2025 (5) TMI 1860 - AT - Income Tax

Reopening of assessment - reasons to suspect OR reasons to believe of escapement of income - As per the information supplied by the JAO the AO noticed that the assessee is found to be the beneficiary of fictitious trades in illiquid options derivatives HELD THAT - We are of the considered view that the assessee s genuine trades during the period 01/04/2013 to 31/03/2014 have been wrongly alleged to be fictitious prima facie by extrapolating the outcome of enquiry carried out for transactions during the period 01/04/2014 onwards. We are of the considered view that there is nothing unusual to trade in thinly traded/illiquid stock options. When the BSE has introduced incentive schemes (extracted elsewhere). A perusal of the incentive schemes shows that that the stock exchanges itself encourages brokers to augment trades in such low volume stocks and awarded incentives which the assessee received. Thus the loss has been disallowed on suspicion without bringing any adverse evidence on record and the same is directed to be deleted. Appeal of the assessee is allowed.

1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered by the Tribunal are:

(a) Whether the reopening of the completed assessment under section 148 of the Income-tax Act was valid, having regard to the requirements of reasons to believe and procedural safeguards such as proper application of mind, disclosure of tangible material, and opportunity to the assessee;

(b) Whether the disallowance of the loss of Rs. 2,07,67,350/- claimed by the assessee on account of futures and options (F&O) trading losses was justified, particularly when the transactions were alleged to be bogus or fictitious trades in illiquid options derivatives;

(c) Whether the transactions carried out by the assessee on the BSE platform were genuine and permissible regulated online transactions, supported by evidence and compliance with exchange regulations and incentive schemes;

(d) Whether the findings of the Assessing Officer (AO) and the Commissioner of Income Tax (Appeals) [CIT(A)] regarding the disallowance of losses and the validity of reopening were legally sustainable in light of the facts and evidences presented by the assessee.

2. ISSUE-WISE DETAILED ANALYSIS

Issue 1: Validity of Reopening of Completed Assessment under Section 148

Legal Framework and Precedents: The reopening of assessment under section 148 requires the AO to have "reasons to believe" that income has escaped assessment. This belief must be based on tangible material and not mere suspicion. The reopening notice must be issued after proper application of mind, disclosure of reasons, and adherence to procedural safeguards, including opportunity to the assessee.

Court's Interpretation and Reasoning: The assessee contended that the reopening was mechanical, based on borrowed reasons from the Investigation Wing without independent inquiry by the AO, and lacked tangible material specifying undisclosed facts. The notice under section 143(2) was issued prior to recording reasons, and objections were not disposed of by a speaking order. The Tribunal examined these contentions in light of the facts.

Key Evidence and Findings: The AO reopened the assessment based on information from the Joint AO (JAO) alleging fictitious trades in illiquid options derivatives. However, the Tribunal found that the reopening was based on suspicion extrapolated from transactions outside the relevant assessment year and lacked concrete adverse material against the assessee for the year under consideration. The AO did not point to any specific material facts that were not disclosed originally.

Application of Law to Facts: The Tribunal noted that the reopening notice was issued without proper application of mind and was based on generalized suspicion rather than reasons to believe. The procedural irregularities, including the sequence of issuance of notices and failure to provide adequate opportunity, were noted.

Treatment of Competing Arguments: The Revenue relied on the investigation report and the AO's belief in bogus trades. The assessee emphasized the absence of specific material and procedural lapses. The Tribunal found the assessee's arguments more persuasive, especially given the lack of adverse findings from SEBI or BSE against the assessee for the relevant period.

Conclusion: The reopening of the assessment was held to be invalid as it was based on suspicion, lacked tangible material, and was procedurally defective. However, since the Tribunal decided the case on merits, it proceeded to examine the disallowance issue.

Issue 2: Disallowance of F&O Loss of Rs. 2,07,67,350/- Alleged to be Bogus Trades

Legal Framework and Precedents: Losses claimed on trading in derivatives are allowable if genuine and supported by evidence. The Revenue can disallow losses if transactions are found to be fictitious, sham, or entered into with a motive to evade tax. However, mere suspicion or general allegations without material proof are insufficient to deny the claim.

Court's Interpretation and Reasoning: The AO disallowed the loss on the ground that the assessee was involved in bogus trades on the BSE platform to artificially generate losses through expired trades in illiquid options. The CIT(A) upheld this disallowance, relying on the AO's findings and observing that the assessee failed to discharge the burden of proof.

Key Evidence and Findings: The Tribunal found that the assessee was a registered trading member with BSE/NSE since 2009 and had participated in BSE's Liquidity Enhancement Incentive Programmes (LEIPS) aimed at increasing option trading volumes in illiquid securities. The trades in question were carried out on the exchange's online platform, with transaction numbers and timestamps generated by the system. All statutory dues including stamp duty, transaction charges, and SEBI fees were duly paid. The settlement obligations were cleared through the exchange's clearing mechanism.

Moreover, the Tribunal noted that the BSE itself had introduced and later discontinued incentive schemes encouraging such trades, and the assessee had received incentives under these schemes during the relevant period. The Revenue failed to identify any specific beneficiary of the alleged bogus transactions or produce material showing manipulation or fraud in the trades.

