Unexplained borrowings will be subject to stricter tax control


Designed to be an anti-abuse provision, Section 68 of the Income Tax Act deals with unexplained cash credit – the nature or source of which is not satisfactorily explained by a taxpayer. This amount should be treated as the taxpayer’s income. If the amount is in the form of share demand money, share capital, share premium, the taxpayers bear the burden of explaining the nature and source thereof to the satisfaction of the tax officer. Evaluation.

Because of the way the section is worded, several courts have ruled that section 68 does not permit the tax department to review the source of source of capital cases other than shares, for example, the ITAT of Delhi in the Prem Anand case.

This has crippled the Department of Revenue’s ability to use section 68 in loan and borrowing cases. The 2022 finance bill proposes to remedy this.

The proposed amendment provides that in the event of loans or borrowings or such amount being credited to the books of a taxpayer, an additional burden will apply to the taxpayer to explain the source of the funds in the hands of the creditor. This will not apply if the lender is a well-regulated entity, for example, a venture capital fund, registered with SEBI.

As a reminder, this obligation has always existed when a company has raised share capital. It has also been extended to borrowings. This means that taxpayers will now have to prove the creditworthiness and authenticity of the lender. For example, when a start-up raises seed capital, or takes out an unsecured loan, borrows money for its working capital needs, it will need to ask the lender for specific documents.

In equity cases, taxpayers have sought to fulfill this responsibility by providing the PAN card, tax returns and bank statements of the entity investing the money.

But the ministry has always maintained that just because the money is coming through banking channels doesn’t mean it’s genuine – an argument that has been largely rejected by the courts. Furthermore, the courts have also ruled that the taxpayer is not required to prove the source of the source, reiterated by the Delhi High Court just last month in the case Agson Global Pvt.

Given that liability has now been extended to borrowings, experts fear the same approach from the department as seen in equity cases, experts say.

In particular, start-ups that raise seed capital will be impacted and should find out and prove where their creditor got their funds from, Ashish Mehta, a partner at Khaitan and Co., told BloombergQuint.

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