Andhra Pradesh H.C : Whether since assessee had placed proof of payment of consideration for its transaction to seller, and later admitted payment and there was no doubt about genuineness of payment, no disallowance could be made under section 40A(3)

High Court Of Andhra Pradesh

Sri Laxmi Satyanarayana Oil Mill Vs. CIT, A.P. Hyderabad

Section : 40A(3)

L. Narasimha Reddy And C. Kodanda Ram, JJ.

R.C. No. 16 Of 2000

June 12, 2014


L. Narasimha Reddy, J. – The applicant is an Oil Mill, functioning at Khammam and is an assessee under the Income Tax Act (for short the Act). It filed return on 08-12-1996, declaring a loss of Rs.69,400/-. The Assessing Officer, who processed the return, found that almost all the payments for purchasing the ground-nut were made by the assessee, in cash. After verifying the relevant records, and giving opportunity to the applicant to explain, he disallowed a sum of Rs.9,33,720/- under Section 40A (3) of the Act. In the appeal preferred by the applicant, relief to the extent of about Rs.3 lakhs was granted, and a sum of about Rs.6,08,000/- was disallowed. In the further appeal before the Income Tax Appellate Tribunal, no relief was granted. On an application filed under Section 260(1) of the Act, the Tribunal referred the following question to this Court, for its opinion:

“Whether on the facts and circumstances of the case, the Tribunal was justified in confirming the addition despite the evidence placed on record that the payments were made only at the instance of the vendor when the genuineness of purchases is proved and the identity of payee is also established?”

2. Sri A.V. Krishna Kaundinya, learned Senior Counsel for the applicant submits that being new to the business, the applicant had to act as per the wishes of the supplier of raw-material, in the context of purchase, and accordingly the cost of the raw-material i.e. ground-nut kernel was paid in cash. He submits that the agency which supplied the ground-nut, namely, M/s Satyanarayana Trading Company was also an assessee in the same circle, and they have shown the amounts received from the applicant in their returns.

3. Learned Senior counsel further submits that the insistence under Section 40A of the Act, as it stood then, was not absolute and the proviso itself made it clear that, if any amount exceeding Rs.2,500/- is made otherwise than through crossed check, and in such cases and in such circumstances, as may be prescribed, shall not be disallowed. He contends that Rule 6DD clearly enumerated the circumstances under which the exemption is allowed for under the proviso to Section 40A, and the case of the applicant is covered under more heads than one, such as clauses (f) and (j) thereof. He has also placed reliance upon the circular dated 31-05-1977, issued by the Central Board of Direct Taxes (CBDT) and submits that the view taken by the Assessing Authority, Appellate Authority, and the Tribunal are contrary to law, and that the question framed by the Tribunal deserves to be answered in favour of the applicant.

4. Sri J.V. Prasad, learned Standing Counsel for the respondent, on the other hand, submits that the applicant deliberately made the payments otherwise than in accordance with law, and since it failed to place the necessary material to bring the payments within the purview of the Rules or the Circulars of the CBDT, the Assessing Authority disallowed the claim. He contends that the Appellate Authority granted substantial relief to the extent, the amount was covered by valid documents. Learned counsel submits that Section 40A of the Act was enacted with the objective of curbing the use of black money in the business, and that no aspect of law is involved in the question referred by the Tribunal.

5. The applicant claimed that it made purchases of groundnut worth Rs.9,33,720/- during the concerned year, from M/s Satyanarayana Trading Company, Khammam, and it has posted loss of Rs.69,400/- in the return. Obviously because Section 40A of the Act mandated that any amount exceeding Rs.2,500/-must be paid through crossed cheques, the Assessing Authority has undertaken close scrutiny of the return filed by the applicant. In the course of enquiry, he required the applicant to file proof of payment of amount in cash to M/s Satyanarayana Trading Company. A certificate to that effect was filed. It is also essential to note that M/s Satyanarayana Trading Company is an assessee in the same circle, and the very officer, who processed the return of the applicant, did not raise any objection, when the amounts paid by the applicant, in cash, was reflected in the income tax return of M/s Satyanarayana Trading Company. The fact that the applicant placed necessary material before the Assessing Authority is evident from the following portion of his order:

6. A certificate was also furnished from M/s Sri Satyanarayana Trading Company confirming that in respect of credit sales of ground-nut as well as cash sales of ground-nut oil made to them, the recipient demanded cash only received payments in cash mostly in order to accommodate in turn the commission agent-creditors of the recipient who act on behalf of their agriculturist-principals from which the recipient purchased ground-nut, an agri.produce on credit basis. The assessee also filed a letter dated 20-03-1989 stating that it was purchasing ground-nut mainly and from M/s Sri Satyanarayana Trading Company who had given them credit facility. The assessee stated that M/s Sri Satyanarayana Trading Company were mainly dependent on them for business and this is the reason they allow some time for making payment. They however insisted on cash payment from the assessee at the time of making such payment in order that they can repay the dues to their creditors and also met other expenses. It was stated that in the circumstances, it has become impracticable to make payments otherwise than by way of cash. The assessee has also stated that the recipient had to make payment to commission agents who in turn pay back the same to agriculturist-principals. In these circumstances, it was stated that their case falls both directly and indirectly under both clauses of (f) and (j) of rule 6DD of I.T. Rules, 1962.

