As per Income tax Act, if the assessee is aggrieved by the order passed by Assessing Officer (AO), he may file an appeal for seeking relief.
However, is it necessary that assessee will get relief only?
Can appeal lead to increase in income?
I have heard of Powers of CIT(A) which is the first appellate authority and the same are contained in Section 251 which provides that the CIT(A) can confirm, reduce, enhance or annul the assessment and he may also confirm, cancel, enhance or to reduce the penalty.
Is CIT(A) having a power to enhance income?
It is the settled legal proposition that the powers of CIT(A) are co-terminus with that of the Assessing Officer due to which CIT(A) has power of enhancement of assessment, and penalty, and can also reduce the amount of refund which AO also can do. Such proposition is more elaborated in various pronouncements. For more information refer article “Restriction on Co-Terminus Powers of CIT(A)” published in Between Us 2017 (Page 49-53).
Now question arise what does the word ‘Enhance’ means?
The word “Enhance” is not defined in the Income tax or any other Act. Its dictionary meaning is “An increase or improvement in quality, value, or extent”.
Meaning thereby, what income was assessed by AO can be further increased by CIT(A). There is no guarantee of relief, appeal can backfire also.
But can enhancement happen in a very casual manner or are there any riders attached to it.
Let us understand this power, checks and balances with the help of examples-
EXAMPLE 1- Tapu Sena Co. Ltd.(TSCL) in A.Y. 2021-22 earned business income of Rs. 800, income from house property of Rs. 200 and long term capital gain of Rs. 300. So, the total income was Rs. 1,300. The case of TSCL was picked up for limited scrutiny for the matter of Depreciation claimed by it. In the order of AO, Depreciation claimed by TSCL of Rs. 100 was not allowed.
Aggrieved by the order of AO, TSCL filed an appeal before CIT(A).
Case 1- CIT(A) along with confirming the order of AO also increased the income of house property to Rs. 300. Whether CIT(A) can consider the a new source of income, which was not subject matter of Scrutiny and which was, thus, not considered by AO?
→ Supreme Court in case CIT vs. Shapoorji Pallonji 44 ITR 891(1962) and CIT vs. Rai Bahadur Hardut Roy Motilal Chamaria 66 ITR 443 (1967)held that the CIT(A) cannot consider a new source of income which is not considered by Assessing officer during the course of his proceedings.
In case of TSCL, AO conducted limited scrutiny and did not considered income from house property. Therefore, CIT(A) cannot consider a new source of income i.e. income from house property. Thus, income will not be enhanced in such case.
Case 2- CIT(A) reclassified income from house property of Rs. 300 as business income thereby increasing the business income to Rs. 1,100 (800+300). Whether the same amounts to enhancement of assessment?
→ Hon’ble ITAT, Pune in case of Naresh Sunderlal Chug – 171 ITD 116, held that CIT(A) has power to reclassify the income of assessee but the same will not amount to enhancement of total income.
In case of TSCL, CIT(A) can reclassify income from house property as business income but the same shall not amounts to enhancement.
EXAMPLE 2- Mr. Uday Shetty earned business income of Rs. 500 from Welcome Co. a partnership firm and Rs. 600 from house property and Rs. 200 from long term capital gain. So, the total income declared by him was Rs. 1,300. AO conducted the scrutiny and after considering the facts he disallowed expense of Rs. 50 and also raised issue related to long term capital gain but no addition was made for the same.
Aggrieved by the order of AO, assessee filed an appeal before CIT(A).
Now, have a look at the CIT(A) ruling’s in the aforementioned matter. –
CIT(A) after considering all the facts confirmed the order of AO and assessed the total income of Mr. Uday Shetty is Rs. 1,300 And reclassified the long term capital gain of Rs. 100 as business income (total LTCG was Rs. 200). Resultantly, on Rs. 100 additional tax of # Rs. 10 was due. Whether increase in tax liability by CIT(A) results in enhancement of assessment.
# Calculation of tax of Rs. 10 (100*10%):
Tax rate on business income is 30%
Tax rate on capital gain is 20%
Tax rate difference is 10%
→ Yes, even increase in tax liability by the CIT(A) also amounts to enhancement even though there is no increase in the total income. And in the given case since reclassification of long term capital gain to business income leads to increase in tax liability same shall amount to enhancement.
