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Smart Summary

Structured Summary of the Opinion (P. Jaganmohan Reddy, J.)

Factual and Procedural Background

This reference arises pursuant to orders of this Court in C.M.P. No. 1775 of 1954 dated 2-8-1955, when the Income-tax Appellate Tribunal, Madras Bench, stated a case on the question: “Whether there is material on which the Tribunal could estimate the income at Rs. 30,000/-”.

The assessee was a money-lender whose business involved lending mainly on pledge of jewellery and promissory notes. The assessment under challenge concerned the accounting period ending 6-4-1951 (assessment year 1951-1952). The assessee had declared net interest receipts of Rs. 19,922 and a total income of Rs. 17,214. During an Income-tax Inspector's enquiry, three receipts were discovered (dated 29-5-1950 for Rs. 725; 18-6-1950 for Rs. 650; 24-10-1950 for Rs. 400). The assessee explained that the Rs. 400 loan had been entered (but omitted inadvertently from the ledger) and that the other two loans were loans of his daughter and therefore not entered in his books.

The Income-tax Officer disbelieved the daughter's ownership explanation, relied on enquiries which suggested the assessee habitually omitted transactions and charged rates higher than those permitted by the Pawn Brokers Act, and estimated the assessee's net interest income at Rs. 30,000. The Appellate Assistant Commissioner upheld that estimate, finding the assessee's explanation improbable, noting that the assessee had advanced about Rs. 9.29 lakhs and financed advances largely by bank borrowings. The Income-tax Tribunal also confirmed the assessment, holding that the books did not disclose the true state of affairs and that the estimate was not excessive or arbitrary.

The matter came before this Court on the specific question whether there was material to justify estimating income at Rs. 30,000.

Legal Issues Presented

  1. Whether there was material on which the Tribunal (and Income-tax authorities) could estimate the assessee's income at Rs. 30,000/-.
  2. Whether the Income-tax authorities, in making an assessment under Section 23(3) of the Indian Income-tax Act, acted arbitrarily by failing to disclose the basis of their estimate and by not giving the assessee an opportunity to rebut the material or basis of the estimate.

Arguments of the Parties

Appellant (Assessee)

  • The assessee explained that two of the discovered receipts (Rs. 725 and Rs. 650) related to loans made by his daughter and therefore were not shown in his books; the Rs. 400 loan had been entered in the loan account but omitted from the ledger by inadvertence.
  • Implicitly, the assessee relied on these explanations to challenge the rejection of his books and the high estimate of income.

Respondent (Income-tax Authorities)

  • The Income-tax Officer and the Appellate Assistant Commissioner concluded that the assessee's explanation was unproved and unconvincing — enquiries suggested the assessee habitually omitted transactions and charged higher rates of interest than prescribed.
  • They estimated net interest income at Rs. 30,000 on the basis of enquiries and the overall scale of advances (about Rs. 9.29 lakhs) and financing by banks; they maintained that the books did not disclose the true state of affairs and rejected the accounts.
  • The Income-tax Tribunal confirmed the assessment on the grounds that the books were unreliable and the estimate, given the amount lent, did not seem excessive or arbitrary.

