New Procedure of Assessment in Survey and Search Cases

Sections 132 and 133A of the Income-tax Act, 1961, dealing with searches and surveys respectively, are two very powerful weapons in the armory of the Income-tax authorities to check tax evasion and un-earth undisclosed income.  Far reaching changes have been made in recent years in the provisions relating to surveys and searches.  While a new procedure of assessment in search cases, has been laid down, the changes in survey provisions have also material implications on assessments in survey cases.

Assessments in survey cases

2. The survey action u/s 133A is an important method of gathering information for the purpose of making proper assessment.  An income-tax authority, conducting a survey, is authorized to check, verify and make inventory of cash, stock or other valuable articles, record the statement of any person, inspect the books of account and other documents, place marks of identification and also impound and retain in  custody, the books of account or other documents after recording reasons for doing so.  The provision for impounding and retaining  of books of account and other documents was introduced by Finance Act - 2002 w.e.f. 01.06.2002 by inserting clause (ia) to section 133A(3).  Such books of account or other documents could be retained by the Income-tax Authority for 15 days without the Chief Commissioner’s or Director General’s or Commissioner’s or Director’s approval.  Finance Act – 2003 has, however, reduced this period to 10 days.  Besides, now only the Chief Commissioner or Director General is authorized to grant the approval for retention beyond 10 days.   Finance Act – 2003 has also inserted a proviso to section 133A because of which any survey action from 01.06.2003 and onwards requires the prior approval of the Joint Director or Joint Commissioner of Income-tax.  Earlier the survey could be carried out by an Assistant Director or a Deputy Director or an Assessing Officer or a Tax Recovery Officer and, with their approval by the Income-tax Inspectors.

3. There are many issues arising out of recent amendments in section 133A concerning inadequate safeguards against misuse of powers, recording of reasons, impounding and almost indefinite retention of books, even pertaining to the current year, with Chief Commissioner’s approval and non-furnishing of copies of the impounded books of account and documents.  The constitutionality of some of these provisions is also an important issue.  We shall, however, confine ourselves to some of the important issues relating to the procedure of assessment in survey cases namely:

(i)    Relevancy of material in making assessment
(ii)   Effect of incriminating material on other years’ assessments.
(iii)  Legal presumptions about the return filed after survey incorporating the impact of incriminating material including excess stock etc.
(iv)  Evidentiary value of the statement during survey.
(v)   Levy of penalty u/s 271(1)(c).
(vi)  Seizure of valuables during survey for recovery of taxes.

(i) Relevancy of material

4.  The result of survey may be material in making the assessment.  It will not be the date of survey that will be relevant for the determination of the question as to whether the result of the survey would be related to a particular assessment year.  What is material is the dates of the suppressed transactions, if any, that will be discovered as a result of the survey.  For example, if the transactions brought to light concern the current year as also several earlier years, the material gathered can be used for making the assessments/re-assessments for the relevant years.  There are several sales tax cases where this proposition of law has been well established.  Some of them are Shyam Lal Om Prakash v. CST, (1972) 29 STC 385, 387 (All); Abdul Samad v. CST (1972) 29 STC 390 (All); Babu Ram Vishnoi v. CST (1972) 29 STC 392 (All); Umraolal Sheo Ratan Das v. CST (1973) 31 STC 609 (All);  Krishna Bricks Field v. CST (1977) 40 STC 315 (All); Suraj Kumar Pandey v. CST (1978) 42 STC 452 (All);   Ashok Stores v. CST (1977) CTR (All) 172.  They are equally applicable to income-tax assessments.

(ii) Effect of incriminating material on other years’ assessments

5. If certain transactions, for a year or more than one year are discovered that by themselves, will not entitle the AO to re-open the assessment u/s 147 for the preceding six years. The provisions of section 153A applicable to search cases are not applicable to survey cases.  The incriminating material for one year can not be used for a different assessment year on the assumption that similar transactions would have been entered into and not shown in the account books or taken into consideration in computing the income.  [Mahesh Chandra Surendra Nath v. CST (1972) UPTC 637 (All); CST v. Umrao Lal Sheo Ratan Das (1973) UOTC 146 (All); Gulab Chand Jain v. CST (1982) UPTC 143 (All); Baij Nath Prasad v. CST (1987) 67 STC 346, 347(All); Baleshwar Flour & Oil Mills v. CST (1987) 67 STC 450 (All)].

