Deletion of Section 271(1)(c) Penalty Upheld as Interest

Deletion of Section 271(1)(c) Penalty Upheld as Interest Disallowance Under Section 36(1)(iii) Was Debatable

Issue

Whether the Income Tax Appellate Tribunal (ITAT) was justified in deleting the penalty levied under Section 271(1)(c) of the Income-tax Act, 1961, which was imposed following the disallowance of interest on Secured Premium Notes under Section 36(1)(iii), given that the underlying legal issue was debatable and subsequently attained finality.

Facts

Assessment Years: The matter pertains to Assessment Years 1998-99 and 2000-01.
Underlying Addition: The Assessing Officer disallowed the interest claimed by the assessee on Secured Premium Notes under Section 36(1)(iii) of the Act.
Penalty Imposition: Based on the aforementioned disallowance, the Assessing Officer levied a penalty on the assessee under Section 271(1)(c) for alleged concealment of income or furnishing inaccurate particulars of income.
Debatable Nature: The primary legal issue regarding the deductibility of interest on Secured Premium Notes was debatable and was subsequently settled/achieved finality.
ITAT Order: The Tribunal deleted the Section 271(1)(c) penalty on the grounds that a penalty cannot be sustained on an issue that involves a debatable claim of law or deduction.

Decision

Ruling: The High Court/Tribunal answered the question in the affirmative, ruling in favor of the assessee.
Finality of Finding: The Tribunal was correct in law in deleting the penalty levied under Section 271(1)(c) of the Act.
Paragraph Reference: Held in favor of the assessee [Para 3].

Key Takeaways

Debatable Issues Preclude Penalty: A penalty under Section 271(1)(c) for concealment of income or furnishing inaccurate particulars cannot be levied or sustained if the underlying disallowance/addition arises from a debatable legal position or a plausible claim.
Disallowance Does Not Automatically Equal Concealment: Merely because an expense or deduction claimed under Section 36(1)(iii) is disallowed during assessment proceedings, it does not automatically attract penalty under Section 271(1)(c) unless there is deliberate suppression or false information provided by the assessee.

HIGH COURT OF GUJARAT

Commissioner of Income-tax

Nirma Ltd.

BHARGAV D. KARIA and Pranav Trivedi, JJ.

R/Tax Appeal Nos. 2089 of 2009 and 169 of 2010

AUGUST 12, 2026

Utkarsh R. sharma, Sr. Standing Counsel for the Appellant. B.S. Soparkar, Adv. and Mrs. Swati Soparkar for the Respondent.

ORDER

Bhargav D. Karia, J. – Heard learned Senior Standing Counsel Mr. Utkarsh Sharma appearing for the appellant – Revenue and learned advocate Mr. B.S. Soparkar appearing for the respondent. These appeals are admitted for consideration of the following substantial questions of law by order dated 19.07.2011 and 04.05.2011 respectively:

SUBSTANTIAL QUESTION OF LAW IN TAX APPEAL No. 2089 of 2009:

“Whether the Appellate Tribunal is right in law and on facts in reversing the order passed by the CIT(A) and thereby deleting the penalty of Rs.33,66,07,201/- levied u/s. 271 (1)(c) of the Act?”

SUBSTANTIAL QUESTION OF LAW IN TAX APPEAL No. 169 of 2010:

“Whether the Appellate Tribunal is right in law and on facts in reversing the order passed by CIT(A) and thereby deleting the penalty of Rs.9.25 crores levied u/s. 271 (1)(c) of the I.T Act?”

