Devil Tax is here: This SC order requires Companies to keep detailed information of their investors or Section 68 may get attracted

Introduction

1. Sherlock Holmes was sitting in a pensive mood, smoking his pipe. A puzzled Watson asked: "What is the matter ?"Holmes said: "My dear Watson, there is one case, which I also cannot solve."Watson was really curious: "Which one?" Sherlock Holmes replied: "I have been asked by a company In India to gather details about how much money each of it's investors has in bank. Even

I cannot, gather such details about investors, using my detective skills ! "

A new Supreme Court ruling has sent shivers down the spine of assesses, because they have to give full information about investors. On being unable to give information, the dangerous Section 68 would be unleashed, with the firm being taxed, right and left. Till now, the angel tax was swooping down upon taxpayers, flapping it's wings but now the devil tax, shaking it's horns, threatens to descend on every assessee.

2. Case of Principal Commissioner of Income-tax v. NRA Iron & Steel (P.) Ltd. - Pr. CIT v. NRA Iron & Steel (P.) Ltd. [2019] 103 taxmann.com 48 (SC)

Fact of the Case

2.1 The Assessee-Company in it's Income-tax Return showed that money aggregating to Rs. 17,60,00,000/-had been received through Share Capital/Premium, during the Financial Year 2009-10 from 20 companies situated at Mumbai, Kolkata, and Guwahati. The issue before the AO was whether the amount of Rs. 17,60,00,000/-allegedly raised by the Respondent through share capital/premium were genuine transactions or not? The Assessee, inter alia, submitted that the entire Share Capital had been received through normal banking channels by account-payee cheques/demand drafts, and produced documents such as income-tax return acknowledgments to establish the identity and genuineness of the transaction. It was submitted that, there was no cause to take recourse to Section 68 of the Act, and that the onus on the Assessee Company stood fully discharged.

The AO had issued summons to the representatives of the investor-companies. Despite the summons having been served, nobody appeared. The Department only received submissions through dak, which created a doubt about the identity of investor-companies. The AO independently got field enquiries conducted at Mumbai, Kolkata, and Guwahat. The enquiries at Mumbai revealed that out of the four companies, two companies were found to be non-existent at the address furnished. Regarding Kolkata companies, the response came through dak only. However, nobody appeared, nor did they produce their bank statements to substantiate the source of the funds from which the alleged investments were made. With respect to the Guwahati companies – Ispat Sheet Ltd. and Novelty Traders Ltd., enquiries revealed that they were non-existent at the given address. The A.O. also found that none of the investor-companies which had invested amounts ranging between Rs. 90,00,000 and Rs. 95,00,000 as share capital could justify making investment at such a high premium of Rs. 190 for each share, when the face value of the shares was only Rs. 10; In addition, the companies were declaring a very meagre income in their returns. The Assessee filed an Appeal before the CIT (Appeals) and placed reliance on the decision of the Delhi High Court in CITv. Lovely Exports Pvt. Ltd. [2008] 299 ITR 268 (SC) case. The CIT deleted the addition made by A.O. on the ground that the Respondent had filed confirmations from the investor-companies, their Income-tax Return, acknowledgments with PAN numbers, copies of their bank account to show that the entire amount had been paid through normal banking channels. The ITAT too dismissed the appeal stating that the investor companies had filed their returns and were being assessed. The Delhi High Court also affirmed the decision of the Tribunal on the ground that the issues raised before it were urged on facts, and the lower appellate authorities had taken sufficient care to consider the relevant circumstances.

Supreme Court's Ruling

2.2 The Supreme Court heard the matter on 5-2-2019 and pronounced that the issue which arose for determination was whether the Assessee had discharged the primary onus to establish the genuineness of the transaction required under Section 68 of the Act. As per settled law, the initial onus was on the Assessee to establish by cogent evidence the genuineness of the transaction, and credit-worthiness of the investors under Section 68 of the Act. The assessee was expected to establish to the satisfaction of the Assessing Officer as specified in [CIT v. Precision Finance (P.) Ltd. [1994] 208 ITR 465/[1995] 82 Taxman 31 (Cal)] :

Proof of Identity of the creditors; Capacity of creditors to advance money; and Genuineness of transaction.

