Mechanical 145A Addition Set Aside: ITAT Rules Profit-Neutral MODVAT Adjustment Can’t Trigger Tax [Read Order]

The Mumbai Bench of the Income Tax Appellate Tribunal (ITAT) held that a mechanical adjustment under Section 145A of the Income Tax Act, 1961, without demonstrating any real impact on profits, cannot give rise to taxable income and is therefore unsustainable.

The appeal was filed by MSL Driveline Systems Limited, a company engaged in the manufacture and supply of automotive components such as propeller shafts, axle shafts, and clutch repair kits. The dispute arose for the Assessment Year 2017-18 following an assessment completed under Section 143(3) of the IncomeTax Act, 1961.

During the assessment proceedings, the AO made an addition of ₹38.26 lakh by invoking Section 145A of the Act, treating MODVAT and CENVAT credit allegedly relatable to inventory as income. The addition was made on the premise that taxes and duties embedded in inventory valuation had not been properly included.

On appeal, the Additional / Joint Commissioner of Income Tax (Appeals) declined to adjudicate the issue on merits, proceeding on the assumption that the AO had already granted relief by passing a rectification order under Section 154 of the Income Tax Act, 1961. The assessee challenged this adjudicating order.

Advocate Priyanka Jain, on behalf of the appellant, submitted that the appellate authority failed to discharge its statutory obligation by not adjudicating the ground on merits. The assumption regarding rectification under Section 154 of the Income Tax Act, 1961 was factually incorrect.

The method of accounting for MODVAT and CENVAT credit, in line with the Guidance Note issued by the Institute of Chartered Accountants of India and has demonstrated through reconciliation statements that whether the inclusive or exclusive method was adopted, the net profit remained unaffected.

Reliance was placed on earlier orders of the Tribunal in the appellant’s own case for prior assessment years, where similar additions under Section 145A of theIncome Tax Act, 1961 had been deleted on the ground of profit neutrality.

The Bench of Amit Shukla, Judicial Member, and Arun Khodpia, Accountant Member, allowed the appeal and deleted the addition of ₹38.26 lakh, observing that Section 145A of the Income Tax Act, 1961 is a computation provision, intended to ensure uniformity in valuation and not a charging provision capable of creating artificial income.

The Tribunal noted that the AO had not pointed out any defect in the method of accounting regularly followed by the assessee, nor had it been shown that the alleged adjustment resulted in understatement of income. The Bench recognized that in earlier years, the tribunal had consistently accepted the assessee’s reconciliation statements demonstrating that the adoption of the exclusive method had no impact on profits.

Further, held that the appellate authority erred in declining to adjudicate the issue on merits on an incorrect assumption regarding rectification under Section 154 of the Income Tax Act, 1961. In the absence of any change in facts or law, and in keeping with the principle of judicial consistency, the Tribunal ruled that the mechanical addition made under Section 145A of the Income Tax Act, 1961 was unsustainable.