2 Both these appeals are filed by the appellant – revenue being aggrieved by the orders passed by the Income Tax Appellate Tribunal, Ahmedabad ‘A’ Bench, (for short ‘the Tribunal’) in ITA No. 1972/Ahd/2007 for the Assessment Year 2000-01 and ITA No. 1971/Ahd/2007 for the Assessment Year 1998-99, filed by the assessee challenging the confirmation of penalty levied under Section 271(1)(c) of the Income Tax Act, 1961 (for short ‘the Act’) for the respective assessment years. The relevant paragraphs of the impugned order reads as under:

“2 For the year under consideration, the assessee filed its return of incothe on 30.11.2000 declaring income of Rs. 4,28,09,945. Assessment u/s. 143(3) was completed on 31.3.2003 on a total income of Rs. 157.65.29.680 and in pursuance of appellate order passed by the CIT (A) on 29.11.2004 the total income was redetermined at Rs. 157,04,10,400. In the assessment, the main disallowances/additions comprised of the following three items.

“Rs.92,62,52.470 on account of interest etc. pertaining to SPNs (Secured Premium Notes);

ii.

Pre-operative expenses of Rs. 53,73,39,718 and Rs.16,55,02,104 which have resulted in net disallowance of Rs. 62,15,39,797 after netting of depreciation of Rs. 8,12,97,000, and

iii.

Rs. 27,77,824 for excess claim of depreciation

Vide order dt. 29.11.2004 the above disallowance/additions were confirmed by the learned CIT (A) and also by the Tribunal, as observed by the learned CIT (A) in his order.

2.1 The Assessing Officer initiated penalty proceedings u/s. 271(1) (c) of the Act in respect of all the additions including the addition of Rs.92,62,52,740 and ITA No. 1972/Ahd/2007 after considering the explanation of the assessee levied the penalty of Rs.59,69,70,000.

2.2 Aggrieved, assessee carried the matter in appeal before the CIT (A) and the learned CIT(A) vide paragraph 21 and 22 of his order, subject to certain observation, has deleted the penalty u/s. 271 (1) (c) in respect of the additions mentioned in Sl. (11) and (m) of paragraph 2 above of this order Paragraph 21 and 22 of the CIT(A)’s order reads as under:

“21 In regard to the penalty referable to the other two main addition the position is that the Tribunal has followed its earlier order(s) and on that basis vide paras marked 12 & 14 one pages. 26 and 27 respectively of its order dated 30.8.2006 for this year the Tribunal has restored the matters to the file of the Assessing officer for re-adjudication. Obviously, at this point of time penalty u/s 271(1)(c) with reference to the aforesaid two sums cannot be upheld.

22 Out of abundant caution, it may be mentioned that if and when on re-adjudication addition/disallowance is made for the whole or a part of the said two sums of Department would be free to consider the question of exigibility of penalty u/s 271(1)(c) in respect of that sum added or disallowed and take appropriate action in that regard as may be permissible in law then.”

However, the learned CIT(A) upheld the imposition of penalty u/s. 271(1)(c) in respect of the addition in SL.(i) of paragraph 2 of this order i.e. Rs.92,62,52,470 on account of interest etc, pertaining to SPNS (Secured Premium Notes) and this reduced the penalty from Rs.59,69,70,000 to Rs.35,66,07,201.”

2.1 Being aggrieved by the order passed by the CIT(Appeals), the assessee carried the appeals before the Tribunal. The Tribunal, considering the submissions made by both the sides, deleted the penalty by observing as under:

“6.4 We find that before us, the learned AR of the assessee argued at length that the interest on SPN was an allowable expenditure. But this is not a question to be decided in the present appeal. The only question that requires our decision in the present appeal is “Whether on the facts and circumstance, for such disallowance/addition penalty u/s. 271(1)(c) can be levied ?. We find that undisputedly the interest on SPNs was not allowed by the assesseing officer by not accepting various explanations of the assessee and such action of the assessing officer was confirmed by the learned CIT(A) as well as the Tribunal. On further appeal filed by the assesee against the said order of the Tribunal, the same has been admitted by the Hon’ble Gujarat High Court, vide order dt. 20.11.2006 in Tax Appeal No. 1219 of 2006 and others, in terms of the following substantial question of law:

“Whether in the facts and circumstances of the case, the Income Tax Appellate Tribunal was right in law in holding that interest on Special Purpose Notes was required to be disallowed when the said interest was in respect of the capital borrowed for the purposes of the business of the appellant.”