Table of Precedents Cited

Precedent Rule or Principle Cited For Application by the Court
The Maharaja of Dharbhanga's case, 60 I.A. 146 (also cited I.L.R. 9 Patna 240) Income-tax Officer is not entitled to guess; assessee may adduce evidence to displace taxing officer's estimate. Cited as authority supporting the proposition that an assessee must be given the opportunity to rebut an estimate and adduce relevant evidence.
Ferozshah v. Commissioner of Income Tax, Punjab, 60 I.A. 325 Assessment at flat rate considered in light of whether assessee had opportunity to object; relevance of prior years' assessments. Quoted for the point that the courts assumed the assessee had an opportunity to rebut a flat-rate fixation; used to show the necessity of giving opportunity to the assessee.
Seth Gurmukh (Gurumukh) v. Commissioner of Income Tax, Punjab, XII I.T.R. 393 Natural justice requires the assessing officer to draw the assessee's attention to material and give opportunity to produce evidence in rebuttal when ignoring material produced by the assessee. Cited as part of a line of authority establishing the duty to inform and permit rebuttal; relied upon to require disclosure of the basis of the estimate.
Lal Mohon Krishna Lal Paul v. Commissioner of Income-Tax, Bengal, XII I.T.R. 446 Analogous principle that the assessee should be given an opportunity to rebut material relied upon for assessment. Included among decisions holding that ignoring the assessee's material without giving opportunity violates natural justice; supports the court's view.
Seth Nathuram Mummalal v. Commissioner of Income tax, C.P. and Berar, XXV I.T.R. 216 Same principle regarding duty to inform assessee of material and permit rebuttal. Used with other High Court decisions to demonstrate consistent judicial view that assessing authorities must disclose basis and allow rebuttal.
Dewanbahadur Ramgopal Shri Kishen v. Commissioner of E.P.T., Hyderabad, I.L.R. 1952 Hyd. 728 Analogous finding by Hyderabad High Court on the duty to disclose and permit rebuttal under similar provisions. Cited as further support for the requirement of notice and opportunity before making an assessment ignoring assessee's material.
Gunda Subbiah v. Commissioner of Income Tax, Madras (Full Bench) The appellate authority must know the basis of the order; if the basis is not disclosed the matter should be referred back to the assessing officer so the position can be found out. Relied on to emphasise that an order should disclose its basis so appellate authorities and courts can understand why the order was passed.
Madupalli Anjaneyulu & Co. v. State of Andhra; Vuddagiri Kanakaraju & Sons v. The Andhra State (Sales Tax Act decisions) Where an estimate of profit is based on profit earned by similar trades, there must be material before the assessing authority furnishing the basis, and the assessee must be informed so he can rebut. Applied by analogy to income-tax assessments to require that the assessing authority furnish the basis for estimation and give the assessee an opportunity to show cause.
Dhakeswari Cotton Mills Ltd. v. Commissioner of Income tax, West Bengal (Supreme Court) Income-tax Officer may act on material not acceptable as court evidence but is not entitled to make a pure guess; there must be something more than bare suspicion to support assessment under Section 23(3). Quoted as authoritative support for the proposition that an assessment under s.23(3) must be based on some material and not mere conjecture; reinforced the Court's conclusion that the estimate here amounted to a guess.

Court's Reasoning and Analysis

The Court proceeded in two connected stages.

  1. On the rejection of the books: The Court accepted the Income-tax authorities' conclusion that the assessee's explanation for the discovered receipts was unsatisfactory. The opinion notes that the learned advocate for the assessee could not show why the authorities were not justified in rejecting the accounts given the assessee's inability to prove that the two receipts were loans of his daughter. The Court observed that, as a matter of ordinary commercial practice, if the monies belonged to the daughter and were lent through the assessee, a businessman would have entered those amounts in his accounts. Therefore, the Court was satisfied that the rejection of the account books was not improper.
  2. On the estimate of income (arbitrariness and procedural fairness): The Court identified the principal question as whether the estimate of Rs. 30,000 was arbitrary because the authorities did not disclose, nor give the assessee an opportunity to rebut, the materials or basis of the estimate. Citing Section 23(3) of the Indian Income-tax Act, the Court emphasised that the assessing officer, after hearing evidence and taking other evidence as required, must make an assessment in writing based on such assessment; it is thus fair and equitable to give the assessee an opportunity to show that the material or basis is incorrect.

    The Court relied on a line of High Court and Privy Council and Supreme Court authorities (listed above) holding that:

    • Assessing officers are not entitled to make assessments by pure guess; there must be more than bare suspicion to support an assessment under Section 23(3).
    • Where an assessing officer proposes to make an assessment disregarding material produced by the assessee, principles of natural justice require that the officer should draw the assessee's attention to such material and give an opportunity to rebut.
    • Orders should disclose the basis on which they are made so that appellate authorities and courts can understand the rationale; if the basis is not disclosed, the matter may need to be referred back to the assessing officer.

    Applying these principles to the facts, the Court found that the Income-tax authorities' mere statement — that enquiries "reliably inferred" omission of transactions and charging higher rates — was insufficient. It was not shown that the assessee had been given an opportunity to meet this material, and the assessment did not furnish the basis on which the estimate was made. Consequently, the Court concluded that the estimate amounted to a guess rather than an assessment grounded on disclosed material and opportunity to rebut.

    Holding and Implications

    Holding: The Court answered the referred question in the negative — there was no sufficient material on which the Tribunal could properly estimate the income at Rs. 30,000/-. The reference is therefore answered in the negative. The Court awarded costs to the assessee-applicant in the sum of Rs. 250.

    Implications:

    • Direct effect on the parties: The estimate of income at Rs. 30,000 made by the Income-tax authorities and confirmed on appeal was held not to be justified because the basis of that estimate was not disclosed and the assessee was not shown to have been given an opportunity to rebut the material relied upon; costs of Rs. 250 were awarded to the assessee.
    • Broader implications: The opinion reiterates and applies established principles (from several High Court decisions and the Supreme Court) that an assessing officer under Section 23(3) must act on some disclosed material and must afford the assessee an opportunity to meet the material relied upon; however, the opinion itself does not state that it establishes a new precedent beyond applying and reaffirming those principles.

    Reference answered. (T.A.B.)

