Books of Account must be Rejected u/s 145(3) before Unexplained Cash Additions: ITAT Deletes ₹64 Lakh Addition [Read Order]

The New Delhi Bench of Income Tax Appellate Tribunal (ITAT) held that the Assessing Officer cannot treat cash deposits as unexplained income without first rejecting the books of account under Section 145(3). Since the assessee had produced complete books which were never rejected, the addition of ₹64 lakh was held unsustainable. Accordingly, the addition and the consequential penalty under Section 271(1)(c) were deleted.

The Assessee, Jamaluddin, filed twin appeals for the Assessment Year 2014-15, challenging the orders of the Commissioner of Income Tax (Appeals)/National Faceless Appeal Centre (CIT(A)/NFAC), Delhi, both dated 10.03.2025. These orders arose from proceedings initiated under Section 143(3) and Section 271(1)(c) of the Income-tax Act, 1961.

The core dispute in the quantum appeal (ITA No. 3550/Del/2025) revolved around the Assessing Officer's action of treating cash deposits amounting to Rs. 64 lakhs as unexplained income. This addition was made as part of a best judgment assessment under Section 143(3)/144 of the Act, dated 15.12.2016. The Assessee's primary contention, which formed the legal ground of appeal, was that the Assessing Officer proceeded to make this addition without first rejecting the corresponding books of account under the mandatory provisions of Section 145(3) of the Act.

The Section 145(3) of the Income Tax Act, 1961 explained that: Method of accounting.

“(3) Where the Assessing Officer is not satisfied about the correctness or completeness of the accounts of the assessee, or where the method of accounting provided in sub-section (1) or accounting standards as notified under sub-section (2), have not been regularly followed by the assessee, the Assessing Officer may make an assessment in the manner provided in section 144.] [ Inserted by Act 20 of 2002, Section 60 (w.e.f. 1.4.2003).]”

The CIT(A)/NFAC had upheld the Assessing Officer's approach, prompting the assessee to file the present appeals before the Income Tax Appellate Tribunal. The second appeal (ITA No. 3551/Del/2025) was a consequential penalty appeal under Section 271(1)(c) of the Act, dependent on the outcome of the quantum appeal.

The Assessee represented by, Sahil Sharma and Sanjay Prasher, stated that the Assessing Officer erred in treating cash deposits of ₹64 lakhs as unexplained without first rejecting the books of account under Section 145(3), a mandatory prerequisite for best judgment assessment under Section 144. The AO failed to identify any specific defect in the maintained books despite the assessee furnishing all relevant documents, bills, and vouchers during scrutiny.

Further, the Counsels also stated that the additions were based on surmises without independent verification, violating the settled legal principle that rejection of books is sine qua non before making best judgment assessments. The arbitrary assessment resulted in an absurdly high profit rate, and the consequential penalty under Section 271(1)(c) should be deleted if the quantum addition is removed.

On the other hand, the Respondent, represented by the Senior Departmental Representative, Ankush Kalra, stated that explicit rejection of books of account under Section 145(3) was not necessary for best judgment assessment.

Further, the Revenue relied on Unit Construction Co. Ltd. v. Joint Commissioner of Income Tax [2003 SCC OnLine Cal 756] and Commissioner of Income-tax v. Paradise Holidays [2010 SCC OnLine Del 1753] arguing that the Assessing Officer could make additions based on estimation without formally rejecting the books and submitted that the assessee failed to substantiate expense claims with adequate supporting documents, bills, or vouchers, justifying the additions made by the AO.

The Tribunal consisted of Judicial Member, Satbeer Singh Godara and Accountant Member, Manish Agarwal, heard and reviewed the matter.

The Tribunal, after considering the submissions made, observed that settled judicial precedents mandate rejection of books of account under Section 145(3) before proceeding with best judgment assessment under Section 144. This ensures transparent and correct income computation, preventing arbitrary "pick and choose" methods.

The Tribunal also stated that the assessee had filed complete books of account during scrutiny, which the Assessing Officer failed to formally reject under Section 145(3). Despite the assessee providing bills, vouchers, and party addresses, the AO made no effort to verify the cash deposits and accepted the AO's action would result in absurdly high profit rates (32.9% for AY 2013-14 and 56.09% for AY 2014-15), as highlighted in the Forum Sales (P.) Ltd. precedent.

Further, The Tribunal held that the addition of ₹64 lakhs without rejecting the books under Section 145(3) was legally flawed and deleted the same. Thus, the consequential penalty appeal under Section 271(1)(c) was also allowed. Both appeals, ITA Nos. 3550 & 3551/Del/2025, were allowed in favour of the assessee.

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