expenses on account of purchases.

In the case of Shri Pravin C. Bokadia Vs ITO (ITAT Mumbai), assessee was aggrieved by the addition of account of bogus purchase. The assessee was further agitated that the CIT(A) had enhanced the disallowance on account of bogus purchases to 100% as against 12.5% disallowance done by the Assessing Officer (AO). Let us refer to the facts of the case to understand the same in detail.

Facts of the Case:-

1. Assessee is engaged in the business of trading in steel. The Assessment in this case was reopened upon receipt of information from the sales tax Department that the assessee had made bogus purchases.
2. The assessee submitted the purchase vouchers and the payments were made through the banking channel.
3. However, the suppliers were not produced before the Assessing Officer (AO). Sales in this case were not doubted.
4. The AO made the disallowance at the rate of 12.5% of the bogus purchases. The AO did not make any enquiry of his own with the alleged bogus suppliers.

Appeal to Commissioner of Income Tax (Appeals) [CIT(A)]

1. Aggrieved with the order of the AO, the assessee appealed before the CIT(A). Upon assessee’s appeal the CIT(A) enhanced the addition to 100%.
2. For this proposition decision of jurisdictional High Court in the case of Shoreline Hotel Pvt. Ltd was referred to.
3. CIT(A) noted that the said decision was rendered in the context of an order under section 263 of the Income Tax Act.
4. The CIT(A) further observed that the disallowance of purchase is based purely on satisfaction of the conditions of section 37.
5. It was further observed that during the course of appellate proceedings the assessee was asked to furnish stock register and item to item tally of purchases and sales. Assessee submitted that no stock register was maintained and that purchase to sale cannot be tallied item wise.

The case of Shoreline Hotel Pvt. Ltd which was referred by CIT(A):

1. The assessee was in hotel business and running hotel in the name of Hotel Marine Plaza.
2. The AO found that assessee has made purchases from black listed parties and obtained accommodation bill. Such parties were entry provider as identified by the Sales Tax Department of Maharashtra.
3. Genuineness of the various expenditure so incurred or purchases so made whose suppliers were not traceable, were also not inquired by the AO.
4. Thus, it was found by the ITAT that AO had not made any inquiry with regard to the expenses claimed in respect of accommodation bill obtained by assessee which reduced profit of assessee by 100% instead of 15% considered by AO.
5. In the absence of making any inquiry as well as applying wrong proposition of treating the assessee as dealer and applying the GP rate on such accommodation bill which is actually in the nature of expenses, the CIT (A) was justified in setting aside the order and restoring the matter back to the file of the AO for deciding afresh

Appeal to Income Tax Appellate Tribunal (ITAT) in the present case

Contention of Both the Parties

1. Aggrieved with the order of the AO, the assessee appealed before the ITAT.
2. The assessee prayed that the decision of jurisdictional High Court in the case of M Haji Adam & Co. dt. 11/2/2019 should be followed.
3. However, departmental representative relied upon the orders of the CIT(A). He sought to distinguish the decision of jurisdictional High Court in the case of M. Haji Adam & Co. (supra) from the facts of the present case.

The case of M Haji Adam & Co. dt. 11/2/2019:

1. The assessee was a trader of fabrics. The AO found 3 entities who were indulging in bogus billing activities. AO found that the purchases made by the assessee from these entities were bogus.
2. The question was whether the Revenue was correct in contending that the entire purchase amount should be added by way of assessee’s additional income or the assessee is correct in contending that such logic cannot be applied.
3. The finding of the CIT(A) and the Tribunal would suggest that the department had not disputed the assessee’s sales. There was no discrepancy between the purchases shown by the assessee and the sales declared.
4. The Tribunal was correct in coming to the conclusion that the purchases cannot be rejected without disturbing the sales in case of a trader.
5. The Tribunal correctly restricted the additions limited to the extent of bringing the gross profit rate on purchases at the same rate of other genuine purchases.

Observations of the ITAT in the present case

1.ITAT found that the addition in this case has been solely made by the AO on the reasoning that upon enquiry by the sales tax Department it was found that assessee was a beneficiary of bogus purchases from the parties mentioned.

2. AO had not issued any notice to these parties. AO noted that assessee had furnished the Ledger accounts and the purchase invoices.

3. He also noted that the assessee had furnished stock statement wherein the purchases were duly entered. The sales of the assessee were also not doubted.

4. In these circumstances the AO concluded that assessee has made the purchases through grey market and hence he made a disallowance of 12.5%.

5. CIT(A) enhanced the addition to 100%. In doing CIT(A) referred to the jurisdictional High Court decision in the case of Shoreline Hotels Pvt. Ltd.(supra).

6. It is a settled law that a case law cannot be considered in isolation of the context thereof. The decision of Shorteline Hotels Pvt. Ltd. (supra) considered by the Bombay High Court was in context of the order passed by learned CIT(A) under section 263 of the income tax act, wherein the ITAT had upheld the order of the learned CIT, invoking his jurisdiction u/s. 263.

7. The issue was the expenditure incurred in the maintenance by a hotel. In contrast the present case is a case where the assessee is a dealer in steel and disallowance has been done by the AO on a finding that the assessee has made purchases through grey market.

8. In the opinion of ITAT, by no stretch of imagination it can be said that there is any similarity in the facts upon which the jurisdictional High Court has rendered the above said decision and the facts of the present case.

9. CIT(A) observed that the assessee was asked to furnish stock register and item to item tally of purchase and sales. But assessee submitted that no stock register was maintained and the purchases to sales cannot be tallied item-wise.

10. ITAT found that this observation of the CIT was in direct contrast with the finding of the AO. AO has found that assessee had duly maintained the stock statement and the purchases were duly mentioned therein.

11. However, when the CIT(A) was giving a finding, the assessee had not been able to tally the sales to the purchases.

12. As per the CIT(A), the purchases were 100% bogus, then the natural corollary was that the CIT(A) should have rejected the sales as well.

13. Since the CIT(A) had not done so, the observations of the CIT(A) do not support the case for 100% disallowance.

14. Moreover, neither the AO nor the CIT(A) had rejected the books of account.

15. It is settled law from Bombay High Court in the case of Nikunj Eximp enterprises (in writ petition no 2860, order dt 18.6.2014) that when sales are not doubted, disallowance for bogus purchases is not sustainable. Though the above decision in context of an assessee executing works for government department.

16. In the present case ITAT found that the ratio of the decision of Jurisdictional High Court in the case of M. Haji Adam & Co. (supra) is duly applicable.

17. In the said case jurisdictional High Court had expounded that in case of trading concerns the addition on account of bogus purchases should be limited to the difference between the gross profits that is shown by the assessee on normal purchase as against the gross profit shown on bogus purchases.

18. Accordingly, ITAT remitted the issue to the file of the AO to make the disallowance in accordance with the ratio of the decision of Bombay High Court in the case of M. Haji Adam & Co. (supra) (to be limited to the difference between the gross profits that is shown by the assessee on normal purchase as against the gross profit shown on bogus purchases). Thus the appeal by the assessee was partly allowed.

Conclusion

This means that if an assessee has any bogus purchases during the year, the amount to be disallowed will be the difference of gross profit between bogus purchases and legitimate purchases and not the entire amount of bogus purchases.

Amount to be disallowed = Gross profit on legitimate purchases – Gross Profit on Bogus Purchases

However, this will only be the case when the amount of sales done from these bogus purchases is accepted and included in the income of the assessee by the AO.

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