The very purpose of filing tax returns is to record the legal compliance by taxpayers. At times, administrators resort to verifying the correctness of the return which is technically called as ‘assessment’. Per se, necessary and relevant details are called for and the tax officers pass their judgments on the returns filed by the taxpayers. It is more often than not, that the litigations start upon such assessment and there would be no fanfare if the returns filed are accepted passively on their face value by the department.

In assessment, the tax officers add entire purchases as unproved purchases without applying logical reasoning that there could not be a sale without a preceding purchase. The purchase at the most might be inflated in order to deflate the profit for tax purposes but entire purchases could never be treated as bogus when the subsequent sale is taken as genuine.

There could be innumerable instances for enhancing the income chargeable to tax or reducing the loss where the return depicts negative income. One such addition which goes to increase the taxable income is trading addition which means the operating results prima facie are correct but the tax officer is not happy with the income admitted or the taxpayer is not able to give reasons as to why the income from the regular business activity is low or reduced from the preceding year or years tax return.

Yet another addition to the taxable income of a taxpayer might arise from credits shown by way of borrowal which are negatived by the tax officers. When tax officers seek confirmation of the amount borrowed and the taxpayer or the lender had not given adequate information or explanation about the genuineness of the loan or lending, it could be treated as the deemed income of the taxpayer.

UNEXPLAINED CREDITS

In Grover Fabrics India (P) Ltd’s case (ITA No.860 of 2008 dated November 4, 2009) the taxpayer was subjected to twin additions viz. addition towards trading results and unexplained credit entries in the books of account. In first appeal, the trading addition was deleted by reasoning that the unexplained credit entries when taxed as income it goes to increase the trading income and a separate addition towards trading results was hence held as unwarranted.

NEXUS THEORY

The taxpayer argued that when trading additions were deleted the unexplained credit entries too would be automatically deleted. But the court held that merely because trading additions were found to be unsustainable it does not mean that unexplained credit entries have to be excluded for tax assessment.

The court held that the unexplained credit entries may or may not have nexus to the trading results. Where the trading additions are sustained it might shield the addition towards credit entries but the reverse may not be possible. When credit entries are added still the trading results may also be subjected to upward revision.

When trading additions are made it is possible that the credits appearing could be telescoped to those trading additions. Where such addition is made in the earlier year if such telescoping is resorted to in the later year the taxpayer could be subjected to concealment penalty on the reasoning that the trading additions were the result of conscious concealment of income and the act of subsequent cash credits confirm the deliberate suppression of income earlier.

(The author is an Erode-based chartered accountant.)

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