(iii) Presumption about tax return filed after survey

6. There is no presumption that a tax return filed after the survey is the one furnished after the detection of un-recorded income.  At best, it raises a rebuttable presumption that can be displaced during the course of assessment proceedings.   For example, if an assessee discloses the excess stock by way of additional income by showing the same in the sales of the year or in the closing stock, there is no presumption that he did so after detection during the course of survey.  In any case, he can lead evidence to show that since he had the time in law to file the return which became due after the survey, the income disclosed after taking into account the excess stock is bonafide.  Similar position can be taken with regard to the incriminating documents in respect of the year for which the return of income was due but had not been filed as on the date of survey.  The amount of evidence necessary for rebutting the presumption arising out of the survey is a matter in the realm of sufficiency or adequacy of evidence necessary to reach a conclusion of fact.  It does not give to a rise to a question of law.  [CIT v. Mayank Rottomack (1999) 149 Taxation 364 to 367 (Guj)].

(iv) Evidentiary value of the statement during survey

7. A statement recorded u/s 133A(3)(iii) has no evidentiary value and, therefore, the offer of any additional income during the course of survey, loses its shine.  Under the said section, the income-tax authority is authorized to “record the statement of any person which may be useful for, or relevant to, any proceeding under the Act”.  Unlike statements under sections 131 and 132(4), it is not recorded on oath which alone could provide it the evidentiary value.

8. The value of the statement recorded u/s 133A(3)(iii) was the subject matter of examination before the Kerala High Court in a recent decision in Paul Mathews & Sons v. CIT 129 Taxman 416 (Ker.).  In this case, a survey was conducted on 23rd January 2001.  A senior partner of the assessee firm offered Rs. 43 lacs as additional income for the A.Ys. 1998-99 to 2000-01.  The ITO, however, completed the assessment by applying a net profit rate though the amount of additional income assessed was approximately the same as was offered during the course of survey.  The CIT set aside the ITO’s order u/s 263 on the ground that the income offered u/s 133A should have been added to the income originally assessed.  The Tribunal confirmed the order.  The High Court found that the ITO had properly exercised his jurisdiction.  In doing so, the Court also examined the scope of the statement recorded u/s 133A(3)(iii) and observed as under:

“…Section 133A(3)(iii) enables the authority to record the statement of any person which may be useful for, or relevant to, any proceeding under the Act.  Section 133A, however, enables the Income-tax authority only to record any statement of any person which may be useful, but does not authorize for taking any sworn statement.  On the other hand, we find that such a power to examine a person on oath is specifically conferred on the authorized officer only u/s 132(4) of the Income-tax Act in the course of any search or seizure.  Thus, the Income-tax Act, whenever it thought fit and necessary to confer power to examine a person on oath, the same has been expressly provided whereas section 133A does not empower any Income-tax Officer to examine any person on oath.  Thus, in contradistinction to the power u/s 133A, section 132(4) of the Income-tax Act enables the authorized officer to examine a person on oath and any statement made by such person during such examination can also be used in evidence under the Income-tax Act.  On the other hand, whatever statement recorded u/s 133A of the Income-tax Act is not given any evidentiary value obviously for the reason that the officer is not authorized to administer oath and to take any sworn statement which alone has the evidentiary value as contemplated under law.  Therefore, there is much force in the argument of the learned counsel for the appellant that the statement elicited during the survey operation has no evidentiary value and the Income-tax Officer was well aware of this.”

9. While the statement recorded during the course of survey has no evidentiary value, the view of the assessee as to the interpretation of documents mentioned in his statement would be relevant for making the assessment.

(v) Levy of penalty u/s 271(1)(c)

10.  Explanation-5 to section 271(1)(c) saves the assessee from penal consequences  if, during the course of search u/s 132, he makes a disclosure of additional income in a statement u/s 132(4), that is shown subsequently in the return which had not fallen due on the date of search or for which the previous year ended after the search.  The question arises if the statement recorded during the course of survey u/s 133A(3)(iii) has the same effect as the statement u/s 132(4) so as to save the assessee from the penal consequences by taking advantage of Explanation-5 to section 271(1)(c).

11.  In view of the scope of the statement u/s 133A(3)(iii) being totally different from that of the statement u/s 132(4), the Kerala High Court held in Paul Mathews & Sons (supra) that “it has no evidentiary value”.  It, therefore, appears that the tax payer is not protected against the penal consequences u/s 271(1)(c) if he makes any confession in respect of suppressed income in the said statement.   