7. However, by taking the view that a sum of Rs.9,33,720/- was paid in contravention of Section 40A(3) of the Act, the amount was disallowed. The Appellate Authority verified the records and partly allowed the appeal to the extent of Rs.3,32,920/-, and the balance was disallowed. The Tribunal confirmed the said order.

8. The answer to the question referred to us, depends upon the interpretation to be placed upon Section 40A(3), Rule 6DD and the purport of the circular issued by the CBDT.

9-10. It is no doubt true that the objective underlying the introduction of Section 40A of the Act was to flow of black money into business and it was insisted that any amount exceeding Rs.2,500/- in a business shall not be paid except through crossed cheque, drawn on a Bank, or a crossed bank draft. However, by taking into account, the constrains and difficulties involved in the financial activities and in the business field, the Parliament added the following proviso:

Provided that where an allowance has been made in the assessment for any year not being an assessment year commencing prior to the 1st day of April, 1969, in respect of any liability incurred by the assessee for any expenditure and subsequently during any previous year the assessee makes any payment in respect thereof in a sum exceeding two thousand five hundred rupees otherwise than by a crossed cheque drawn on a bank or by a crossed bank draft, the allowance originally made shall be deemed to have been wrongly made and the Income-tax Officer may recomputed the total income of the assessee for the previous year in which such liability was incurred and make the necessary amendment, and the provisions of section 154 shall, so far as may be, apply thereto, the period of four years specified in sub-section (7) of that section being reckoned from the end of the assessment year next following the previous year in which the payment was so made:

Correspondingly, the Rules were amended by adding Rule 6DD. It enlists the circumstances, which can be brought under the proviso to Section 40A of the Act. Clause (a) thereof exempts the payments made to, as many as 18 agencies made therein from the purview of the section. Relevant for the purpose of the present case, are clauses (f) and (j). They read as under:

(f) where the payment is made for the purchase of

(i)agricultural or forest produce; or

(ii)the produce of animal husbandry (including hides and skins) or dairy or poultry farming; or

(iii)fish or fish products; or

(iv)the products of horticulture or apiculture; to the cultivator, grower or producer of such articles, produce or products;

(j) in any other case, where the assessee satisfies the Income Officer that the payment could not be made by a crossed cheque drawn on a bank or by a crossed bank draft—

(1) due to exceptional or unavoidable circumstances, or

(2) because payment in the manner aforesaid was not practicable, or would have caused genuine difficulty to the payee, having regard to the nature of the transaction and the necessity for expeditious settlement thereof, and also furnishes evidence to the satisfaction of the Income-tax Officer as to the genuineness of the payment and the identity of the payee.

11-12. Taking into account, the experience in the process of implementation of the Act and the Rules in this behalf, the CBDT issued certain directions through circular dated 31-05-1977. Paragraph 3 of the circular reads:

The Board has said that all the circumstances in which the conditions laid down in rule 6DD(j) would be applicable cannot be spelt out, although some of them which meet the requirements of the said rule, would be as under:—

(i)The purchase is new to the seller; or

(ii)The transactions are made at a place where either the purchaser or the seller does not have a bank account; or

(iii)The transactions and payments are made on a bank holiday; or

(iv)The seller is refusing to accept the payment by way of crossed cheque/draft and the purchasers business interest would suffer due to non-availability of goods otherwise than from this particular seller; or

(v)The seller, acting as a Commission agent, is required to pay cash in turn to the persons from where he has purchased the goods; or

(vi)Specific discount is given by the seller for payment to be made by way of cash.

13-14. It would generally satisfy the requirements of rule 6DD(j) if a letter to the above effect is produced in respect of each transaction falling within the above categories from the seller giving full particulars of his address, S.T.No./PAN, if any for the purpose of proper verification. The ITO, will, however, record his satisfaction before allowing the benefit of rule 6DD(j).

15. The above circumstances are not exhaustive but illustrative. There could be cases other than those falling within the above categories which would also meet the requirements of Rule 6DD(j).

