Reason to believe that income has escaped assessment not sufficient to reopen assessments beyond 4 years
Citation of the Case:- CIT vs. Vishishth Chay Vyapar Ltd. (Delhi High Court), Income Tax (Appeal) Nos. 1108, 1109 of 2010, Date of Judgment: 03/12/2015
Brief of the Case
Delhi High Court held In the case of CIT vs. Vishishth Chay Vyapar Ltd. that the legal requirement that “the reason to believe must be predicated on tangible material or information” and that “the belief must be rational and bear a direct nexus to the material on which such a belief is based” was not fulfilled in the present case. In this case, the only reason for forming the ‘reasons to believe’ that income had escaped assessment was the dismissal of the Assessee’s appeal by CIT (A) for AY 1997-98 in which share loss was disallowed for the first time. There was no material as such for coming to the conclusion that the assessee understated its income for earlier year i.e. AY 1995-96 by an amount of Rs.1,28,80,000. Hence reopening of assessment is not sustainable in law.
Facts of the Case
The Assessee is a non-banking finance company registered as such with RBI. Its objects are investments in shares and providing loans and advances. The Assessee’s shares are listed in Delhi Stock Exchange. For AY 1995-96, the Assessee filed a return of income on 29th November 1995 declaring an income of Rs. 6,23,880. The return was picked up for scrutiny and by an assessment order dated 10th July 1996 under Section 143(3), the AO determined the taxable income of the Assessee at Rs. 6,83,130. In the return the assessee claimed a loss of Rs. 1,28,80,000 on account of sale of shares of M/s. Purbanchal Prestressed Ltd. (PPL).
The Assessee continued filing returns for the subsequent AYs 1996-97, 1997-98 and 1998-99 in which it showed losses on the sale of shares of PPL and sought to set off those losses against its income. For AY 1997-98, the loss shown in the purchases and the sales of shares was disallowed by the AO. It was noted by the AO that Mr. R.R. Modi, a Director of the Assessee company had actually floated PPL and no business activity had actually been carried out by it. The AO concluded that the share transactions involving the Assessee and PPL were of a collusive nature. The Assessee’s appeal against the said order was dismissed by the CIT (A). Taking note of the above facts, a decision was taken to invoke Section 147 for AYs 1995-96 and 1996-97. A notice under Section 148 issued to the Assessee on 26th March 2002 for AY 1995-96 recording inter alia that the income which had escaped assessment was Rs.1,28,80,000.
Contention of the Assessee
The ld counsel of the assessee submitted that the very basis for reopening the assessment for AY 1995-96 was the order of the AO passed for AYs 1996-97 and 1997-98. As far as AY 1996-97 is concerned, the said order of reopening of the assessment has already been invalidated by concurrent orders of the CIT (A), the ITAT and recently this Court.
As far as AY 1997-98 is concerned, the basis for the additions made for that AY was the detailed enquiry undertaken by the AO by making a reference to the Additional Director of Investigation (‘ADIT’) to enquire and report on the financial position of one Mr. Nemi Chand Jain who purportedly acted on the instructions of Mr. R.R. Modi as stated by him during the course of search and seizure operation conducted in his case. Therefore, the basis of the additions for AY 1997-98 was different from what was proposed for AY 1995-96. Mr. Vohra submitted that a perusal of the reasons recorded show that the AO had proceeded on surmises that for AY 1995-96 there was a failure on the part of the Assessee to disclose fully and truly all the material facts. He referred to a plethora of judgments and submitted that where reopening is sought to be done beyond the period of four years after the end of the relevant AY, the recording of the reason that the Assessee failed to fully and truly disclose all the material facts, was a jurisdictional one.
Contention of the Revenue
The ld counsel of the revenue submitted that the crucial fact that Mr. R.R. Modi, the Director of the Assessee, also controls PPL, whose shares he had purchased and sold, was not disclosed during the assessment proceedings for this year i.e. AY 1995-96 and that this was a material fact which came to light only during the assessment proceedings for AY 1997-98. He pointed out that the entire assessment record for the two AYs 1995-6 and 1997-98 were before the AO when the reasons for reopening the assessment were recorded. For both the said AYs, 1995-96 and 1997-98, the losses claimed by the Assessee on account of the valuation of the shares of PPL calculated on the closing stock, was disallowed by the AO and the said order of the AO had been affirmed by the CIT (A). This was the reason for the AO affirming the reason to believe that even for AY 1995-96 the losses had been wrongly claimed and, therefore, income had escaped assessment.