EXAMPLE 3- Mr. Majnu in A.Y. 2014-15 earned business income of Rs. 1,000 from M/s. Miracle & Co. and long term capital gain of Rs. 1,200 and short term capital gain of Rs. 500. The total income of Mr. Majnu was Rs. 2,700 in which income of Rs. 1,200 (LTCG) was exempt under section 10(38). So the tax paid by Mr. Majnu was Rs. 450. AO conducted the scrutiny and made an addition of Rs. 600 to the total income of Mr. Majnu as he considered that exemption claimed u/s 10(38) of Rs. 600 to be bogus (total LTCG was Rs. 1,200). Therefore, addition u/s 68 was made. Resultantly, the demand of Rs.180 (600*30%) was raised. But no penalty proceedings were initiated by AO.
Aggrieved by the order of AO, assessee filed an appeal before CIT(A).
Check out the CIT(A) order’s in the matter mentioned above-
Case 1- CIT(A) in above case stated that the order passed by AO is correct. Since, AO failed to initiate penalty, CIT(A) levied penalty of Rs. 180 (100% of tax evaded). Whether the power of enhancement also extends to levy of penalty which was not levied by AO.
→ No, CIT(A) does not have power to levy penalty on the addition made by AO which AO has not levied.
During the appellate proceedings for penalty, CIT(A) may increase the penalty.
Case 1- If in the above case if AO initiated the penalty proceedings and imposes the penalty of Rs. 180 on Mr. Majnu. Thereafter, CIT(A) increased the amount of penalty to Rs.200. Whether increasing penalty also tantamount enhancement of penalty.
→ Yes, increasing the amount of the penalty also results in enhancement and CIT(A) has a power to do so.
EXAMPLE 4- Ms. Naina Talwar filed return disclosing total net loss of Rs. 1500 and claimed refund of Rs. 300. The AO assessed the total income and made addition of Rs. 200 in respect of expenditure not allowed. Due to which refund of Ms. Naina decreased by Rs. 40. Aggrieved by AO order Ms. Naina filed an appeal before CIT(A).
Par ye kya…
CIT(A) passed an order in which he increased the amount of disallowance to Rs. 500 and resultantly, the amount of refund decreased . Ab aap yeh toh samajh gaye ki CIT(A) can increase the amount of income. But the question here is whether reducing the amount of refund is also an enhancement.
→ The answer to this question is Yes, CIT(A) has a power to reduce the amount of refund which will also tantamount to enhancement.
In this background we can say that CIT(A) has a power of enhancement on the basis of record but he cannot directly pass an order of enhancement without informing or without issuing show cause notice to assessee and providing opportunity of being heard [Section 251(2)].
Second Appellate Authority is ITAT.
Is ITAT also having such Powers of Enhancement?
Power of ITAT are contained in Section 254 of Income Tax Act, 1961-
It provides that the Appellate Tribunal may, after giving both the parties to the appeal an opportunity of being heard, pass such orders thereon as it thinks fit.
As we can see clearly Enhancement is not mentioned. However, the word “thereon” and “as it thinks fit” are to be analyzed. No interpretation is given for such words in the IT Act, 1961. So, we have to take aid of judicial pronouncements.
Hon’ble Supreme Court in the case of Hukumchand Mills Ltd. vs Commissioner of Income-tax 63 ITR 232 held that –
“The word ‘thereon’ in section 33(4) of 1922Act restricts the jurisdiction of the Tribunal to the subject-matter of the appeal. The words ‘pass such orders as the Tribunal thinks fit’ include all the powers (except POSSIBLY the power of enhancement) which are conferred upon the AAC by section 31 of 1922 Act. Consequently, the Tribunal was authority under this section to direct the AAC or the ITO to hold a further enquiry and dispose of the case on the basis of such enquiry.”
Thereafter Karnataka High Court in case of Fidelty Business Services India (P.) Ltd. vs ACIT  257 Taxman 266 referred the aforementioned decision of Supreme Court and interpreted that SC itself expressed its doubt over the power of enhancement as the word “possibly” is used.