12. Perhaps there is no advantage in making any surrender of additional income during the course of survey.   Its only use may be not to irritate the survey officers.  The current years’ income or excess stock etc, of course, can be disclosed at the time of filing of the return and incorporated in the books of account.  The penal consequences in respect of additional income of the year for which the return had not fallen due can perhaps be saved by taking the position that the deeming position in Explanation-5 to section 271(1)(c) is for a specific purpose and cannot be extended beyond its legitimate field of searches u/s 132.  It can be contended that for survey cases, the pre-Explanation-5 law will be applicable.

(vi) Seizure of valuables during survey for recovery of taxes

13. While books of account and other documents can be impounded and retained by the AO during survey, cash, stock or other valuable articles can be seized by the TRO, if there are tax arrears due against the assessee.  The TRO has to follow the procedure laid down for attachment and sale of movable property laid down in Part II (Rules 20 to 47) of the 2nd Schedule to the Income-tax Act.  For example, where promissory notes were attached and seized by the TRO in accordance with rule 30 of Schedule II after issue of notice in ITCP-9 and he appropriated the same in satisfaction of tax arrears due from the assessee, the action of the TRO as also his presence during survey operations was held to be justified by the Madras High Court [N.K. Mahnot v. DCIT (1999) 240 ITR 562 (Mad)]
         
ASSESSMENT IN SEARCH & SEIZURE CASES

14. Finance Act – 2003 has, vide a newly inserted section 158BI,  replaced the block assessment scheme of assessment in search cases in respect of searches conducted on or after 1st June, 2003. The existing Block Assessment Chapter-XIVB will not apply to the search proceedings initiated u/s 132 or requisition made u/s 132A from that date.   Three new sections, 153A, 153B and 153C, have replaced the block assessment procedure. They provide for re-opening of assessments for the six preceding years, including of the third parties, and their completion in the normal course after taking into account the seized material. The tax will be levied at the rates applicable to the concerned years.   Interest, penalty and prosecution provisions will be applicable as for concealment of income in non-search cases.  The objective is to make concealment of income less attractive.   Earlier, a single block assessment of undisclosed income could be completed covering the six assessment years preceding the year of search and the period of the current year up to the date of search.  Tax of 60% and surcharge applicable to the year of search was charged on the undisclosed income.  The block assessment procedure was felt as providing inadequate deterrence. There were also difficulties of characterization of undisclosed income as it postulated two parallel streams of assessment, one for regular assessment and other for Block Assessment for the same period.

15. Section 153A provides the procedure for completion of assessment where search is initiated u/s 132 or books of account, other documents or assets are requisitioned u/s 132A.  The AO shall issue notice to the person concerned calling upon him to furnish, within the period specified in the notice, the returns of income in respect of each of the six assessment years immediately preceding the assessment year in which the search was conducted or a requisition made.  The six years will thus stand automatically re-opened.  The only legal requirement will be the initiation of a search, i.e. the issue of a warrant of authorization and the drawing of a panchnama or a requisition u/s 132A.   Further, the AO shall assess or re-assess the total income of each of the six years.  An assessment or re-assessment pending on the date of initiation of the search u/s 132 or requisition u/s 132A, as a case may be, shall abate.  Para 65.5 of Board’s Circular No. 7/2003 dated 05.09.2003 explaining the provisions of Finance Act – 2003, has clarified that “the appeal, or rectification proceeding pending on the date of initiation of search u/s 132 or requisition shall not abate.”  Thus where the assessment proceedings are pending before the AO, they will abate.  Where no assessment proceedings were initiated and the returns of income were accepted, there will be no question of any proceeding abating as none will be pending on the date of search.

16. Tax will be chargeable at the rates applicable to each of the six assessment years and other provisions of the Act like interest, penalty and prosecution will be applicable to such assessments.

17. For the current year, i.e. the year of search, the return cannot be called for u/s 153A.  It will be submitted by the due date prescribed in Explanation 2 to section 139(1).

18. Section 153B prescribes the time limit for completion of search assessments.  It provides for making the order of assessment or re-assessment in respect of each of the six years as also for the year of search, within a period of two years from the end of the financial year, in which last of the authorization for search u/s 132 or for requisition u/s 132A was executed.   In computing the limitation, the period during which the assessment proceeding is stayed by an order or injunction of any court; the period during which the accounts are ordered for special audit u/s 142(2A) or in case where an application made before the Settlement Commission u/s 245C is rejected; the period from the date of the application to the date of receipt of order of rejection by the Commissioner and the time taken in giving an opportunity to the assessee of being re-heard under the proviso to section 129, shall be excluded.  If the remaining period of limitation for making the assessment or re-assessment is less than 60 days, such remaining period shall be extended to 60 days.