Application of Law to Facts: The Tribunal applied the principle that genuine trades executed on a recognized exchange platform, with compliance to regulatory requirements and no adverse findings from SEBI or the exchange, cannot be disallowed merely on suspicion. The burden of proof lay on the Revenue to establish that the transactions were fictitious or designed to evade tax, which was not discharged.

Treatment of Competing Arguments: The Revenue relied on the AO's suspicion and the fact that the trades involved illiquid options with expiries leading to losses. The assessee argued that the trades were genuine, supported by exchange records, and incentivized by the exchange itself. The Tribunal found the assessee's detailed documentary evidence and the absence of any adverse regulatory action compelling.

Conclusion: The disallowance of the loss was held to be unjustified and directed to be deleted. The Tribunal emphasized that the loss was disallowed on suspicion without any adverse evidence and that the transactions were genuine and permissible.

Issue 3: Genuine Nature of Transactions and Compliance with Exchange Incentive Schemes

Legal Framework and Precedents: Transactions undertaken in the ordinary course of business, especially on regulated platforms with regulatory oversight, are presumed genuine unless disproved. Incentive schemes introduced by exchanges to enhance liquidity are legitimate commercial arrangements.

Court's Interpretation and Reasoning: The Tribunal examined the BSE notices and circulars relating to LEIPS schemes, which incentivized trading members to augment option trades in illiquid securities through cash incentives and lower transaction fees. The assessee participated in these schemes and received incentives during the relevant period.

Key Evidence and Findings: The Tribunal reviewed detailed incentive reports and financial statement notes showing substantial incentive income received by the assessee. The trades were conducted within the price range allowed by the exchange and SEBI, and all regulatory dues were paid. No adverse findings were recorded by SEBI or BSE against the assessee for these trades.

Application of Law to Facts: The Tribunal found that the transactions were consistent with the exchange's policy to enhance liquidity in illiquid options and that the assessee's participation was bona fide. The presence of incentive schemes corroborated the genuineness of the trades and negated the Revenue's allegation of artificial loss shifting.

Treatment of Competing Arguments: The Revenue's reliance on general allegations of bogus trades was countered by the assessee's documentary evidence and the absence of any regulatory censure. The Tribunal accorded greater weight to the documented evidence and regulatory framework.

Conclusion: The transactions were held to be genuine, fair, and compliant with regulatory norms and incentive schemes. The allegation of fictitious trades was rejected.

Issue 4: Burden of Proof and Evaluation of Evidence

Legal Framework and Precedents: The burden to prove that transactions are bogus or fictitious lies on the Revenue. Mere suspicion, surmises, or conjectures without cogent material cannot justify disallowance of losses.

Court's Interpretation and Reasoning: The Tribunal noted that the AO and CIT(A) failed to produce any tangible material or identify any illegality in the transactions. The Revenue could not identify any beneficiary of the alleged bogus trades or produce a report substantiating the claim. The Department's inability to provide such information despite adjournments was recorded.

Key Evidence and Findings: The Tribunal observed that the assessee had fully disclosed all transactions with supporting evidence during the original assessment. The reopening was based on generalized suspicion without new material. The SEBI interim order related to illiquid stock options did not mention the assessee's name.

Application of Law to Facts: The Tribunal applied the principle that the Revenue's failure to discharge the burden of proof and reliance on unsubstantiated allegations cannot justify disallowance. The assessee's detailed records and compliance with exchange regulations supported the genuineness of the transactions.

Treatment of Competing Arguments: The Revenue's arguments were found to be speculative and unsupported by evidence. The assessee's detailed submissions and documentary proof were accepted.

Conclusion: The burden of proof rested on the Revenue, which was not discharged. The disallowance was therefore unwarranted and liable to be deleted.

3. SIGNIFICANT HOLDINGS

The Tribunal held:

"The reopening of the assessment was based on suspicion extrapolated from transactions outside the relevant assessment year and lacked concrete adverse material against the assessee for the year under consideration."

"The loss of Rs. 2,07,67,350/- has been disallowed on suspicion without bringing any adverse evidence on record and the same is directed to be deleted."

"The trades were executed on the floor of the exchange system without knowledge of counter party and within the price range allowed by Exchange and SEBI. In all these transactions, BSE has collected stamp duty and transaction charges, SEBI has collected turnover fees. All Government taxes, exchange transaction charges and SEBI fees have been paid for both legs of transactions. The settlement obligation arising out of it has been settled through clearing mechanism of the Exchange. Therefore, in our understanding of the facts, trades were genuine and fair and it has never been termed by SEBI or BSE as fraudulent and misleading in any manner whatsoever."

"There is nothing unusual to trade in thinly traded/illiquid stock options. Moreover, when the BSE has introduced incentive schemes encouraging brokers to augment trades in such low volume stocks and awarded incentives, which the assessee received."

"The burden of proof regarding genuineness of the loss incurred in such dubious transactions is on the Assessee, and no cogent arguments have been advanced by the Appellant. Accordingly, the disallowance of loss made by the AO is upheld and the ground of appeal is dismissed." (This was the CIT(A)'s view, which the Tribunal reversed.)

The Tribunal ultimately concluded that the reopening notice and consequent reassessment were invalid and the disallowance of loss was unjustified. The appeal of the assessee was allowed.

← Previous Next →