Thus, we find that the dispute as to whether or not the interest on Special Purse Notes was required to be disallowed in the present case is a debatable e and as such, in our considered view, the penalty u/s. 271(1)(c) levied with erence to that disallowance cannot be sustained. While dealing with a similar the ITAT. Bench-C. Ahmedabad in the case of Bill Metal Industries Ltd. ACIT in ITA No. 1204/Ahd/2007 dt. 13.05.2008 has deleted the penalty Jevied u/s. 271(1)(c) of the Act. The relevant portion of the said order is quoted here under for ready reference:

“10. It is true that disallowance made by the AO was upheld by the Tribunal, but in view of the fact that some substantial question of law has been admitted by the High Court on such disallowance, it would be difficult to hold that it was a case of concealment of inome, because this disallowance stands as debatable in view of three decisions Rupam Mercantile Ltd. (In Liqui.) & Ors., Emtici Engg and K.G. Nariman Alias N.K. Gajwani referred to above. Further, the assessee’s case is also covered by the Explanation-1 to section 271(1)(c) which provides for deeming concealment only in a case where such person fails to offer explanations or offers explanations which is found to be false or offers an explanation which he is not able to substantiate and fails to prove that such explanations are bonafide and that all the materials relating to the same and material to the computation of income of his income has been disclosed by him. It is not a case of revenue that assessee has not offered an explanation. It is also not a case of the revenue that explanation furnished by the assessee was false. The assessee’s case falls in the last category ie where the assessee offers explanations, which he is not able to substantiate and fails to prove such explanation was bonafide. Here necessary facts relating to the claim of interest were made before the AO and therefore, in view of the decision of Gujarat High Court in the case of Sarabhai Chemicals Pvt. Ltd. v. CIT, 257 ITR 355 (Guj)and the decision of the Third Member Badridas Keshavprasad v. DCIT 79 ITD 26 and Rupam Mercantile Ltd. (in Liqui.) & Ors. v. DCIT 91 ITD 237 it would not be case of deemed concealment, and consequently, penalty may not be justifiable. Accordingly, we delete the penalty”

Following the decision of the ITAT, C-Bench, Ahmedabad in the case of Bill Metal Industries Ltd. v. ACIT in ITA No. 1204/Ahd/2007 dt. 13.05.2008 the impugned penalty levied u/s. 271(1)(c) is not leviable and as such liable to be deleted and it is deleted.

6.5 Even otherwise on merit also, the impugned penalty cannot be sustained because of the following reasons. It is well settled law that penalty proceedings u/s. 271(1)(c) of the Income tax Act, 1961 are separate and distinct, therefore, addition in the assessment would not automatically authorise the Revenue to impose penalty. In support of this, reliance can be placed on the decisions in case of CIT v. Dharmachand L. Shah (1993) 204 ITR 462 (Bom.) and Gujarat Credit Corpn. Ltd. v. ACIT (2008) 113 ITD 113 (Ahd)(SB). Hon’ble Rajasthan High Court in the case of CIT v. Harshvardhan Chemicals & Minerals Ltd took the view that where the issue relating to a duction is debatable, which has not been allowed as deduction is not sufficient impose penalty u/s. 271(1)(c) of the Income-tax Act, 1961. In support of this proposition reliance can also be placed on the following decisions:

(1)

Durga Kamal Rice Mills v. CIT (2004) 265 ITR 25 (Cal)

(2)

CIT v. Bacardi Martini Ltd. (2007) 288 ITR 585 (Delhi)

(3)

Burmah Sell Oil Storage & Distributing Co. of India Ltd. v. ITO (1978) 112 ITR 592 (Cal)

(4)

CIT v. Amar Nath (1998) 230 ITR 619(AII)

(5)

CIT v. Calcutta Credit Corpon. (1987) 166 ITR 29(Cal)

“Explanation 1 to Section 271(1)(c) of the Income-tax Act, 1961 as stood in the Assessment Year 2000-01, under appeal reads as under “Explanation 1 — Where in respect of any facts material to the computation of the total income of any person under this Act