2.3 This Court in the landmark case of Roshan Di Hatti v. CIT [1977] 107 ITR 938 (SC) laid down that the onus of proving the source of a sum of money found to have been received by an assessee, was on the assessee. Once the assessee had submitted the documents relating to identity, genuineness of the transaction, and credit-worthiness, then the AO had to conduct an inquiry, and call for more details before invoking Section 68. If the Assessee was not able to provide a satisfactory explanation of the nature and source, of the investments made, it was open to the Revenue to hold that it was the income of the assessee, and there would be no further burden on the revenue to show that the income was from any particular source. With respect to the issue of genuineness of transaction, it was for the assessee to prove, that the investments made in share capital were genuine borrowings, since the facts were exclusively within the assessee's knowledge. Reliance was also placed on the decision of CIT v. Kamdhenu Steel & Alloys Ltd. [2012] 19 taxmann.com 26/206 Taxman 254/[2014] 361 ITR 220 (Delhi) wherein the Court held that :"It is projected by the Revenue that the Directorate of Income-tax (Investigation) had purportedly found a racket of floating bogus companies with sole purpose of lending entries. But, it was unfortunate that all this exercise was going in vain as few more steps by the Revenue in order to find out causal connection between the case deposited in the bank accounts of the applicant banks and the assessee were not taken. It was necessary to link the assessee with the source; when that link was missing, it was difficult to fasten the assessee with such a liability."

2.4 On the issue of unexplained credit entries /share capital, the Court examined the following judgments :

i.		In CIT v. P. Mohankala [2007] 291 ITR 278/161 Taxman 169 (SC) this Court held that:"The burden is on the assessee to take the plea that, even if the explanation is not acceptable, the material and attending circumstances available on record do not justify the sum found credited in the books being treated as a receipt of income nature.
ii.		The Guwahati High Court in Nemi Chand Kothari v. CIT [2004] 136 Taxman 213/[2003] 269 ITR 254 held that merely because a transaction takes place by cheque it is not sufficient to discharge the burden.
		"It cannot be said that a transaction, which takes place by way of cheque, is invariably sacrosanct… the burden shifts to the revenue to show that though covered by cheques, the amounts in question, actually belonged to, or were owned by the assessee himself "
iii.		In a recent judgment the Delhi High Court [CIT v. N.R. Portfolio (P.) Ltd. [2014] 42 taxmann.com 339/222 Taxman 157 (Mag.)] held that the credit-worthiness or genuineness of a transaction regarding share application money depends on whether the two parties are related or known to each other, or mode by which parties approached each other, whether the transaction is entered into through written documentation to protect investment, whether the investor was an angel investor, the quantum of money invested, credit-worthiness of the recipient, object and purpose for which payment/investment was made, etc. The incorporation of a company, and payment by banking channel, etc., cannot in all cases tantamount to satisfactory discharge of onus. In the present case, the A.O. had conducted detailed enquiry which revealed that :

i.		There was no material on record to prove, or even remotely suggest, that the share application money was received from independent legal entities. The survey revealed that some of the investor companies were non-existent, and had no office at the address mentioned by the assessee. For example, companies Hema Trading Co. Pvt. Ltd. and Eternity Multi Trade Pvt. Ltd. at Mumbai, were found to be non-existent at the address given, and the premises was owned by some other person. The companies at Kolkata did not appear before the A.O., nor did they produce bank statements to substantiate the source of funds. The two companies at Guwahati, viz., Ispat Sheet Ltd. and Novelty Traders Ltd., were found to be non-existent at the address provided. The genuineness of the transaction was found to be completely doubtful.
ii.		The enquiries revealed that the investor-companies had filed returns for a negligible taxable income, which would show that the investors did not have the financial capacity to invest funds ranging between Rs.. 90,00,000 to Rs. 95,00,000, for purchase of shares at such a high premium.. For example, Neha Cassettes Pvt. Ltd. - Kolkata had disclosed a taxable income of Rs. 9,744/- , but had purchased Shares worth Rs. 90,00,000 in the Assessee-Company. Warner Multimedia Ltd. – Kolkata filed a NIL return, but had purchased Shares worth Rs. 95,00,000 in the Assessee-Company. Ganga Builders Ltd. – Kolkata filed a return for Rs. 5,850 but invested in shares to the tune of Rs. 90,00,000 in the Assessee-Company. The lower appellate authorities appeared to have ignored the detailed findings of the AO from the field enquiry and investigations carried out by his office. They failed to appreciate that the investor-companies which had filed income-tax returns with a meagre or nil income had to explain how they had invested such huge sums of money in the Assessee-Company. The entire transaction seemed bogus, and lacked credibility.