He also submitted that the Assessee failed to raise any objections to the reasons recorded by the AO either before the AO or before the CIT (A) in the first round of the appeal before the CIT (A). He accordingly submitted that there was a failure by the Assessee to disclose the material facts and that the reopening of the assessment was, therefore, justified.
Held by CIT (A)
On remand, the CIT (A) held, by the order dated 3rd August 2007, that the reopening of the assessment was illegal and without jurisdiction. Inter alia it was held that in the reasons recorded for reopening the assessment there was no allegation that “there was any omission or failure on the part of the assessee to disclose fully and truly all facts.” In the absence of the recording of the above reason, the reopening which was initiated after a period of four years after the end of the relevant AY could not be sustained. Nevertheless, the CIT (A) also commented on the merits of the reopening which concerned the valuation of the closing stock of the shares of PPL. It was noted that the rate at which the shares of PPL was valued was based on the quoted rate of the said shares at the Gauhati Stock Exchange. The principle applied for valuation of closing stock, i.e., at cost or market rate whichever is lower, was an accepted system.
Held by ITAT
The Revenue then went in appeal before the ITAT by filing ITA No. 4403/Del/2007 relevant to AY 1995-96 in which the impugned order dated 30th June 2009 was passed upholding the order of the CIT (A). The ITAT noted that in the original order of assessment under Section 143(3) of the Act passed by the AO on 10th July 1997, it was mentioned that the Assessee had produced the books of accounts which had been checked by the AO. The AO also noted that the Assessee was dealing in shares and securities. In the reasons recorded for the reopening of assessment, there was no “reference to the fact that there was failure on the part of the Assessee to disclose fully and truly all the material facts with regard to the shares.” Considering that the reopening of assessment was to be made beyond four years after the end of the AY in question, the recording of the above reason for reopening of the assessment was a jurisdictional one in the absence of which the re-assessment proceedings is void.
The ITAT concurred with the CIT (A) even as regards the merits by holding that the value of the closing stock of shares had been computed on the basis of the quotation in the Gauhati Stock Exchange which was at Rs.2 per share. The Assessee had consistently followed the method of valuation of shares at cost or at market price whichever is lower. This method had been accepted by the department for the earlier AYs. Consequently, the ITAT held that it was not open to the Revenue to challenge the said method for the AY in question at that stage. The ITAT referred to the decision in Radha Soami Satsang v. CIT 193 ITR 321 (SC) and the decision of this Court in CIT v. Lagan Kala Upvan 259 ITR 489 (Del).
Held by High Court
The only reason for forming the ‘reasons to believe’ that income had escaped assessment was the dismissal of the Assessee’s appeal by CIT (A) for AY 1997-98 when the share loss was disallowed for the first time. There was no material as such for coming to the conclusion that “the assessee understated its income” for AY 1995-96 by an amount of Rs.1,28,80,000. The following sentence in the ‘reasons’ shows that the conclusion was based on surmises: “Obviously there was failure on the part of the assessee to disclose the complete facts to the Assessing Officer at the time of completion of assessment for the AY 1995-96.”
Interestingly nearly two years prior to the issuance of the above notice, the AO had issued a notice on 26th March 2000 under Section 148 of the Act for re-opening of the assessment for AY 1996-97 on account of unexplained credits from two firms but that ended in an order of re-assessment dated 27th March 2002 referring to the unexplained share loss. Therefore, when the AO issued the notice on 26th March 2002 under Section 148 proposing to reopen the assessment for 1995-96, there was no fresh material to enable him to form reasons to believe that income on account of share loss had escaped assessment. Importantly, despite the fact that the reopening was sought to be made after the expiry of four years after the end of the AY 1995-96, no mention was made by the AO of the failure by the Assessee to make a full and true disclosure of all material facts in the original assessment
The fact that Mr. R.R. Modi, the Director of the Assessee was also the person who floated PPL, could not by itself have constituted ‘tangible material’ for forming ‘reasons to believe’ when viewed in the context of the fact that the value of the closing stock of shares had been computed on the basis of the quotation in the Gauhati Stock Exchange which was at Rs.2 per share. Further, both the CIT (A) and the ITAT have concurrently found as a fact that the Assessee had consistently followed the said method of valuation of shares at cost or at market price whichever is lower and that this method had been accepted by the Revenue for the earlier AYs. Clearly, therefore, the legal requirement that “the reason to believe must be predicated on tangible material or information” and that “the belief must be rational and bear a direct nexus to the material on which such a belief is based” was not fulfilled in the present case.
Accordingly appeal of the revenue dismissed.