(A)

such person fails to offer an explanation or offers an explanation which is found by the Assessing Officer or the Commissioner (Appeals) or the Commissioner to be false, or

(B)

such person offers an explanation which he is not able to substantiate and fails to prove that such explanation is bona fide and that all the facts relating to the same and material to the computation of his total income have been disclosed by him then, the amount added or disallowed in computing the total income of such person as a result thereof shall, for the purposes of clause (c) of this sub-section, be deemed to represent the income in respect of which particulars have been concealed.”

On perusal of the above and the in the light of precedents, it reveals that Explanation to Section 271(1)(c) was substituted by the Taxation Laws (Amendment) Act, 1975 w.e.f. 1.4.1976. By this Explanation a fiction has been created for deeming concealment of particulars of income that where in respect of any facts material to the computation of the total income of any person fails to or offers an explanation which he is not able to substantiate and fails to prove penalty is leviable. But if an assessee establishes that the explanation furnished was bona fide and all the facts relating to the same and material for computation of the total income has been disclosed by him. Explanation 1B will be account. On this interest payment, tax has been deducted at source, as required u/s. 194A of the Income-tax Act, 1961. The books of accounts were statutorily audited as required under the Companied Act, 1956 as well as 44AB of the Income-tax Act, 1961. It is nobody’s case that the interest expense was not incurred. The interest on NCDs has been allowed u/s. 36(1)(iii) of the Income-tax Act, 1961. In this view of the matter, we are convinced that in the facts and circumstances of the case, the penalty levied u/s 271(1)(c) of the Income-tax Act. 1961 in respect of disallowance of interest/addition of Rs. 92.62.52.470/-is hereby cancelled.

7 In ground No.3, the assessee has challenged the observation of the learned CIT(A) given in paragraph 22 of his order, which is quoted earlier While deleting the panalty levied u/s. 271()(c) of the Act in respect of additions mentioned in Sl. (ii) and (ii) of paragraph 2 of this order, the learned CIT(A) has observed that the Department would be free to consider the question of exigibility of penalty u/s. 271(1)(c) in respect of that sum added or disallowed and take appropriate action in that regard as may be permissible in law then. We find that the CIT(A) has deleted the penalty u/s. 271(1)(c) of the Act in respect of the above additions. In view of this, the above observation made by the learned CIT(A), which is general in nature, does not rise any cause of action for filing of the appeal. Therefore, we dismiss ground No. 3 of the assessee.”

2.2 It was submitted by learned advocates for the respective parties that Nirma Ltd v. Asstt. CIT [Tax Appeal No. 277 of 2007, dated 11-10-2017] and Nirma Ltd v. Asstt. CIT [Tax Appeal No. 328 of 2007, dated 11-10-2017] were preferred by the assessee against the order of the Tribunal confirming the quantum and this Court, following the judgement and order of this Court passed in Nirma Ltd v. Asstt. CIT [2018] 405 ITR 277 (Guj)/Tax Appeal No.1219 of 2006 decided both the appeals by separate orders dated 11.10.2017 in favour of the assessee.

2.3 It was, therefore, submitted that in view of the reversal of the order of the Tribunal by this Court on quantum, the very basis of the penalty would not survive, and therefore, these appeals are liable to be dismissed.

3. Considering the above submissions and in view of the orders dated 11.10.2017 passed in Tax Appeal No. 277 of 2007 and Tax Appeal No. 328 of 2007, wherein, this Court by following its judgement and order in Tax Appeal No.1219 of 2006 dated 10.10.2017, answered the question with regard to interest on secured promissory note that the interest was not required to be disallowed and admittedly, the said interest was for the purpose of business. The Tribunal has, therefore, rightly deleted the penalty levied upon considering the debatable issue which has now achieved finality

4. Both the questions of law are, therefore, answered in favour of the assessee and against the revenue. The appeals are, accordingly dismissed.