S. 145(3): Entire law explained explained on whether if the AO rejects the books of account, he can rely on the entries in the books to make disallowances u/s 40A(3) and s. 68 and also make additions for "peak credit". All judgements on the point considered

9. Learned Counsel for the Assessee submitted that assessee explained before A.O. that transaction of sale of unbranded Aatta purchased from M/s. Hanuman Traders were made outside the books of account and offered the amount for taxation by applying the profit rate of 8% on unrecorded sales.

The A.O. also noted in the assessment order that purchase of unbranded Aatta from M/s. Hanuman Traders and corresponding sales have not been shown in the books of account The A.O. accordingly, rejected the books of account under section 145(3) of the I.T. Act.

He has submitted that when books of account of the assessee are not reliable and rejected, the A.O. is not justified in making the disallowance under section 40A(3) of the I.T. Act. He has further submitted that there is no evidence on record to prove assessee made any investment in unrecorded purchases or that assessee received any amount from M/s. Hanuman Traders so as to consider the addition under section 68 of the I.T. Act.

He has submitted that Ld. CIT(A) has merely recorded order sheet entry on 8th June, 2017, but has not been given any specific notice for making enhancement to the assessed income, which A.O. has not made. He has submitted that there is no basis for making both the additions against the assessee.

He has submitted that where A.O. and Ld. CIT(A) rejected the books of account of the assessee and ultimately, estimated gross profit on suppressed sales, he could not make separate addition on account of unexplained investment, undisclosed income etc., and also cannot make disallowance of expenses under section 40A(3) of the I.T. Act.

In support of his contention, he has relied upon the decisions in the case of CIT, Belgaum vs. Bahubali Neminath Muttin (2016) 72 taxman.com 139 (Karnataka) (HC), CIT, Ludhiana vs. Santosh Jain (2008) 296 ITR 324 (P & H) (HC), CIT vs. Banwari Lal Bansidhar (1998) 229 ITR 229 (All.) (HC), Indwell Construction vs. CIT (1998) 232 ITR 776 (A.P.) (HC), CIT vs. Aggarwal Engg. Co. (2008) 302 ITR 246 (P & H), CIT vs. President Industries (2002) 258 ITR 654 (Guj.), CIT vs. M/s. Hind Agro Industries, ITAT, Chandigarh Bench and ITO vs. Nardev Kumar Gupta (2013) 22 ITR (Tribu.) 273 (Jaipur).

11. We have considered the rival contentions. The Honble Gujrat High Court in the case of CIT vs. President Industries (2002) 258 ITR 654 (Guj.) held as under : “In the course of survey conducted in the premises of the assessee, excise records found, which disclosed godown sales not disclosed in the books of account of the assessee.

The Assessing Officer made the addition of the undisclosed income of the entire sale proceeds thereof.

The Commissioner (Appeals) affirmed the addition but the Appellate Tribunal found that there was no material to indicate that the assessee made investments outside the books of account to make alleged sales and held that entire sale proceeds could not have been added as undisclosed income of the assessee but the addition could be only of the profits embedded in the sales. The Tribunal having declined to state a case, the Department applied to the High Court for an order calling for a reference;

Held, dismissing the application for reference, that the amount of sales could not represent the income of the assessee who had not disclosed the sales. The sales only represented the price received by the seller of the goods; only the realisation of excess over the cost incurred could form part of the profit included in the consideration for the sales. Since, there was no finding to the effect that investment by way of incurring the cost in acquiring the goods which were sold had been made by the assessee and that that investment was also not disclosed, only the excess over the cost incurred could be treated as profit.”

12. The Honble Gujrat High Court following its earlier Judgment in the case of President Industries (supra), in the case of CIT vs. Samir Synthetics Mill (2010) 326 ITR 410 (Guj.), held as under:

“In the course of a search by the Excise Department in the premises of the assessee, it was found that the production of man-made fabrics was suppressed and only a small part thereof was shown in the excise register. The assessee could not reconcile the production, sales and the closing stock despite opportunity given by the Assessing Officer and addition in respect of unaccounted sales was made by the Assessing Officer.

The Commissioner (Appeals) found that the assessee failed to explain the suppression of production of fabrics and also held that any addition that was to be made was not in respect of the sale consideration but only in respect of the profit. The Commissioner (Appeals) reduced the addition made by the Assessing Officer.

The Tribunal concurred with the Commissioner (Appeals) as it found that there was no evidence on record to prove that the assessee had claimed all the expenses in the profit and loss account. On appeal:

Held, dismissing the appeals, that in view of the concurrent findings of fact by the Commissioner (Appeals) and the Tribunal that the reduced addition was just and equitable on account of papers found during the search, there was no merit in the appeals.”

13. The Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) held as under :

“Held affirming the decision of the Tribunal, that no disallowance could be made in view of the provisions of section 40A(3) read with rule 6DD(j) of the Income-tax Rules, 1962, as no deduction was allowed to and claimed by the assessee. When the gross profit rate was applied, that would take care of everything and there was no need for the Assessing Officer to make scrutiny of the amount incurred on the purchases made by the assessee.”