The practice of conversion of un-accounted money through the cloak of Share Capital/Premium must be subjected to careful scrutiny. This would be particularly so in the case of private placement of shares, where a higher onus is required to be placed on the Assessee since the information is within the personal knowledge of the Assessee. The Assessee is under a legal obligation to prove the receipt of share capital/premium to the satisfaction of the AO, failure of which, would justify addition of the said amount to the income of Assessee. On the facts of the present case, clearly the Assessee-Company failed to discharge the onus required under Section 68 of the Act and the Assessing Officer was justified in adding back the amounts to the Assessee's income. The Appeal filed by Revenue was allowed. In the aforesaid facts and circumstances, and the law laid down above, the judgment of the High Court, the ITAT, and the CIT were thereby set-aside. The Order passed by the AO was restored.

A Shell-Shocker of a Judgment

2.5 An income-tax officer asked a company head: "How many of your investors wear costly rings on all their fingers?" The distraught assessee said; "How can I know, sir?" The tax official continued: "How many have lunch in Mumbai and breakfast in London ?" The panicky assessee said: "I really cannot say, sir." The income-tax officer asked; "How many of your investors have a rich father-in-law?" The flabbergasted assessee looked heaven wards. The intention of income-tax department in Pr. CIT v. NRA Iron & Steel Co. [2010] 103 taxmann.com 48 (SC) case was to catch shell companies, but it has, in fact, left shell-shocked the common assessee. The judgement's sinister implications are: (a) all companies would be covered under Section 68 and required to furnish evidence about investors, (b) primary evidence would not be enough, full evidence has to be furnished.

Overturns Previous Supreme Court Judgments

2.6 The NRA Iron & Steel case has gone against many Supreme Court's rulings of the past:

CIT v. Lovely Exports Pvt. Ltd.(supra)

2.6.1 The assessee-company had furnished the necessary details such as PAN No., Income-tax ward no., ration card of the share applicants and some of them were assessed to tax. The monies were received through banking channels.. In some case's, affidavits/confirmations of the share applicants containing the above information were filed. It was held that all such details constitute acceptable proof or acceptable explanation. The Department would not be justified in drawing an adverse inference only because the creditor/subscriber fails or neglects to respond to its notice; If the share application money is received by the assessee-company from alleged bogus shareholders, whose names are given to the AO, then the Department is free to proceed to reopen their individual cases. It was also held that even if the share capital was bogus the addition should be made in the hands of share applicants and not the assessee-company.

CIT v. Steller Investment Ltd. [2001] 115 Taxman 99/251 ITR 263 (SC) :

2.6.2 The apex court held that even if subscribers to the capital are not genuine, the amount received by the company as share capital could not be assessed in the hands of the company itself. Such amounts should be considered for assessment in the hands of persons who are alleged to have really advanced the money.

CIT v. Orissa Corpn. [1986] 25 Taxman 80 F/159 ITR 78 (SC)

2.6.3 The AO had sent summons to investor but the answer came that the person had 'left.' The Supreme Court held merely because the investor did not appear for summons does not mean that the invested sum was unexplained amount of the assessee.