16-17. The purport of Section 40 of the Act fell for consideration and interpretation by the Honble Supreme Court in Attar Singh Gurmukh Singh v. ITO [1991] 191 ITR 667/59 Taxman 11. It was in the context of a challenge under Section 40A(3), Their Lordships observed,

As to the validity of section 40A(3), it was urged that, if the price of the purchased material is not allowed to be adjusted against the sale price of the material sold for want of proof of payment by a crossed cheque or a crossed bank draft, then the income-tax levied will not be on the income but it will be on an assumed income. It is said that the provision authorizing levy of tax on an assumed income would be a restriction on the right to carry on business, besides being arbitrary.

18. In our opinion, there is little merit in this contention. Section 40A(3) must not be read in isolation or to the exclusion of rule 6DD. The section must be read along with the rule. If read together, it will be clear that the provisions are not intended to restrict the business activities. There is no restriction on the assessee in his trading activities. Section 40A(3) only empowers the Assessing Officer to disallow the deduction claimed as expenditure in respect of which payment is not made by crossed cheque or crossed bank draft. The payment by crossed cheque or crossed bank draft is insisted on to enable the assessing authority to ascertain whether the payment was genuine or whether it was out of the income from undisclosed sources. The terms of section 40A(3) are not absolute. Considerations of business expediency and other relevant factors are not excluded. Genuine and bona fide transactions are not taken out of the sweep of the section. It is open to the assessee to furnish to the satisfaction of the Assessing Officer the circumstances under which the payment in the manner prescribed in section 40A(3) was not practicable or would have caused genuine difficulty to the payee. It is also open to the assessee to identify the person who has received the cash payment. Rule 6DD provides that an assessee can be exempted from the requirement of payment by a crossed cheque or crossed bank draft in the circumstances specified under the rule. It will be clear from the provisions of section 40A(3) and rule 6DD that they are intended to regulate business transactions and to prevent the use of unaccounted money or reduce the chances to use black money for business transactions.

19. Several High Courts followed this dictum and took the view that the provision must be interpreted liberally and the assessees cannot be subjected to undue rigor. The Rajasthan High Court in Smt. Harshila Chordia v. ITO [2008] 298 ITR 349 went a step further, and held that the circumstances mentioned in the circular of the CBDT cannot be said to be exhaustive, and that the Board clearly expressed the view that clause (j) of Rule 6DD must be liberally construed.

20. As observed by the Supreme Court, once an assessee furnishes the circumstances under which the payment in the manner prescribed in Section 40A (3) was not practicable or would have caused genuine problems, the proviso, and thereby the Rule 6DD, get attracted. The Parliament did not intend that payment of Rs.2,500/-, or more, must be made only through the crossed cheque. This is evident from the proviso to Section 40A(3), Rule 6DD, and the circulars issued from time to time. Clause (j)(2) of Rule 6 DD take in their fold, all the circumstances, under which an assessee faces in the course of his business. Paragraph 3(vi) of the circular of the CBDT has further widened the scope of the rule, by mentioning that if the payment, otherwise than through cheque was made, on being promised and specific discount by the seller, the rigor of Section 40A(3) does not apply.

21. Coming to the facts of the case, the consistent plea of the applicant was that it had to make the payment for purchase of the ground-nut, in cash, because the seller not only insisted on that, but also gave incentives, such as facility of payment within one week, and discount. The certificate issued by M/s Satyanarayana Trading Company supported this. The question as to whether there was justification on the part of the seller of the goods in imposing such conditions, is outside the scope of the enquiry. As a matter of fact, there existed some justification for the traders, at least at the relevant point of time, in insisting the payment of amounts, in cash. The reason is that the banking activity was not that prominent and popular, and instances of cheques issued by agencies or persons, in the course of business being bounced, were not infrequent. The delay in receiving the consideration for any material supplied by a trader would have its own cascading effect on the business activities. It is only when both the parties to the contract are known to each other so intimately, and the seller is very confident not only of the solvency of the purchaser, but also his business ethics, that he would be inclined to receive the consideration through cheque.

22. Obviously because the Parliament as well as the CBDT were live to these issues, the provisions, referred to above, were enacted or incorporated. The Assessing Authority has taken a hyper-technical view and failed to discern the spirit underlying the relevant provisions. Though the Appellate Authority exhibited an element of objectivity, it was only in a limited aspect. The Tribunal has ignored the purport of the relevant provisions of law and refused to grant any relief to the assessee.

23. We are of the view that once the assessee has placed the proof of payment of the consideration, in cash, in excess of Rs.2,500/-, for its transaction to the seller, and the latter admitted the payment, there is no question of disallowing such amount by the Assessing Authority.

24. The question referred to is answered in favour of the assessee and against the department.

[Citation : 367 ITR 200]

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