ITAT Mumbai: No Section 271(1)(c) penalty where bogus purchase addition is only on estimated profit

Background and context

The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) in the case of Perg Advertising Pvt. Ltd. Vs DCIT examined whether penalty under Section 271(1)(c) can be sustained when the underlying quantum addition for alleged bogus purchases is based purely on estimation of profit element, rather than complete disallowance of purchases or concrete proof of concealment.

Two appeals were filed by the assessee, Perg Advertising Pvt. Ltd., for AY 2010-11 and AY 2011-12 against orders passed by the National Faceless Appeal Centre (NFAC), Delhi, confirming penalty under Section 271(1)(c) of the Income Tax Act 1961. The Tribunal heard both matters together and issued a common order.

The key issues before the ITAT were:

  • Whether penalty under Section 271(1)(c) is sustainable when addition is restricted to a percentage (profit element) of purchases alleged to be bogus.
  • Whether reliance on generic information such as “hawala dealer” lists and non-response to notices is sufficient to justify penalty.
  • Whether the first appellate authority (CIT(A)/NFAC) can confirm penalty without considering detailed submissions and binding precedents cited by the assessee.

Part I – AY 2010-11: Penalty on estimated addition of bogus purchases

Quantum assessment and addition

For AY 2010-11, reassessment was completed under Section 143(3) read with Section 147 vide order dated 01/12/2016. The Assessing Officer (AO) treated certain purchases as non-genuine based on information relating to alleged accommodation entry providers.

Key features of the quantum assessment:

  • The assessee had shown net purchases (excluding VAT and cartage) of INR 2,94,53,819 from:

    • Siddhi Vinajayak Trading Company
    • Nisha Enterprises
    • Shree Ganesh Trading Company

  • The AO did not disallow the entire amount of these purchases. Instead, he treated only the gross profit element embedded in such purchases as income of the assessee.

  • Applying the gross profit rate of 14.60%, the AO computed an addition of INR 43,00,258 as “suppressed income” attributable to these purchases.

The relevant observation in the assessment order was that the profit component in the alleged bogus purchases represented undisclosed income, and therefore only the margin was added.

Relief in first appeal – reduction of rate to 12.5%

In the quantum appeal, the CIT(A) (NFAC) examined the material and, while agreeing that purchases from the said parties were not properly verifiable, accepted that the assessee had indeed procured goods, though likely from the grey market rather than from the named suppliers.

The CIT(A):

  • Accepted the AO’s approach that only the profit element in such purchases should be brought to tax.
  • However, relying on the judgment of the Hon’ble Gujarat High Court in Simit P. Sheth, held that a 12.5% rate on such purchases would be fair and reasonable.
  • Accordingly, restricted the addition to 12.5% of the alleged bogus purchases of Rs.3,06,34,977 (as per the CIT(A)’s working), instead of the 14.60% rate applied by the AO.

The assessee did not pursue any further appeal against the quantum order, and the addition as reduced by the CIT(A) reached finality.

Penalty proceedings under Section 271(1)(c)

Subsequently, the AO initiated penalty proceedings and imposed penalty under Section 271(1)(c) vide order dated 04/02/2022.