ITAT Mumbai Quashes Penny Stock LTCG Addition: No Assessee-Specific Evidence, No Addition

Background and Case Snapshot

In DCIT Vs Santosh Vimlesh Mehta (ITAT Mumbai), the Mumbai Bench of the Income Tax Appellate Tribunal considered whether long-term capital gain (LTCG) arising from sale of shares of Banas Finance Ltd. could be discarded as bogus penny stock gain and taxed as unexplained money under Section 69A.

The dispute related to AY 2012-13, where the assessee, an individual, had:

  • Reported total income of ₹4,64,069
  • Disclosed LTCG of ₹3,98,43,430 on sale of shares of Banas Finance Ltd.
  • Claimed such LTCG as exempt under Section 10(38) of the Income Tax Act 1961

The Assessing Officer (AO) reopened the assessment alleging that the LTCG was a sham accommodation entry arising from manipulated trading in a penny stock. The addition was ultimately deleted by the CIT(A), and the Revenue’s appeal before the ITAT was dismissed.

The Tribunal upheld the core principle that general suspicion about penny stock transactions or broad investigation findings cannot replace concrete, assessee-specific incriminating evidence.

Revenue’s Grounds of Appeal

The Revenue challenged the order of the CIT(A) primarily on the following lines:

  1. The Section 69A addition of ₹3,98,43,430 as unexplained money—treating the LTCG on Banas Finance Ltd. as bogus—was argued to be correctly made by the AO.
  2. The AO had relied on statements of various persons involved in alleged price manipulation of Banas Finance Ltd., and the Revenue claimed that such material indicated the assessee’s involvement in a larger accommodation entry scheme.
  3. It was contended that statements recorded during search/investigation, backed by circumstantial material, constituted reliable incriminating evidence.

The ITAT examined how far these grounds could legitimately be stretched to justify denial of the LTCG exemption in this specific case.

Facts Relating to Share Investment and LTCG

Return and Investment Structure

  • The assessee filed her return on 21.12.2012.
  • She disclosed LTCG of ₹3,98,43,430 on sale of shares of Banas Finance Ltd., claimed as exempt under Section 10(38).
  • Shares were acquired by preferential allotment:
    • Investment: ₹20,00,000
    • Acquisition: 1,00,000 equity shares (face value ₹10, premium ₹10 per share)
    • Source of funds: Capital drawn from a partnership firm M/s Mehta Emporium, where the assessee was a partner
    • Payment was routed through normal banking channels
  • Shares were later dematerialised in FY 2010-11.
  • On 12.09.2011, the company executed a stock split in the ratio 1:10, transforming 1,00,000 shares into 10,00,000 shares.

Sale of Shares and Realisation of Gain

The assessee disposed of all 10,00,000 shares in February–March 2012, through a SEBI-registered broker on a recognised stock exchange. Key features:

  • All trades were executed on the stock exchange’s online platform.
  • Security Transaction Tax (STT) was paid.
  • Sale proceeds were credited via regular banking channels.
  • The holding period exceeded 12 months, satisfying the basic conditions for LTCG exemption under Section 10(38).

The aggregate sale consideration was ₹4,06,85,129.74, leading to the disclosed LTCG of ₹3,98,43,430.

Reopening Under Section 147/148

Basis of Reopening

Information was received from the Deputy Director of Income Tax (Investigation), Mumbai, alleging that:

  • Shares of Banas Finance Ltd. were used as a medium to provide fictitious LTCG to various beneficiaries.
  • The allegation was built on:
    • Stock exchange data indicating abnormal price behaviour
    • Statements of directors of Banas Finance Ltd. and certain intermediaries
    • Identification of “exit providers” who allegedly facilitated bogus exits

Relying on this material, the AO recorded reasons to believe that income had escaped assessment and issued notice under Section 148 on **28.03.2019`.

Objections and Writ Proceedings

  • The assessee filed a return in response to the Section 148 notice, reiterating the original income.
  • She objected to the reasons for reopening.
  • The AO initially rejected the objections; the assessee approached the Hon’ble Bombay High Court by way of a writ.
  • By order dated 22.02.2022, the High Court directed the AO to pass a fresh, reasoned order on objections.
  • A fresh speaking order dated 05.04.2022 again rejected the assessee’s objections, and the reassessment proceeded under Section 147 r.w.s. 143(3).

Assessee’s Stand Before AO

The assessee explained:

  1. Genuine Acquisition

    • Investment was made through banking channels out of identifiable capital from a partnership firm.
    • Preferential allotment letter and bank statements were produced.
    • Shares were duly dematerialised and later affected by a stock split.

  2. Genuine Sale Through Exchange

    • All sales were executed through a SEBI-registered broker on a recognised stock exchange.
    • STT, brokerage and other levies were evidenced on contract notes.
    • Sale proceeds were received in bank; no cash element was involved.