Income Tax: Reopening After Search Quashed as Nexus with Escapement Not Established

Income Tax: Reopening After Search Quashed as Nexus with Escapement Not Established

Exel Rubber Private Limited filed its return for AY 2020-21 declaring income of Rs. 103.29 crore, which was accepted under Section 143(3) r.w.s. 144B. A search was later conducted in the Exel Group, including at the residence of the Group’s Senior Accounts Manager, where certain loose sheets, digital data and software allegedly reflecting unaccounted transactions were seized. Statements under Section 132(4) led to the disclosure of additional income, including amounts attributed to the assessee.

Relying on this material, the Assessing Officer issued notice under Section 148 and completed reassessment under Section 147, making additions including Rs. 62.16 lakh. The CIT(A) dismissed the assessee’s appeal, and the matter was carried to the Income Tax Appellate Tribunal.

Main Issue: Whether notice under Section 148 was valid when the AO relied on third-party search material but invoked Explanation 2(i) without recording satisfaction and obtaining approval as required under Explanation 2(iii)/(iv).

ITAT’s Ruling: The Tribunal examined Section 148 as amended by the Finance Act, 2021 and noted that although a search was conducted in the case of the assessee, the additions were primarily based on material seized from the residential premises of the Senior Accounts Manager, who was a separate searched person under a distinct warrant and panchnama. Reliance is placed on material belonging to “any other person,” clauses (iii) or (iv) of Explanation 2 apply, requiring recording of satisfaction and prior approval of the Principal Commissioner before proceeding.

The AO invoked clause (i) of Explanation 2, applicable to search in the case of the assessee, without complying with the safeguards mandated when third-party material is relied upon. The Tribunal further held that even under the deeming fiction, the first proviso to Section 148 requires information suggesting escapement of income for the relevant year and mere fact of search is insufficient. As no proper nexus was demonstrated and mandatory procedure was not followed, the notice under Section 148 was held invalid. Therefore, the reassessment orders for AY 2020-21 and AY 2021-22 were quashed and both appeals were allowed.

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