14. Considering the facts of the case in the light of the above decisions and decisions relied upon by Learned Counsel for the Assessee, we are of the view that both the additions cannot be sustained.

The A.O. during the course of assessment proceedings found that assessee has made purchases and sales outside the books of account of unbranded Aatta. The A.O. noted that name of M/s. Hanuman Traders did not exist in purchase or sale ledger.

The A.O. after recording the statement of the assessee found that assessee has confessed that he has neither shown the purchases of unbranded Aatta purchased from M/s. Hanuman Traders in the books of account nor has shown corresponding sales in his books of account. The profit earned out of these transactions, has not been accounted by the assessee in the books of account.

The assessee offered the amount for taxation i.e., profit out of these transactions @ 8% in a sum of Rs.60,41,212/-. The A.O. accordingly, rejected the books of account of the assessee under section 145(3) of the I.T. Act and after recasting the Trading & P & L A/c, made the addition of Rs.4.14 crores on account of additional profit.

The Ld. CIT(A), correctly noted that entire sales could not be profit of the assessee and that re-casting of the Trading & P & L A/c by the A.O. is not proper as per law. The Ld. CIT(A) has taken the purchases and sales in the appellate order and the difference of the same was taken as undisclosed profit of the assessee in a sum of Rs.62,91,150/- which is almost same as offered by assessee @ 8% of undisclosed turnover.

The assessee did not challenge the rejection of the books of account under section 145(3) and the addition made by Ld. CIT(A) above to the profit of the assessee.

There is no challenge to these findings of the Ld. CIT(A) by the Department in the Departmental appeal because filing of Departmental Appeal not reported by Ld. CIT- D.R. Learned Counsel for the Assessee relied upon several decisions of different High Courts in which it was held that “when A.O. rejected the books of account of the assessee and applied gross profit rate on suppressed sales, A.O. cannot make separate addition on account of unexplained investment, undisclosed income and even the provisions of Section 40A(3) could not be invoked.”

14.1. One of the decision of Hon’ble Allahabad High Court in the case of CIT vs. Banwari Lal Banshidhar (1998) 229 ITR 229 (Alld.) (HC) as reproduced above along with Judgments of Hon’ble Gujrat High Court in the case of President Industries and CIT vs. Samir Synthetics Mill (supra), the authorities below have also not found any material to indicate that assessee made investments outside the books of account to make the sales.

The entire sales could not represent income of the assessee, on which, Ld. CIT(A), has already given a finding to add the profit only on such unrecorded sales.

When books of account of the assessee are not reliable and rejected by the authorities below under section 145(3) of the I.T. Act and there is no challenge to these findings of the authorities below, there is no reason for the authorities below to rely upon the same books of account for the purpose of making addition under section 40A(3) of the I.T. Act as well as to make addition of peak under section 68 of the I.T. Act.

The A.O. noted in his findings that M/s. Hanuman Traders did not exist in purchase and sale ledger and existence of the same have not been proved. The Inspector also gave report to the same effect that M/s. Hanuman Traders do not exist at the given address. These facts clearly show that whatever entries are relied upon by the authorities below from the books of account, are contrary to the findings of the authorities below because non-existent party would not come to pay any amount to the assessee.

Therefore, there is no question of considering the unrecorded amount recorded in the books of account of the assessee, so as to make the addition under section 68 of the I.T. Act. The A.O. did not make addition under section 68 of the I.T. Act separately because the addition is already made under section 40A(3) of the I.T. Act.

The Ld. CIT(A) did not give any specific notice to assessee for enhancement of income under section 68 of the I.T. Act because he has merely recorded entry of 8th June, 2017 without confronting the facts for making addition of peak credit. The Ld. CIT(A) forgot to consider that if he wanted to make addition on account of peak credit on account of M/s. Hanuman Traders, whether theory of peak credit would apply in the case of the assessee?

For considering the issue of peak credit, the authorities below have to laid-out the foundation that it was unaccounted money of the assessee having both debit and credit which assessee did not agree.

It could not be taken into consideration for making such addition under section 68 of the I.T. Act in the hands of the assessee for making any alleged transaction with M/s. Hanuman Traders, which, according to the authorities below, did not exist and that no such entries appear in the books of account of the assessee.

Even if, some entries appeared in the books of account of the assessee regarding M/s. Hanuman Traders, according to the findings of the authorities below, such books of account of the assessee are not reliable.

Therefore, the authorities below cannot rely upon the same entries in books of account for the purpose of making the addition of the nature of peak against the assessee.

Thus, there is no justification for the authorities below to make addition of Rs.6,92,25,000/- under section 40A(3) of the I.T. Act and addition of Rs.7,12,15,150/- under section 68 of the I.T. Act. In view of the above discussion, we set aside the orders of the authorities below and delete both these additions.