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Beckoning litigation

The new procedures for search and seizure have given rise to disputes over a host of issues, the leading among them being undisclosed income, says T. C. A. Ramanujam

WHEN Chapter XIV B was inserted in the Income-Tax (I-T) Act, 1961 with effect from July 1, 1995, the officials of the Central Board of Direct Taxes (CBDT) _ with their limited vision _ would not have anticipated that the new procedure for search and seiz ure assessments would prove to be a fertile ground for litigation within a few years of its coming into force. The very few sections in Chapter XIV B, containing definitions of block period of assessments and undisclosed income _ with built-in provisions laying down the time limits for completion of assessments _ have given rise to disputes involving the nature of evidence, the meaning of undisclosed income, the applicability of Chapter VI A, the role of the Settlement Commission and the status of regul ar assessments when block assessments are taken up.

In the past five years, some of these issues have required the intervention of High Courts, whose decisions have not always been uniform. But the major question, of Chapter XIV B interpretation, continues to be the subject matter of debate before several Benches of the Tribunal. The evolution of the law on the subject does no credit to the authors of the amendment. Neither the Department nor the litigant assessee knows precisely what Chapter XIV B brings to assessment when it talked of undisclosed incom e. It has been pointed out that in Mumbai alone there are more than 530 appeals against block assessment orders before the Tribunal.

Undisclosed income

Utmost controversy centres around the meaning of undisclosed income. The block assessment covers a block period of 10 years up to the date of search and the entire block is treated as a single unit for purposes of assessment. Sec. 158 B(b) defines the te rm undisclosed income in an inclusive way, including all documents, transactions, valuables, money, bullion, and so on, which have not been or would not have been disclosed for the purposes of the I-T Act.

It is also laid down that such document, transaction, and so on, should have been undisclosed at the time of search and it is the search that should have brought the transaction to light. The section contemplates that the undisclosed income for the block period shall be the aggregate of the total income of the previous years falling within the block period which has to be computed in accordance with the provisions of Chapter IV. The computation of the undisclosed income should be made on the basis of ev idence found as a result of search or requisition of the books of accounts or documents and such other materials or information as are available with the assessing officer (AO).

In case, during the search, the search party comes across slips, loose sheets and diaries containing entries about alleged transactions, is it open to the AO to include such transactions in the computation of the undisclosed income? It is here that court s have intervened to hold that the mere fact of such slips and diaries containing entries cannot give rise to an assessment of undisclosed income, these may merely be the starting point of investigation.

Normally, the investigating officers are so overwhelmed by such discovery that they forget to tie the loose ends of the law and jump to the conclusion that whatever is contained in the loose sheets or diaries should be brought to tax and will be enough t o prove the existence of undisclosed income. Even the CBI floundered, as we all know, on the Jain hawala case.

Entries in diaries or loose sheets will have to be proved by corroborative evidence. Assessments made on the basis of mere entries will be struck down in the first appeal itself. The handwriting will have to be proved and the accountant will have to be s ummoned. There should be proof beyond reasonable doubt that what is contained in the diary represents undisclosed income.

Investigating officers are often carried away by self-incriminating statements recorded by them from the victims of the search and use such confessions or admissions (these are two different terms with different meanings) as conclusive evidence in search assessments. At a later stage, the party retracts and the court annuls the assessment for want of corroborative evidence. Even in the latest ruling of the Andhra Pradesh High Court, in CIT vs Sri Ram Das Motor Transport (238 ITR 177), it was laid down t hat mere confessional statement without any documentary proof thereof cannot be used in evidence against the person who gave the statement. There are rulings of the Supreme Court on this subject. Retraction of a confession can land an assessment in peril . Again, there can be no confessional statement on legal issues involved in the case.

One of the issues agitating the taxpayers and the Department with regard to the computation of undisclosed income centres on the question whether income below the taxable limit will form part of the computation. There is no obligation cast on an assessee to file a return for any assessment year if he does not have taxable income for that year.

For example, assume that the assessee does not have taxable income for nine out of the 10 years in the block period. In computing the block period assessment, is it open to the AO to include all such incomes as undisclosed income on the mere ground that returns were not filed for those years? Technically, the matter seems to be arguable. It has not been disclosed in any duly filed return and, hence, can form part of undisclosed income. But there is no obligation on the assessee to disclose. In fact, til l April 1, 1989, the law was that returns filed declaring incomes below taxable limits were to be considered non est in law.