    Nagulakonda Venkata Subba Rao v. Commissioner Of Income-Tax

    P. Jaganmohan Reddy, J.:— Pursuant to the orders of this Court in C.M.P No. 1775 of 1954 dated 2-8-1955, the Income-tax Appellate Tribunal, Madras Bench, has now stated a case on the following question, viz.,

    “Whether there is material on which the Tribunal could estimate the income at Rs. 30,000/-”

    2. The assessee is a money-lender and lent monies mainly on the pledge of jewellery and also on promissory notes. The assessment which is the subject matter of this reference was for 1951-1952 on the income, profits and gains accrued during the accounting period which ended on 6-4-1951. The assessee declared the net interest receipts at Rs. 19,922/- and a total income of Rs. 17,214/-. It is stated that as a result of the Income-tax Inspector's enquiry, three receipts one dated 29-5-1950 by K. Joginaidu for Rs. 725/-, the second dated 18-6-1950 by N. Ganganna's son Kondanna for Rs. 650/- and the third dated 24-10-1950 by P. Apparao for Rs. 400/- were discovered. From these receipts it appears loans were given on interest ranging from 0-12-0 to 1-4-0% per mensem and on the assessee being asked to explain why the amounts covered by these receipts were not entered in the cash book, and ledger, he was able to show only in so far as the loan of Rs. 400/- of Apparao is concerned that it had been entered in the loan account, but by inadvertence it was not brought into the ledger. With respect to the other two receipts he urged that these loans were given by his daughter and that is why they were not brought into his accounts. The Income-tax Officer, Vizianagaram, disallowed this contention as the assessee was not able to prove that the loan really belonged to his daughter that enquiries made by the Inspector also show that the assessee was in the habit of lending money on pledge of jewellery at rates higher than those prescribed by the Pawn Brokers Act and omitting them from the books. In view of the assessee's failure to establish his story that the money belonged to his daughter and on the basis of the enquiries made he estimated the assessee's net interest income at Rs. 30,000/-. On appeal the Appellate Assistant Commissioner, Vijayawada maintained that order on the ground that the explanation given by the assessee was highly unconvincing and improbable and that the daughter of the assessee was not known to be a money-lender, a fact which was admitted by the advocate of the assessee who stated that she was not lending any monies at all except for these two loans which were the only transactions of the daughter. The Appellate Assistant Commissioner found that the total advances by the assessee were Rs. 9.29 lakhs, the credit balance in the appellant's capital account being Rs. 1.74 lakhs. The major portion of the money required for the advances was obtained from the Imperial Bank and the Andhra Bank. From the former Rs. 3,58,479/- was borrowed at an interest of 5% and from the latter a sum of Rs. 2,76355/- was borrowed at an interest of 6%. In the result he held the estimate made by the Income-tax Officer was justified. On appeal the Income Tax Tribunal also confirmed this assessment as the books did not disclose the true state of affairs and were correctly rejected, and as the estimate of income made, having regard to Rs. 9 lakhs lent, did not seem either excessive or arbitrary.

    3. Before us, learned advocate for the assessee was unable to show why the Income-tax authorities were not justified in rejecting the accounts having regard to his inability to support the explanation that the two receipts were in fact obtained on the monies lent by his daughter. In the absence of a satisfactory explanation, the Income-tax authorities were justified in concluding that the assessee was not maintaining his books properly and that though there were only two receipts, it gave an indication as to the manner in which the assessee kept his accounts. If the monies, in fact, belonged to the assessee's daughter and he had lent them for her, it is a reasonable presumption that a businessman like the assessee would as a matter of ordinary commercial practice, bring these amounts into his accounts as monies belonging to his daughter. We are satisfied that the rejection of the account books was not improper.