Hon’ble Karnataka High Court also held that-
- The word ‘thereon’ only relates to the ‘subject matter’ of the appeal in first part of the Sub-section (1).
- The powers under Section 254 of the Act with the Tribunal to pass such Orders ‘as it thinks fit’ cannot be lesser than the powers conferred upon the lower and first Appellate Authority, viz., the Commissioner of Income Tax (Appeals) who under Section 251(1)(a) of the Act has power to dispose of an appeal against the Order of assessment.
Thus, since Supreme Court did not rule out the Power of Enhancement Karnataka High Court in case of Fidelty held that the tribunal has a power to pass an order as it thinks fit such as it may confirm, reduce, enhance or reduce the assessment and penalty but the said power is limited to the subject matter of appeal.
Let us understand all this with the help of examples.
I am continuing with the same examples as we discussed for CIT(A). Now, aggrieved by the order of CIT(A), further, appeal before ITAT is filed.
1. In case of Tapu Sena Co. Ltd.-
Case 1-Tribunal confirmed the order of CIT(A) of disallowing depreciation. But during the during course of proceedings while considering the issue of depreciation it finds out that Building recorded in the books was actually sold out during F.Y. 2020-21 and TSCL also earned capital gain of Rs. 100 on the same but not recorded the capital gain in the books. Whether Tribunal can consider the new source of income which was not subject matter of Scrutiny and which was, thus, not considered by CIT(A).
→ Tribunal can pass such order related to subject matter of appeal.
In the case of TSCL as the subject matter of appeal was depreciation and not capital gain. Therefore, tribunal cannot consider the new source of income which was not the subject matter of appeal.
2. In case of Mr. Uday Shetty-
ITAT after considering all the facts reclassified entire long term capital gain of Rs. 200 as business income (CIT(A) classified just Rs.100). Therefore, increasing the tax liability by Rs. 20 against the total income of Rs. 1,300. Whether reclassification of income and increase in tax liability by ITAT results in enhancement of assessment.
→ Tribunal has power to reclassify the income of assessee which may also results in increase or decrease in tax liability.
In case of Mr. Uday Shetty due to reclassification the Tribunal assessed the total income of Mr. Uday Shetty as Rs. 1,300. But the same will not amount to enhancement of total income.
But due to such reclassification the tax liability of increases and the same amounts to enhancement. In case of Mr. Uday Shetty increase in tax liability by Rs. 20 results in enhancement of assessment. It is well within the powers of tribunal to do so.
3. In case of Mr. Majnu-
Case 1- Tribunal stated that order passed by CIT(A) was correct. Since, no penalty is levied by CIT(A) and AO, it has started the new proceedings against Mr. Majnu and levied penalty of Rs.180. Whether the power of enhancement also extends to levy of penalty.
→ No, Tribunal did not have any power to initiate and levy penalty if no penalty was levied by the AO or CIT(A) during the course of proceedings
Case 2- If in the above case if AO initiates the penalty proceedings and imposes the penalty of Rs. 100 against Mr. Majnu. And, thereafter, CIT(A) confirmed such order . And Tribunal increases the amount of penalty to Rs.200. Whether increasing penalty also tantamount to enhancement of penalty.
→ Yes, increasing the amount of the penalty also results in enhancement and ITAT has a power to do so but only if such increase was pursuant to considering the subject matter of appeal.
4. In case of Ms. Naina Talwar-
Tribunal after examination of records placed before it, passed an order in which it increased the amount of disallowance to Rs. 600 on the subject matter of appeal and thereby decreasing the amount of refund. Whether reducing the amount of refund is also an enhancement.
→ Tribunal has a power to reduce the amount of refund which also tantamount to enhancement.
Both the appellate authority i.e. CIT(A) and ITAT have the power of enhancement, but with some riders attached to it. When any income is not brought to tax by the Assessing Officer, CIT(A) by exercising his powers can make an addition of such income, based on the record, in the total income of the assessee. And if income is not brought to tax by both AO and CIT(A), tribunal may consider the same but only when such addition of income is related to subject matter of appeal.
The intention of law behind such powers of appellate authorities is that the income of the assessee should be correctly assessed.