Again, what about such of those cases where salary is drawn and no return is filed? Can salary income be ever considered undisclosed income? The employer, after all, submits a return of tax deduction from salaries under Sec. 206 and this statement covers incomes earned by various employees. The Department knows that there is such a statement under Sec. 206. Rejecting the inclusion of such salary as undisclosed income for the block period, one Bench of the Tribunal quoted the Supreme Court's observations on the law of natural justice in S. Nagaraj vs State of Karnataka (Suppl (4) 595):

``Justice is a virtue which transcends all barriers. Neither the rules of procedure nor technicalities of law can stand in its way. The order of the court should not be prejudicial to anyone. Rule of stare decisis is adhered to for consistency, but it is not as inflexible as administrative law as in public law. Even the law bends before justice. The entire concept of writ jurisdiction exercised by the higher courts is founded on equity and fairness. Technicalities apart, if the court is satisfied of the injustice, then it is its constitutional and legal obligation to set it right by recalling its order.''

In one case, the Department took up the matter to the High Court arguing that as per Sec. 158BB, it is not open to the assessees to contend that there was no obligation to file the returns of income for the years in which the income did not exceed the ma ximum non-taxable limit. The Madhya Pradesh High Court rejected the Department's view and held that no referable question of law arose (CIT vs Kamlesh Daga, 27 ITC 121).

Estimate of undisclosed income

The term `undisclosed income' postulates quantification in precise terms and does not permit guesswork/ estimate of undisclosed income. Recently, there was an interesting controversy between two members of the I-T Tribunal in this regard. During the sear ch of an assessee, it was found that flats were being constructed and sold for fabulous prices. The search revealed payment of on-money for one particular flat and this was confirmed by the buyer of the flat. On the basis of evidence gathered in respect of one flat, the Department chose to estimate on-money in respect of 15 other flats. The judicial member was against such estimate and the accountant member was in favour of the departmental action.

The matter was referred to a third member for final decision. In a learned judgment, the third member ruled that Chapter XIV B did not envisage the applicability of Sec. 145 in computing the undisclosed income for the block period. In the absence of such a provision, no undisclosed income could be computed on estimate basis resorting to Sec. 145 merely because the on-money was proved in respect of one flat. The third member also ruled out action under Sec. 147 in this regard (241 ITR 113).

Other deductions

In the above case, it was also laid down that Chapter XIV B did not contemplate assessments based on presumptions or estimate or by disallowing statutory claims. For example, no block assessment can be made by disallowing the claim for expenditure resort ing to Sec. 40A(3) of the Act. Similarly, no part of sales promotion expenses can be disallowed. It is also to be understood that deduction under Chapter VI A will all be available in computing undisclosed income. Again, if there is material for one year , the same cannot be the basis for other years forming part of the block period.

The method of accounting followed by the assessee cannot be disregarded. If the date for filing the return of income for any previous year has not expired and the income of that previous year or transaction relating to such income is duly recorded, then such income is not required to be included in the block period. The words `undisclosed income' should mean income that is hidden from the Department.

If an assessee receives a gift or earns agricultural income, he is under no obligation to show the receipt of the same in his income. If the Department is aware of the existence of such an asset or the receipt of such income, then it will not form part o f undisclosed income. Chapter XIV B lays down a special procedure for block assessments but it does not permit roving enquiries to be made in respect of completed assessments. The block assessment should be based on material or information found during s earch or enquiry. Unless there is direct or clinching evidence to indicate that the assessee had withheld or had not disclosed or would not have disclosed income, no sustainable assessment for the block period in respect of undisclosed income can be made . The words ``such other material'', as used in Sec. 158 B(b)(1), do not mean that the AO has got unfettered powers to override the rules of evidence so as to make the hypothetical and ad-hoc additions.

No additions can be made of those amounts of capital investments, loans, credits, and so on, which find place in regular books of accounts or bank accounts filed prior to search. Unless there is direct evidence coming to the knowledge of the Department, as a result of search, clearly indicating the factum of undisclosed income, the AO cannot make or review completed assessments. In short, undisclosed income under Chapter XIV B has to be determined on the basis of evidence, documents, materials and infor mation found during search and it has to be authentic, reliable and verifiable information.

Jwellery and ornaments

It is common for the search party to find a lot of jewellery and gold ornaments with assessees during the search. The CBDT has issued Instruction No. 1916 dated May 11, 1994, advising the officers not to seize jewellery and ornaments found not to be in e xcess of gross weight declared in the wealth tax return. The Board also advised that in respect of persons not assessed to wealth tax, there is no need to cease jewellery to the extent of 500 gm per married lady and 250 gm per unmarried lady and 100 gm p er male member of the family. The Karnataka High Court extended the benefit of these instructions to the victims of Chapter XIV B in Pati Devi vs CIT (151 Taxation 350).

Block assessments after a search involve prolonged litigation and require detailed scrutiny. The complicated nature of the case makes it necessary that a high-power body like the Settlement Commission should be entrusted with the task of making block ass essments in bigger cases. It may be useful to approach the Commission to put the disputes to rest.