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In a recent order, Income Tax Appellate Tribunal Bangalore has held that the section 68 of the Income Tax Act, 1961 will not apply to the opening balances of creditors which did not arise out of any transaction during the previous year.

Case Details:
ITA No.1078/Bang/2014
Assessment year : 2009-10
Glen Williams (Appellant) vs The Assistant Commissioner of
Income Tax (Respondent)
Date of hearing : 10.07.2015
Date of Pronouncement : 07.08.2015

Facts of the Case:
The assessee was a dealer in sale of bakery and confectionary products. During the course of the assessment proceedings of the return of income for AY 2009-10, the AO sought confirmations, complete names and addresses of 22 numbers of sundry creditors totaling to Rs.68,59,477.  During the previous year, there had not been any transactions with the said creditors. In other words, those balances were opening balances of the earlier financial years and no balance arose out of the transactions during the previous year. The assessee furnished the names & addresses of 12 creditors out of 22 creditors. However, the letter sent by AO u/s. 133(6) to these creditors returned with the endorsement “no such person”, except in the case of one creditor.

The AO was not satisfied with the clarification of the assessee and made an addition of Rs.65,66,925 as under:

“In view of the above points, it is to be concluded that the credit claims made in the books of the assessee as on 1.4.2008 by the above 21 parties are non-existent and therefore added to the income of the assessee. The total credit balance claims in respect of 21 cases referred in para 2 (except M/s. Perfect Industries) works out to Rs.65,55,925.”

On appeal, CIT(A) also confirmed the addition holding as under:

“3.3 I have carefully considered the appellant’s submissions and also the reasons given by the AO in the assessment order. The AO made enquiries as per the information submitted by the appellant and gave him sufficient opportunities. Bu the appellant was unable to explain the amounts standing in the names of various sundry creditors. The AO followed the due process. At the time of appeal hearing, the appellant’s authorised representative pleaded that the appellant was unable to obtain confirmation from the 21 creditors regarding the balances shown against them inspite of several opportunities. In the circumstances, I have no option but to confirm the addition of Rs.65,66,925/- made by the AO in this regard.”

In his appeal to ITAT, the assessee challenged the order of CIT(Appeals), contending that neither the orders of AO nor the CIT(A), was clear as to whether the addition was being made u/s. 68 or 41(1) of the Act.

The assessee contended that addition u/s. 68 of the Act could not be made because, admittedly, the credits in question did not relate to the previous year relevant to AY 2009-10. Therefore the provisions of section 68 would not be attracted. The attention of the bench was also drawn to the decision of the Hon’ble Delhi High Court in CIT v. Sri Vardhaman Overseas Ltd., ITA No.774/2009 dated 23.12.2011 343 ITR 408 (Del), wherein on identical facts, the Hon’ble High Court held that neither section 68 nor section 41(1) of the Act would be attracted.

Excerpts from the ITAT Order:

...... we have already observed that neither the order of the AO nor the order of CIT(A) is clear as to whether the impugned addition is being made u/s. 68 or 41(1) of the Act....

On the applicability of section 68, we are of the view that those provisions will not apply as the balances shown in the creditors account do not arise out of any transaction during the previous year relevant to AY 2009-10. The provisions of sec. 68 are clear inasmuch as they refer to “sum found credited in the books of account of an assessee maintained for any previous year”. Since the credit entries in question do not relate to previous year relevant to AY 2009-10, the same cannot be brought to tax u/s. 68 of the Act. The proper course in such cases for the Revenue would be to find out the year in which the credits in question were credited in the books of account and thereafter make an enquiry in that year and make an addition in that year, if other conditions for applicability of section 68 are satisfied.

As far as applicability of section 41(1) of the Act is concerned, the question before us is limited to the applicability of Section 41(1) of the Act......

Explanation 1 which was inserted w.e.f. 1.4.1997 is not attracted to the present case since there was no writing off of the liability to pay the sundry creditors in the assessee’s accounts. The question has to be considered de hors Explanation 1 to Section 41(1). In order to invoke clause (a) of Sec.41(1) of the Act, it must be first established that the assessee had obtained some benefit in respect of the trading liability which was earlier allowed as a deduction. There is no dispute in the present case that the amounts due to the sundry creditors had been allowed in the earlier assessment years as purchase price in computing the business income of the assessee. The second question is whether by not paying them for a period of four years and above the assessee had obtained some benefit in respect of the trading liability allowed in the earlier years. The words “remission” and “cessation” are legal terms and have to be interpreted accordingly. In the present case, there is nothing on record to show that there was either remission or cessation of liability of the assessee. In fact, there is no reference either in the order of the AO or CIT(A) to the expression “remission or cessation of liability”. In such circumstances, we are of the view that the provisions of section 41(1) of the Act could not be invoked by the Revenue

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ITAT-Section 68 of the Income Tax Act 1961 will not apply to the Creditors Opening Balances which did not arise out of any Transaction during the Previous Year | 09-09-2015 |