    4. But the question in this case is not so much the justification of the rejection of the account books as the arbitratiness of the estimate made by the Income-tax authorities. It is contended that the Income-tax authorities neither disclosed, nor gave the assessee an opportunity to rebut, the materials or basis of the estimate. The assessment is one under Sub-section (3) of Section 23 of the Indian Income-tax Act which requires that the Income-tax Officer after hearing such evidence as the assessee may produce and such other evidence as the Income-tax Officer may require on specified points shall, by an order in writing assess the total income of the asssessee on the basis of such assessment. In making such assessment it is fair and equitable to conclude that the assesses will be given an opportunity of showing, if he can, that the material or the basis upon which the Income-tax Officer proposes to assess his income is incorrect. This view has been taken not only by this High Court, but also by several High Courts in India and by the Privy Council and the Supreme Court. In The Maharaja of Dharbhanga's case 60 I.A 146., in appeal from the same case reported in I.L.R 9 Patna 240, their Lordships agreed with the Patna High Court that the Income-tax Officer is not entitled to guess, adding that “if the assessee wished to displace the taxing officer's estimate, it was open to him to adduce evidence of all his purchase transactions during the year and of the financial results thereof, which he apparently made no attempt to do”. Again in Ferozshah v. Commissioner of Income Tax, Punjab 60 I.A 325., their Lordships took into, account the fact that the assessee did not object to the assessment during the previous two years at a flat rate of 32½% and since the same percentage was maintained in the accounting year, they disallowed the contention of the assessee. In both these cases the observations of their Lordships proceeded on the assumption that the assessee was given an opportunity to rebut by evidence the fixation of flat rate by the Income-tax authorities. In Seth Gurmukh v. Commissioner of Income Tax, Punjab XII I.T.R 393., Lal Mohon Krishna Lal Paul…Assessee; v. Commissioner Of Income-Tax, Bengal XII I.T.R 446., Seth Nathuram Mummalal v. Commissioner of Income tax, C.P and Berar XXV I.T.R 216., and Dewanbahadur Ramgopal Shri Kishen v. Commissioner of E.P.T, Hyderabad I.L.R 1952 Hyd. 728., the Lahore, Calcutta, Nagpur and the erstwhile Hyderabad High Courts respectively held that where the Income-tax Officer or the Excess Profits-tax Officer under an analogous provision proposes to make an assessment in disregard of the material produced by the assessee, natural justice demands that he should draw the assessee's attention to it and give him an opportunity to produce evidence in rebuttal. It may be noted that the Income-tax Officers in the discharge of their duties under the Act receive a good deal of information which is not all evidence according to the accepted notions of law. Consequently it is only fair and just that the accuracy or otherwise of such information will have to be ascertained and the only way of doing so is to give an opportunity to the assessee who can urge his plea as to whether the income-tax Officer is misinformed. At any rate, after giving this opportunity the Income-tax Officer will always be in a better position to know as to what extent that information is right and whether he should act upon it or not. In Gunda Subbiah v. Commissioner of Income Tax, Madras, Leach, C.J, delivering the judgment of the Full Bench, also expressed the view “when considering whether an order is right, the appellate authority must, of course, know on what it is based and if the basis of the order is not disclosed in the order itself it means that the appellate authority will have to refer the matter back to the Income-tax Officer in order to find out what the position is. Moreover, this Court has often to consider an order of an Income-tax Officer and it is convenient to this Court to know from the order itself why it was passed.” In two decisions of this Court my Lord the Chief Justice and Satyanarayana Raju, J., considered a similar question on the analogous provisions of the Sales Tax Act in Madupalli Anjaneyulu & Co. v. State of Andhra and Vuddagiri Kanakaraju & Sons v. The Andhra State and held that where an estimate of profit is made on the basis of profit earned by similar trades, similarly situated and circumstanced, then there must be material before the assessing authority which must furnish the basis for estimation of the profit and that it is the duty of the assessing authority to intimate the assessee the amount of profit earned in trades similarly situated and circumstanced and give an opportunity to the assessee to show cause why his profits should not similarly be estimated. Finally their Lordships of the Supreme Court in Dhakeswari Cotton Mills Ltd. v. Commissioner of Income tax West Bengal put their seal of authority on this proposition when they observed at page 782:

    “….We are in entire agreement with the learned Solicitor-General when he says that the Income-tax Officer is not fettered by technical rules of evidence and pleadings and that he is entitled to act on material which may not be accepted as evidence in a Court of law, but there the agreement ends; because it is equally clear that in making the assessment under Sub-section (3) of Section 23 of the Act, the Income-tax Officer is not entitled to make a pure guess and make, an assessment without reference to any evidence or any material at all. There must be something more than bare suspicion to support the assessment under section 23(3). The rule of law on this subject has in our opinion been fairly and rightly stated by the Lahore High Court in the case of Seth Gurumukh Singh v. Commissioner of Income tax Punjab (XII I.T.R 393).”

    5. In our view the mere statement of the Income-tax authorities that on the enquiries instituted by the Income-tax Officer they were reliably inferred that the assessee was not only in the habit of omitting transactions from his books, but was known to charge much higher rates of interest than the prescribed one, is not sufficient. It is not in the first place shown that the assessee was given an opportunity, nor is it sufficient to justify the assessment which not only does not furnish the basis on which the estimate is made but which, without doubt, can be said to be a guess. In the result our answer to the question referred to is in the negative. The reference is answered accordingly with costs to the assessee-applicant which we assess at Rs. 250/-.

    T.A.B

    6. Reference answered.

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    Nagulakonda Venkata Subba Rao v. Commissioner Of Income-Tax
    (Nov 26, 1956)