Why Company Must be Spared

2.7 Technically, the income-tax department has the vast machinery and resources to find out about investors, if it wills. Instead, the new ruling means that the company would have to carry the burden. There are three points, namely, identity and creditworthiness of investors and genuineness of transaction which have to be wholly proved by the assessee-company, which is simply shocking.

Identity

2.7.1 The assessee-company has to prove name, address and veracity of the investors. In many cases the courts have rightly held a lenient view.

CIT v. Dwarkadish Investment [2010] 194 Taxman 43/[2011] 330 ITR 298 (Delhi)

2.7.1.1 It was held "In any matter, the onus of proof is not a static one. Though in Section 68 the Income-tax Act, 1961, the initial burden of proof lies on the assesses, yet once he proves the identity of the creditors/share applicants by either furnishing their PAN number or income-tax assessment number and shows the genuineness of transaction by showing money in his books either by account-payee cheque or by draft or by any other mode, then the onus of proof would shift to the Revenue. Just because the creditors/share applicants could not be found at the address given, it would not give the Revenue the right to invoke Section 68. One must not lose sight of the fact that it is the Revenue which has all the powers and wherewithal to trace any person."

CIT v. Divine Leasing & Finance Ltd. [2007] 158 Taxman 440/[2008] 299 ITR 268 (Delhi)

2..7.1.2 The Delhi High Court held that the amount of share application money received by a company from alleged bogus share holders could not be regarded as undisclosed income u/s 68 when the assessee furnished details regarding shareholders. If the names of the alleged bogus shareholders are given to the AO, then the department is free to proceed to reopen their individual assessments in accordance with law.

The assessee can't be expected to know every detail pertaining to identity and financial worth of each of it's investors …burden of proof can't be discharged to the hilt if AO harbours some suspicion."

CIT v. STL Extrusion (P.) Ltd. [2011] 11 taxmann.com 125/333 ITR 269 (MP)

2.7.1.3 Where assessee had duly discharged its onus by furnishing names, age, address, date of filing application of share, number of shares of each subscriber, the AO was not justified in making addition u/s 68 of Act.

CIT v. Creative World Telefilms Ltd. [2011] 15 taxmann.com 183/203 Taxman 36 (Bom.) (Mag.)

2.7.1.4 Once documents like PAN card, bank account details or details from the bankers were given by the assessee, onus shifted upon the Assessing Officer and it was on him to reach the shareholders. The Assessing Officer could not burden the assessee merely on the ground that summons issued to the investors were returned back with the endorsement not traceable

CIT v. Orchid Industries [2017] 397 ITR 136/397 ITR 136 (Bom.)

2.7.1.5 The summons could not be served as some of investors were not traced. The profit and loss account showed that sufficient funds existed. The Bombay High Court held that just because sum could not be traced, the amount could not be taxed under Section 68 in assessee's hands.

Madhuri Investments v. ACIT [IT Appeal No. 110 of 2004] Karnataka

2.7.1.6 The company does not identify where applicants are genuine or their addresses are correct, while inviting share applications. As the notices came back with 'no such person' written, one could not call them bogus. For some reason, the address might have changed, or the summons were not received or incorrect address in application might have been given.

Umbrella Projects v. ITO (IT Appeal No. 5955 (Delhi) of 2014]

2.7.1.7 Out of 19 investors, if 4 were not found, the assessee could't be brought within the mischief of Section 68, the ruling held.

Ashtech Industries v. Dy. CIT [IT Appeal No. 2332 (Delhi) of 2008]

2.7.1.8 The non-production of directors doesn't mean Section 68 additions can be made.

CIT v. Jalan Hard Coke [2018] (95 taxmann.com 331/257 Taxman 91 (SC)

2.7.1.9 In this Supreme Court's decision it was held that no addition under Section 68 could be made if assessee failed to produce shareholder applicants. It also said that one could not assess to tax to find out who applied as shareholder.

Creditworthiness

2.7..2 Next, the assessee-company was asked to prove whether the investor was a man of means. The firm is expected to know whether his bank balance is alright. Here too, many courts have been liberal.