19.  The new section 153C corresponds to the old section 158BD and provides for assessment against any third party in respect of seized assets or records belonging to him and handed over to his AO.  Here also the AO shall proceed against such third party and issue notices and make assessments or re-assessments for seven years in accordance with section 153A read with section 153B.

IMPORTANT ISSUES IN SEARCH ASSESSMENTS

20. Several issues arise in connection with the new assessment procedure for search cases.  Some of important ones are dealt below:

(i) Existence of reasons to believe and recording of reasons not necessary

21. By specifically dispensing with the application of sections 147, 148, 149, 151 and 153 through the newly inserted section 153A, the existence of ”reasons to belief” has become  un-necessary. There is also no requirement about the existence of any undisclosed income before issuing of a notice of assessment/re-assessment.  Once a warrant of authorization is issued and a panchnama is drawn, or a requisition u/s 132A is made, the AO, by a single notice, will require the furnishing of returns of income for each of the six preceding years.

(ii) Even absence of incriminating material entails search assessments

22. Since section 153A provides for automatic issue of notices for six years in search cases, it is not necessary to see whether any incriminating material has been found or not.  It follows that even if there was no escapement of income and search action was a failure, the AO is enjoined to make assessments/re-assessments for the preceding six years.   Some situations can really lead to great hardship to honest assessees.  Suppose, a requisition is issued for taking possession of cash or bullion seized by the customs authority or by a police officer found from the person of the assessee or his employee.  Even if the source of cash or bullion is explained and there is no escapement of income, still proceedings will have to be started for six preceding years u/s 153A/153C and of course, for the year of requisition u/s 132A.  The inconvenience to the assessee to go through the assessment/reassessment proceedings, for no fault of his, can well be imagined.  Worse still, he will face extra interest liability where the pending assessment proceedings abate.  He will be charged interest u/s 234B up to the date of assessment u/s 153B(1)(a) and not up to the date of limitation for completing the regular assessment, if it were not abated. Thus an assessee will not only suffer the inconvenience and harassment of an abortive and fruitless search, but will also be called upon to pay interest for a longer period as a consequence of the abatement of a pending assessment.  Besides, six years’ assessments/re-assessments will need to be made even if the concealment is found in one or two years.  This will involve needless paper work and waste of time all around and harassment of the assesses.  Board may issue instructions clarifying that the new procedure would be applied only in respect of the assessment years where undisclosed income is found as a result of search. In case of litigation or writ proceeding before a High Court/ Supreme Court, one may argue that the provisions of sections 153A to 153C should be read down so as to make them applicable only to undisclosed income found in consequence of search u/s 132 or requisition u/s 132A.

(iii) Investigation relating to the search cases is unrestricted

23. Under the block assessment procedure, only the undisclosed income, found as a result of search, could be the subject matter of block assessment.  But there is no such limitation in section 153A(b).  The AO has only to “assessee or re-assessee” the total income of each of the six preceding years and of the year of search.  This implies that even the issues unrelated to search, which may have been already investigated, can be re-examined and additions made.  The change of opinion of the AO will also be no defense against such re-investigations and additions.  Here also, the Board should issue a circular clarifying the scope of such assessments as limited to material found during the search.  Issues already examined and concluded should not be allowed to be re-opened. 

(iv) Scope of assessment for the year of search and smaller period for its completion

24. The scope of assessment in the year of search is not spelt out.  Since an assessment covering the entire year will have to be made, it would cover both the period up to search and the subsequent one up to the end of the financial year.  Besides, under section 153B(1)(b), the assessment for the year of search has also to be completed within two years from the end of the financial year in which the last of the authorization for search u/s 132 or for requisition u/s 132A was executed. This will allow lesser time in most of the situations for completion of assessment than the normal period allowed for completion of a regular assessment.  For example, if a search is conducted on say the 27th December 2003, the assessment for the year of search will relate to A.Y. 2004-05 and would have to be completed within two years from the end of the financial year of search, namely, 31.03.2006.  The normal period for completion of this assessment would be 31.03.2007 in view of section 153(1)(a), i.e. two years from the end of the assessment year in which the income was first assessable.  This will cause great hardship to the assessees particularly because of the difficulties generally experienced in getting photocopies of the seized material within a reasonable time after search.

