Section 40A(3)

Section 40A(3) — the law in short

What the courts have decided on section 40A(3), in one screen. Read this first; open an entry when you need the facts, the reasoning and the source.

• Shree Choudhary Transport Co. v Income Tax Officer Supreme CourtHelps department
  I am a transport contractor who hires trucks from individual owners and pays them freight. Does section 194C apply, and can section 40(a)(ia) disallow amounts I have already paid rather than merely owe?
  Yes to both. The Supreme Court held that section 194C applied to the payments the firm made to truck owners it engaged to carry the cement it had contracted to transport, so it was bound to deduct tax at source; that disallowance under section 40(a)(ia) is not confined to amounts outstanding at the year end but applies equally to expenses already incurred and paid; that the provision as introduced by the Finance (No. 2) Act, 2004 with effect from 1 April 2005 governed assessment year 2005-06; and that the amendment of 2014 reducing the disallowance to thirty per cent gave the firm no benefit. Splitting a single freight payment into two vouchers below Rs 20,000 did not escape section 194C.
• Maddi Venkataraman & Co (P) Ltd v CIT Supreme CourtHelps departmentNo later treatment found
  I broke the foreign exchange law to move stock I could not otherwise sell. Can I still deduct what that cost me as a business expense?
  No. The Supreme Court held that expenditure incurred in evading the provisions of another statute, and any penalty levied for that evasion, cannot be deducted. It is not enough that a payment was made in the course of trade; it must be for the purpose of the trade, and the purpose must be lawful. A business can be carried on without breaking the law, and section 37 assumes it will be. Allowing the deduction would make the penal provisions of the Foreign Exchange Regulation Act meaningless. Facing a loss is no justification for contravening the law. The appeal was dismissed.
• Attar Singh Gurmukh Singh v ITO Supreme CourtHelps department
  I paid cash for stock purchases. Can the AO disallow it under 40A(3), and is that section even valid?
  The section is valid and it does reach cash payments for purchases of stock-in-trade — the constitutional challenge was dismissed. But it cannot be read in isolation from Rule 6DD: considerations of business expediency and other relevant factors are not excluded, and you may show the circumstances in which payment by crossed cheque or crossed bank draft was not practicable.
• Pr. Commissioner of Income Tax v Mahabir Jute Mills Ltd High CourtHelps taxpayer
  The Assessing Officer rejected my books because of a section 40A(3) cash disallowance and an ad hoc disallowance, then raised my gross profit rate. If those two go, can the gross profit addition survive?
  No. The Allahabad High Court held that where the only findings casting doubt on the books were a section 40A(3) disallowance and an ad hoc consignment-sale disallowance, and both fell away, there was nothing left on which to reject the books. Once the books stand accepted there is no intrinsic evidence to enhance the gross profit rate, and the officer must leave it alone, because gross profit is the result of book entries and not an original entry. The officer's jurisdiction is to examine the correctness and completeness of the accounts, not to step into the assessee's shoes and infer more profit. The Revenue's appeal was dismissed.
• Vaduganathan Talkies v ITO High CourtHelps departmentNo later treatment found
  The purchases are genuine and I can name every payee. Does that answer a s.40A(3) disallowance?
  No, not by itself. The Madras High Court upheld the disallowance where the assessees admitted paying cash for film exhibition rights and rested their case on the genuineness of the transactions and the identity of the payees. Where banking facilities were available and no clause of Rule 6DD was made out, the section applies.
• Anupam Tele Services v ITO High CourtHelps taxpayer
  My principal insisted I pay in cash because my bank is a cooperative bank and cheques take days to clear. The payments are genuine and identified. Will section 40A(3) still disallow them?
  No, on these facts. The Gujarat High Court reversed the Tribunal and held that the rigours of section 40A(3) must be lifted where the payments to Tata Teleservices Limited were genuine, the payee identified, and the assessee was compelled to pay cash because the company refused cheques or drafts drawn on the assessee's cooperative bank and undertook to deposit the cash in its own bank account. The paramount object of the section is to curb black money, and business expediency is not excluded. Rule 6DD is not exhaustive and is to be read liberally. The disallowance of the cash payments to that company was deleted.
• CIT v Ratanlal Vyaparilal Jain High CourtHelps taxpayer
  Does the jewellery instruction explain the source of the gold, or only stop the department seizing it?
  It explains the source, to the extent of the quantities in it. The Gujarat High Court held that the Board's circular proceeds on recognised customs prevailing in Hindu society, so possession of jewellery within those quantities is taken to be explained unless the Revenue shows otherwise.
• Smt. Harshila Chordia v Income-Tax Officer High CourtHelps taxpayer
  I collect cash from my scooter buyers and pass it to my principal dealer the same day. Can the officer both disallow those cash payments under section 40A(3) and add the same cash as unexplained credits under section 68?
  No to both, on these facts. The Rajasthan High Court held that rule 6DD(j) must be liberally construed, that the circumstances listed in the Board's circular of 31 May 1977 are illustrative and not exhaustive, and that ordinarily where the genuineness of the transaction and the payment and the identity of the receiver are established the requirement of the rule is satisfied. The Rs 40,13,000 disallowance under section 40A(3) was set aside as a hyper-technical view. On the credits, where the Tribunal itself found that the assessee received money from customers against delivery of vehicles, the cash deposits become self-explanatory and section 68 is not attracted, so the addition of Rs 6,98,000 could not be sustained.
• Commissioner of Income-Tax v Banwari Lal Banshidhar High CourtHelps taxpayer
  The officer rejected my books and estimated my income by applying a gross profit rate, and then also disallowed my cash purchases under section 40A(3). Can he do both?
  No. The Allahabad High Court held that where the books are rejected and income is computed by applying a gross profit rate on the sales shown, no deduction is allowed to the assessee on account of purchases, so there is nothing to disallow under section 40A(3). Applying the gross profit rate takes care of everything, and there is no need for the officer to scrutinise the amount spent on purchases or to look at section 40A(3) and rule 6DD(j) at all. The disallowance of Rs 91,926 was rightly deleted by the Tribunal. Having agreed on that primary ground, the Court declined to go into the Tribunal's alternative finding on rule 6DD(j) and returned that question unanswered.
• A. Daga Royal Arts v ITO ITATHelps taxpayer
  The AO disallowed cash paid at the registrar's office for land. Is Rule 6DD the only way out?
  No. The Jaipur Tribunal deleted the disallowance where the payments were made against registered sale deeds, so both the transaction and the identity of every payee were established. It treated Rule 6DD as not exhaustive and business expediency as a live consideration under s.40A(3).

Listed strongest first: Supreme Court, then High Court, then Tribunal, then CBDT. Nothing here has yet been read in full by a chartered accountant — open an entry to see where it came from.