CIT v. Arunananda textiles (P.) Ltd. [2011] 15 taxmann.com 226/203 Taxman 32 (Mag.)/333 ITR 116 (Ker.)

2.7.2.1 It was not for the assessee to place material before the Assessing officer about creditworthiness of the shareholders. The PAN had been given. Once the company had given the addresses of the shareholders and their identity was not in dispute, it was for the Assessing Officer to make further inquiry with the investors about their capacity to invest the amount in shares.

CIT v. Value Capital Services [2008] 307 ITR 334 (Delhi)

The Delhi High Court ruled that even if investor does not have means, the Revenue has to prove that the amount emanated from assessee's coffers.

Genuineness

2.7.3 Is the transaction real or fake, that's the question which agitates the tax officer. Though the process has taken place through bank, the raising of such a query is astonishing.

Dataware (P.) Ltd. v. CIT [IT Appeal No. 263(Calcutta) of 2011]

2.7.3.1 The AO should ask the concerned AO of investor/creditor regarding genuineness of transaction.

Source of Source Can't be Inquired

2.7.4 It is nowhere stipulated that the assessee-company has to examine source of source of funds. That is, how the investor got the money is beyond the pale of company's investigation. For example, in CIT v. K.C. Fibres [2010] 187 Taxman 53/[2011] 332 ITR 481 (Delhi), it was categorically held that, "It is not for assessee-company to prove where investor got money."

Why High Premium is Not Questionable

2.7.5 Why investors went in for shares with high premiums is a pet question that is asked by income-tax authorities. It is an inane query. In CIT v. Green Infra Ltd. [2017] 78 taxmann.com 340/392 ITR 7 (Bom.) case, the Bombay High Court held that it is the prerogative of Board of Directors to decide premium amount and the wisdom of shareholders whether they want to subscribe to such a heavy price.

Various ways in which the tax officer can satisfy curiosity, instead of applying Section 68, the dreaded provision.

2.7.6 The AO can verify through PAN or bank account if there is no answer to summons.

♦		Was any cash deposited in investor's bank account, before issuing cheque ?
♦		The AO can also find out whether there was immediate withdrawal from bank by company, before the investor brought in share capital or share premium?
♦		AO can find about 'missing' investors through postal department.
♦		The company, to be on safes side, can submit in writing that it has furnished all details about investors and if there is something else to know, it can ask AO to approach investors through Section 133(6) of Act.
♦		Through PAN, the tax official can get the income-tax returns of suspected investors and find whether they have sufficient funds?

Absurd Situations

3. In Champaklal Dhamanwala v. ITO [1990] 34 ITD 209 (Ahd.) case, the court had to step in and say that "after 20 years don't expect proof about genuineness of a transaction," protecting the assessee from the mischief of Section 68 of Act.

♦		Many times, Section 68 is sought to be imposed for the single reason that all investors had registered office at one address. But there is no bar against operating from one place.
♦		A wife was an investor in husband's company, but he did not know about it. The tax authorities felt there was collusive arrangement between them and sought to bring in Section 68 of Act. The court ruled in this case [S N Ganguly v. CIT [1953] 24 ITR 16 (Patna)] that husband is not presumed to have prior knowledge, unless the department proves he was aware of the fact.

Concluding Remarks

4. Angry father once told his son : "I told you to study about our company. You are to soon join the firm. But, I find you reading about our investors." Son replied: "If I don't know about the investors, the income-tax department would study, analyse and dissect us under Section 68, dad."A dreaded provision, Section 68 imposes a super heavy tax of 83.25%, which is frightening. With the new Supreme Court ruling, companies face the daunting task of living fully informed about investors. It is absolutely essential that Section 68 should be modified so that task of finding about investors is performed by the income-tax department. Companies should not be asked to do cop duty. Here's a recent conversation overheard at income-tax office: One income-tax officer asked: "Have you given all information about investors? " The assessee replied: "Yes." The tax official persisted: "Everything???" The assessee said: "Yes, everything." The tax officer again asked: "Has full information been given about each and every investor?" The assessee replied: "Yes, every investor has been covered. I have even given the horoscope of each investor."