(v) Completion of assessment at different points of time and not simultaneously

25. There is no requirement that the assessment for the six preceding years as well as for the year of search should be completed simultaneously so that the appeal proceedings etc., relating to the search, can be gone through.  This will not only cause hardship to the assessees in having to file separate appeals for each of the seven years before the Commissioner of Income-tax (Appeals) and later on, if necessary, before the Tribunal, entailing avoidable time and cost in prosecuting these proceedings at different points of time.

(vi) Basis of proceedings u/s 153C is not clear

26. As stated before, the basis of proceedings u/s 153C will be the valuables or seized or requisitioned documents belonging to a person other than the person in whose case the search u/s 132 was conducted.  The expression “belonging to” is capable of more than one interpretation.  Will it cover entries made in the name of the third party in the assessee’s seized documents or there should be separate books of account or documents of the third party that should belong to it? It is well accepted that entries in the name of a third party in the account books of the assessee are not binding on that party.  The AO may, therefore, need to gather more material, e.g. statement of the searched assessee or the third party or a document written by him or his employees to show that such entries constitute material “belonging to” the third party on the basis of which he can proceed against that party.

(vii) Limitation for completing assessment covered u/s 153C is not certain

27. From the requirement of “execution of the requisition u/s 132A”, it is not clear if limitation for completion of third party assessments u/s 153C read with section 153A will count from the date of receipt of material by the officer sending the requisition or from the date of receipt of the seized material by the AO concerned.  For example, where the requisition was sent by ADIT (Inv) to the CBI and was executed, let us say, on 29th March, 2003, but seized records were handed over to the concerned officer by the ADIT (Inv) on 29th December, 2003, will the limitation for completing the assessment be 31.03.2005, i.e. two years from the end of the financial year in which requisition u/s 132A was executed or it will be 31.03.2006, i.e. two years from the end of the financial year in which the AO concerned received the seized records or valuables.

(viii) Statement u/s 132(4) – problems relating thereto

28. The new sections for search assessments have revived the importance of the statement u/s 132(4).  By making a statement before the last of the search warrants is executed and disclosing therein undisclosed income and paying the tax thereon, the assessee becomes entitled to  mandatory immunity  from penalty u/s 271(1)(c) (and consequentional criminal prosecution).  To prevent complaints of high handedness and consequent to the promise of the Finance Minister in his budget speech 2003 that no confessional statements shall be obtained, instructions have been issued not to record statements of the assessees u/s 132(4).  The search parties are generally not recording such statements now.  Since the statement u/s 132(4) to be recorded on oath and before the completion of search, i.e. the drawing up of the last panchnama, is a statutory statement, the assessee can not sue-motto make a disclosure and regard it a statement u/s 132(4).  It will, therefore, be desirable for the authorized officer of the search parties to explain to the assessee that he has the option of making a statement that will entitle him to immunity from penalty and prosecution in cases covered by Explanation-5 to section 271(1)(c) and to have it recorded in the panchnama if the offer is refused.  The assessee too can offer to make a statement u/s 132(4) and in that case it will be obligatory for the authorized officer to administer him an oath and record the statement. In case of failure, the assessee may request for the fact of refusal to be recorded in the Panchnama.

(viii) Settlement Commission – an option

29. Since search and seizure assessment will now entail charging of interest, penalty and prosecution, it may be a good option in cases where the undisclosed income is found with tax effect exceeding Rs. 1 lakh to file a settlement application before the Income Tax Settlement Commission and also to save protracted appeal proceedings, particularly now when the assessment can be completed at different points of time.   One can consider the option of going to the Settlement Commission after filing of return and starting of the enquiries and before the assessments are completed.  The application can also be made after the assessments have been made and appeals filed.  All the years can be covered in a single settlement application if appeals or assessment proceedings are pending.   Although, the Settlement Commission does not have now the power to grant immunity from charging of interest, the immunity from penalty and prosecution and the time and expense of protracted appeal proceedings may be well worth exercising the option of make an application to the Settlement Commission.

Summing up

30. There are many issues which have arisen as the result of the new assessment procedure.  Unfortunately, Board’s Circular No. 7/2003 dated 05.09.2003 explaining the provision of the Finance Act – 2003 does not clarify many of them discussed above.  It is, therefore, desirable that the mater is taken up by the Federation with the Board for issuing clarifications in the interests both of the tax payers as well as the Revenue.