India: No Penalty For Failure To Deduct Tax At Source If Assessee Shows A Reasonable Cause For The Failure

Tax Deducted at Source (TDS) is a system for collection of Direct Tax in India. Indian Income Tax Act, 1961 [hereinafter referred to as "ITA"], mandates that a specified percentage of Tax is required to be deducted by the payer at the time of making certain payments to the payee. The requirement to deduct tax is there for payments such as payment of Commission, interest, salary, royalty, contract payment, brokerage etc. The Tax deducted has to be deposited by the payer to the revenue department on behalf of the payee. In case the payer doesn't deducts' the tax at source, the payer is liable to pay penalty u/s 271C of the ITA. Section 271C - Penalty for failure to deduct tax at source of the "ITA" can be read as follows:

271C.

1) If any person fails to—

a) deduct the whole or any part of the tax as required by or under the provisions of Chapter XVIIB; Or

b) pay the whole or any part of the tax as required by or under—

i. sub-section (2) of section 115-O; or

ii. the second proviso to section 194B,

then, such person shall be liable to pay, by way of penalty, a sum equal to the amount of tax which such person failed to deduct or pay as aforesaid.

2) Any penalty imposable under sub-section (1) shall be imposed by the Joint Commissioner.

However, Section 273B of the ITA provides that in case the payor proves to the revenue department that there was some reasonable cause for the failure to deduct tax then the penalty under Section 271C is waived off. Section 273B - Penalty not to be imposed in certain cases, can be read as follows:

273B. Notwithstanding anything contained in the provisions of clause (b) of sub-section (1) of section 271, section 271A, section 271AA, section 271B , section 271BA, section 271BB, section 271C, section 271CA, section 271D, section 271E, section 271F, section 271FA, section 271FB, section 271G, section 271H, clause (c) or clause (d) of sub section (1) or sub-section (2) of section 272A, sub-section (1) of section 272AA or section 272B or subsection (1) or subsection (1A) of section 272BB or sub-section (1) of section 272BBB or clause (b) of sub-section (1) or clause (b) or clause (c) of subsection (2) of section 273, no penalty shall be imposable on the person or the assessee, as the case may be, for any failure referred to in the said provisions if he proves that there was reasonable cause for the said failure.

There is no definition for the term reasonable cause and it has to be decided upon the facts of each case. Some of the judicial pronouncements with regards to waiver of penalty u/s 271C for bonafide mistake on the part of the payor are as follows:

1. The Hon'ble Supreme Court of India made the following observation in the Case of Commissioner of Income Tax, New Delhi Vs. M/s Eli Lilly & Company (India) Pvt. Ltd. & Ors.1 with regards to reasonable cause for failure to deposit TDS:

(iv) On the Scope of Section 271C read with Section 273B:

35. Section 271C inter alia states that if any person fails to deduct the whole or any part of the tax as required by the provisions of Chapter XVII-B then such person shall be liable to pay, by way of penalty, a sum equal to the amount of tax which such person failed to deduct. In these cases we are concerned with Section 271C(1)(a). Thus Section 271C(1)(a) makes it clear that the penalty leviable shall be equal to the amount of tax which such person failed to deduct. We cannot hold this provision to be mandatory or compensatory or automatic because under Section 273B Parliament has enacted that penalty shall not be imposed in cases falling thereunder. Section 271C falls in the category of such cases. Section 273B states that notwithstanding anything contained in Section 271C, no penalty shall be imposed on the person or the assessee for failure to deduct tax at source if such person or the assessee proves that there was a reasonable cause for the said failure. Therefore, the liability to levy of penalty can be fastened only on 44 the person who do not have good and sufficient reason for not deducting tax at source. Only those persons will be liable to penalty who do not have good and sufficient reason for not deducting the tax. The burden, of course, is on the person to prove such good and sufficient reason. In each of the 104 cases before us, we find that non-deduction of tax at source took place on account of controversial addition. The concept of aggregation or consolidation of the entire income chargeable under the head "Salaries" being exigible to deduction of tax at source under Section 192 was a nascent issue. It has not be considered by this Court before. Further, in most of these cases, the tax- deductor-assessee has not claimed deduction under Section 40(a)(iii) in computation of its business income. This is one more reason for not imposing penalty under Section 271C because by not claiming deduction under Section 40(a)(iii), in some cases, higher corporate tax has been paid to the extent of Rs. 906.52 lacs (see Civil Appeal No. 1778/06 entitled CIT v. The Bank of Tokyo-Mitsubishi Ltd.). In some of the cases, it is undisputed that each of the expatriate employees have paid directly the taxes due on the foreign salary by way of advance tax/self-assessment tax. The tax-deductor-assessee was under a genuine and bona fide belief that it was not under any obligation to deduct tax at source from the home salary paid by the foreign company/HO and, consequently, we are of the view that in none of the 104 cases penalty was leviable under Section 271C as the respondent in each case has discharged its 45 burden of showing reasonable cause for failure to deduct tax at source.

