Sundry creditors can’t be treated income u/s 41(1) because recovery barred by limitation

Sundry creditors outstanding in books can’t be treated income u/s 41(1) merely because recovery was barred by limitation – ITAT

In A recent judgment, ITAT Bangalore has held that sundry creditors shown as outstanding in books could not be automatically treated as income liable to be taxed u/s 41(1) because recovery was barred by limitation due to long pendency of the dues.

ABCAUS Case Law Citation:
5030 (2026) (02) abcaus.in ITAT

In the instant case, the assessee had challenged the order passed by the CIT(A) in inter alia confirming addition u/s 41(1) of the Income Tax Act, 1961 (the Act) towards outstanding balance of trade creditor as cessation of liability.

The assessee was an individual and filed her return of income declaring Nil income.  A search action was conducted in the case of a Trust and in connection with the said search, the assessee’s residence was also searched.

At the time of search proceedings, the assessee’s son also gave a statement that there are long standing sundry creditors and the AO had treated the said sundry creditors as cessation of liabilities and treated the same as additional income for the relevant A.Y.  The AO relied on the question of the statement given by the assessee’s son and concluded that the assessee had claimed the said sundry creditors as deductions in the earlier years.

The assessee objected that the addition could not be made based on the statement of her son since the same was not binding on her and also submitted that the liabilities were not in the nature of trade credit. 

The AO assumed that the sundry creditors were long standing and therefore the recoveries are barred by limitation and on that basis, the creditors might not have claimed the said amounts which would be in the nature of income for the assessee. 

The AO had not accepted the explanations since the assessee had not provided any details with respect to the recoverability of such loans by the creditors and therefore treated the trade credits liability to be added as cessation of liability u/s. 41(1) of the Act and therefore added the forfeiture of loan amounts as

The AO not accepted the explanations since the assessee had not provided any details with respect to the recoverability of such loans by the creditors and therefore treated the trade credits liability to be added as cessation of liability u/s. 41(1) of the Act and therefore added the forfeiture of amounts as income u/s. 28(iv) of the Act.

The Tribunal observed that the reason given by the AO as well as by the CIT(A) to treat the said outstanding liability as profits chargeable to tax u/s 41(1)of the Act was that the said amount was a long standing amount which could not be recovered because of limitation and other things. 

The Tribunal further observed that the relevant provision state that, if an allowance or deduction has been made in the assessment for any year in respect of the loss, expenditure or trading liability and subsequently, the assessee had the benefit of cessation of the said trading liability or expenditure, it could be treated as profits chargeable to tax. 

The Tribunal noted that in the case on hand, it was not proved that in the earlier assessment, the liability or expenditure were claimed as allowances or deduction in order to treat the said liability as profit chargeable to tax. Even in the earlier years, the claim was made and allowances or deduction has been granted, then subsequently, if the assessee had received back the said expenditure or trading liability from the creditors by way of cessation, it could be treated as profits chargeable to tax u/s. 41(1) of the Act. 

The Tribunal further noted that in the books of accounts maintained by the assessee, the said amounts were still shown as outstanding amounts and therefore because of the long pendency of the said dues, automatically it could not be treated as profits liable to be taxed u/s. 41(1) of the Act.  The AO could have ascertained the facts from the creditors and based on that, if he was able to found that the same were not payable to the creditors, it could be treated as profits to be added as income in the hands of the assessee. 

The Tribunal also noted that no other documents were relied on by the AO to show that the long standing outstanding dues were not claimed by the creditors to treat the same as cessation and therefore it could be added as income u/s. 41(1) of the Act.  The outstanding sundry creditors were found place in the books of accounts even during the A.Y. and therefore unless and until it was proved by the AO that there was a cessation of liability, it could not be treated as income in the hands of the assessee.

The opined that AO could not be subjected the said amounts as taxable in the hands of the assessee merely on the basis that the claim is barred by limitation.  The provision also does not envisage such circumstances to treat the same as liable to be taxed in the hands of the assessee. 

Therefore, the Tribunal held that the assessment order as well as the order of the CIT(A) was not in accordance with the provisions of section 41(1) of the Act and therefore the long outstanding due could not be added as income u/s  41(1) of the Act.   Accordingly, the appeal filed by the assessee was allowed.

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