Addition u/s 41(1) deleted as spot enquiry of creditors done by Inspector was not as per procedure laid down
In a recent judgment, ITAT Lucknow has deleted addition under section 41(1) of Income Tax Act based on spot enquiry of creditors made by the AO through inspector who did not follow the procedure laid down by Hon’ble Supreme Court.
ABCAUS Case Law Citation:
4768 (2025) (10) abcaus.in ITAT
In the instant case, the assessee had challenged the order passed by the CIT(A) in partly confirming the addition as cessation of liability u/s 41(1) treating sundry creditors as bogus liability.
The assessee was an individual engaged in the business of manufacturing and export of finished leather under proprietorship concern. A survey was conducted u/s 133A of the Act and the assessee surrendered unsecured loans and sundry creditors as bogus vide statement recorded.
However, the assessee retracted from the entire admission and not offered such disclosed income in the return of income filed by him.
The assessment was completed u/s 143(3) of the Act inter alia making addition under section 41(1) of the Act treating the sundry creditors as bogus liability.
On appeal, the CIT(A) deleted the addition which was based merely on the admission by the assessee but confirmed the addition to the extent of six sundry creditor which were not solely based on the admission of appellant made during survey before the survey party but based on the spot enquiry made by the AO through inspector.
Before the Tribunal, the assessee submitted that addition made by the AO on account of admission made by the appellant during survey was without any merit or any corroborative evidence/ material, and made merely based on suspicion and conjectures.
It was submitted that the addition of sundry creditor being the trading liability had been duly recognized by the appellant as payable and had been paid in the earlier years, current year and subsequent years, therefore, there cannot said to be cessation of liability to be chargeable u/s 41(1) of the Act when the same had been recognized by the assessee and payments are being made.
It was further submitted that the AO had accepted the Sales and has not disputed it in the current assessment year or in any preceding years which had arisen from the purchases/ manufacturing done by the appellant/respondent on account of which balance payable had become payable as Sundry Creditors.
It was also submitted that no addition can be made on account of sundry creditors arising from purchases which had been accepted in earlier years, moreover, when no defect or discrepancy had been found in sales against purchases/manufacturing in any year of assessment completed as the same had been accepted.
It was also argued that the AO had failed to conduct inquiry as per the procedure laid down in the Act but has made spot inquiry through Inspector who without following due procedure under the process of law as mandated to safeguard all assessee from any misuse of these provisions relating to service of a notice or reporting non-existence of a particular person on any given address made vague inquiry.
The assessee placed reliance on the judgment of the Allahabad High Court for the proposition that no addition can be made where assessee had made payments to creditors through cheques, merely because some creditors had not confirmed receipts.
The assessee placed reliance on the judgment of the Gujarat High Court and Hon’ble Supreme Court for the proposition that merely because liability had remained outstanding for more than three years and same was not written back in profit and loss account, application of provisions of section 41(1) could not have been made to consider such liability as income for year under consideration without there actually being any remission or cessation of liability.
The assessee placed reliance on the decision of the Hon’ble Supreme Court to contend that spot inquiry done was not in accordance with law and had no creditability or any evidentiary value. Therefore, the appellant cannot be held to responsible merely on the basis of vague and illegal spot inquiry by inspector.
The AO submitted that the Inspectors who were deputed to make spot enquiry had submitted their reports in which it had been reported that none of the above six creditors were found at their address.
It was further submitted by the Revenue that the assessee had neither furnished any confirmation from the sundry creditors nor the sundry creditors which were randomly picked up for verification were found at the address provided by the assessee himself.
The Tribunal noted that the case laws relied upon by the assessee and CIT(A) support the preposition that no addition can be made on account of sundry creditors where the purchases made from sundry creditors had been duly accounted for and were part of trading account and neither debit side nor credit side of trading results had been disturbed nor books of account had been rejected.
The Tribunal observed that in multiple orders of Co-ordinate Bench of ITAT, the retraction of the statement recorded at the time of survey u/s 133A of the Act has been upheld.
As regards the field enquiry conducted by the Inspector of Income Tax Department, the Tribunal found that the procedure prescribed by the Hon’ble Supreme Court had not been followed by the Inspector. Although the said decision was in the context of service of notice, the ratio was applicable for spot inquiry also.
The Tribunal also noted that the Hon’ble Supreme Court held that the Inspector of Income Tax, who was the service officer claimed to have served the notice by affixing it on the assessee’s place of business, but in his report, he did not mention the names and addresses of the persons who identified the place of business of the assessee, nor did he mention in his report or in the affidavit filed by him that he personally knew the place of business of the assessee. In this background, it was held by the Hon’ble Supreme Court, that the service of notice was not in accordance with law.
The Tribunal found that in the present case too; there was no independent witness to confirm that spot enquiry was indeed made by the Inspector and that report submitted by the Inspector to the Assessing Officer was factually correct.
Accordingly, the Tribunal directed the Assessing Officer to delete the entire addition under section 41(1) of the Act.
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