2. The Hon'ble Karnataka High Court made the following observation in the Case of The Commissioner of Income Tax and Others Vs. The Rajajinagar Co-operative bank Limited2, with regards to reasonable cause for failure to deposit TDS:

10. In the instant case, the assessee is a Cooperative Bank. Clause 5 of sub-section (3) of Section 194A expressly exempts the Bank from deducting the tax at source on interest payable by the Bank to its members and other Cooperative Societies. As stated by the assessee, they did not properly construe this provision. By mis-construing this provision they also did not deduct tax from the interest payable to nonmembers. That is the bonafide mistake which they have committed. Their bonfides is demonstrated to the effect that once in a survey the said mistake was notice and pointed out immediately they have paid the tax with interest. Therefore, in the light of this undisputed facts of this case, when the Appellate Commissioner and the Tribunal held that the same constitutes a reasonable cause and when the same is not shown to be false, the assessee has satisfied the requirement of Section 273- B, in which event, no penalty shall be imposable. Therefore the order passed by the Tribunal and the appellate Commissioner is valid and legal and do not suffer from any legal infirmity which calls for interference. Accordingly the substantial question of law framed is answered in favour of the assessee and against the Revenue.

3. The Hon'ble Income Tax Appellate Tribunal, Delhi Bench made the following observation in the Case of Addl. Commissioner of Income Tax (TDS), Dehradun Vs. District Education Officer3, with regards to reasonable cause for failure to deposit TDS

7. It is seen that the said issue came up for hearing on identical grounds in the appeal raised by the department in 2007-08 assessment year wherein the departmental appeal was dismissed. We reproduce the relevant finding from order dated 31.05.2013 from ITA-249/Del/2012 in ACIT(TDS) vs District Education Officer, Dehradun:-

"We have heard the submissions and perused the material available on record. On a consideration of the same, we are of the view that in the case of the assessee i.e Uttarakhand Educational Department there was bona fide belief under which the assessee operated that it was not required to deduct TDS. The assessee has claimed that adequately qualified staff namely F&A Officer was not available at the relevant point of time; the assessee has also contended that as the assessee was under a bona fide belief that since it had no authority to withhold the funds received from the U.P. Government i.e. UP Rajkiya Nirman Nigam Ltd. after due approvals for the Executing Authority as per the contract to which the assessee was not even a signatory there was nothing more to be done except to release the funds in favour of the contractor i.e the "Executing Agency". The explanation of the assessee that it believed that it had no choice but to transfer the funds received in its account and that it had no control over the executing agency to detain its payments has rightly been held as a reasonable cause as the bona fide belief is borne out from the fact that as soon as the said fact was pointed out to the assessee, the position was corrected. Accordingly in the afore-mentioned peculiar facts and circumstances of the case, we are of the view that the judgements relied upon by the CIT(A) fully support the stand taken. Accordingly being satisfied with the reasoning and finding arrived at in the impugned order, the department's ground is dismissed."

4. The Hon'ble Income Tax Appellate Tribunal, Chandigarh Bench made the following observation in the Case of Sukhdev Singh Vs. The J.C.I.T.(TDS), Chandigarh4, with regards to reasonable cause for failure to deposit TDS

"It is well settled law that the penalty need not to be imposed in each and every case and discretionary in nature and the facts and circumstances of the case shall have to be taken into consideration. Section 273B of the Income Tax Act provides that no penalty under section 271C shall be imposable on the person or the assessee as the case may be, for any failure referred to in the said provisions, if he proves that there was reasonable cause for the said failure. The circumstances explained by the learned counsel for the assessee clearly reveal that the assessee paid interest to nonbanking financial institution and did not deduct tax because the assessee was under the bonafide belief that no TDS was to be deducted on the payments made to non-banking financial institution. The Assessing Officer made disallowance under section 40(a)(ia) of the Income Tax Act and other additions were also made in the assessment order, which are accepted by the assessee and the demand raised as per assessment order has been paid. Therefore, these circumstances would clearly reveal that the assessee has reasonable cause for failure to comply with the provisions of section. Therefore, in view it being a beginning of the assessee for failure to deduct tax and then the assessee in future has starting deducting TDS would suggest that the penalty may not be imposed in the aforesaid case. Considering the above discussion, we are of the view that the levy of penalty in the facts and circumstances of the case is not warranted. We accordingly set aside the orders of the authorities below and cancel the penalty."

Conclusion

Tax at source is required to be deducted by the payer at the time of making certain payments to the payee. Further the payee has to deposit the aforesaid tax with the government on behalf of the payee. If the payee fails to deduct the tax he is liable to pay the penalty. However, if the payee has failed to deduct tax under some bonafide belief then the penalty can be waived off. The payee has to prove that the failure to deduct tax was not intentional and he corrected his position as soon as the mistake was pointed out to him by deducting tax on future transactions, if any, and also by paying the TDS in default along with interest.

Footnotes

1.CIVIL APPEAL No. 5114/2007, Order Date 25th March, 2009

2.ITA 86 of 2006, Order Date 20th July, 201

3.ITA No.-277/Del/2012, O 2. ITA 86 of 2006, Order Date 20th July, 2011 rder Date 19th July, 2013

4.ITA No. 116/Chd/2014, Order Date 29th September, 2014

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