Income-Tax Penalties & Proceedings: Sections 271 & 270A

The Income Tax Act, 1961, is not just about computing and paying taxes; it also contains stringent provisions to ensure compliance. When taxpayers fail to adhere to these provisions, whether intentionally or unintentionally, the law provides for the levy of penalties. These penalties are distinct from interest or prosecution, though they often arise from similar non-compliances. Two significant sections governing penalties are Section 270A and Section 271, which address different aspects of defaults by taxpayers.

Understanding Penalties under the Income Tax Act

A penalty is a monetary punishment imposed for a default or non-compliance under the Income Tax Act. The objective is to deter taxpayers from violating the provisions of the law. Penalties are generally imposed by the Assessing Officer (AO) or other income tax authorities during the course of assessment proceedings or other inquiries.

Section 270A: Penalty for Under-reporting and Misreporting of Income

Section 270A was introduced to streamline and rationalize the penalty provisions related to under-reporting and misreporting of income, largely replacing the contentious Section 271(1)(c) for these specific defaults from Assessment Year 2017-18 onwards. This section aims to provide clarity and differentiate between simple under-reporting and deliberate misreporting.

1. Under-reporting of Income

Under-reporting of income occurs when the income assessed or reassessed is more than the income declared by the taxpayer in their return of income, or when no return was filed and income is assessed for the first time.

• Penalty Rate: The penalty for under-reporting of income is 50% of the tax payable on the under-reported income.
• What constitutes Under-reporting?
  • The income assessed is greater than the income determined in the processed return under Section 143(1).
  • The income assessed is greater than the income declared in the original return, if no assessment was carried out under Section 143(1).
  • The income reassessed is greater than the income assessed or reassessed earlier.
  • Where no return was furnished, the income assessed for the first time.
  • The amount of deemed total income assessed or reassessed as per Section 115JB (for companies) or Section 115JC (for LLPs) is more than the book profit declared.
• When is it NOT considered Under-reporting?

  Certain situations are excluded from the definition of under-reported income, provided the taxpayer furnishes a reasonable explanation and supporting evidence:

  • The under-reported income arises from an estimate of income where the accounts are not complete and reliable, and the taxpayer has estimated income based on proper material evidence.
  • The under-reported income is due to a bona fide explanation by the assessee and has been disclosed.
  • An amount is added or disallowed in an assessment order, and such addition or disallowance has been accepted by the assessee, and the assessee has not gone for appeal.
  • The under-reported income is determined on the basis of an arm's length price determined by a Transfer Pricing Officer, and the assessee has furnished all relevant information.

Example of Under-reporting:

Scenario: Mr. Sharma filed his income tax return declaring a total income of ₹10,00,000. During a scrutiny assessment, the Assessing Officer (AO) found that Mr. Sharma had mistakenly omitted to include interest income of ₹1,00,000 from a fixed deposit. After considering his explanation, which was accepted as a genuine mistake, the AO assessed his total income at ₹11,00,000.

Calculation:

• Under-reported income: ₹1,00,000
• Assume tax rate on this income is 30%. Tax payable on under-reported income = ₹1,00,000 * 30% = ₹30,000.
• Penalty under Section 270A = 50% of ₹30,000 = ₹15,000.

2. Misreporting of Income

Misreporting of income is a more severe offense than mere under-reporting, implying a deliberate intent to evade tax. The penalty for misreporting is significantly higher.

• Penalty Rate: The penalty for misreporting of income is 200% of the tax payable on the misreported income.
• What constitutes Misreporting?

  Misreporting of income is specifically defined to include any of the following:

  1. Misrepresentation or suppression of facts.
  2. Failure to record investments in the books of account.
  3. Claim of expenditure not substantiated by evidence.
  4. Recording of false entry in the books of account.
  5. Failure to record any receipt in books of account having a bearing on total income.
  6. False claim of deduction under Chapter VIA or exemption under Section 10.

Example of Misreporting:

Scenario: Ms. Kapoor, a businesswoman, declared her income as ₹15,00,000. During scrutiny, the AO discovered that she had claimed fictitious business expenses of ₹2,00,000 by recording false entries in her books to reduce her taxable profit. This falls under misreporting.

Calculation:

• Misreported income: ₹2,00,000 (due to false expense claim).
• Assume tax rate on this income is 30%. Tax payable on misreported income = ₹2,00,000 * 30% = ₹60,000.
• Penalty under Section 270A = 200% of ₹60,000 = ₹1,20,000.

Section 271: Older Penalties and Other Defaults

While Section 270A covers under-reporting and misreporting, Section 271 (and its various sub-sections) still holds relevance for other types of defaults and for assessment years prior to AY 2017-18 for concealment/inaccurate particulars.

1. Section 271(1)(b): Failure to Comply with Notices

This sub-section imposes a penalty for non-compliance with statutory notices issued by the Income Tax Department.

• Applicability: When a person fails to comply with a notice under Section 142(1) (requiring production of accounts or information), or a notice under Section 143(2) (for scrutiny assessment), or a direction issued under Section 142(2A) (for special audit).
• Penalty Amount: A penalty of ₹10,000 is imposed for each such failure. This is a fixed penalty, not linked to the tax evaded.

Example of Section 271(1)(b):

Scenario: Ms. Priya receives a notice under Section 143(2) for her assessment year. Despite multiple reminders, she fails to appear or submit the requested documents within the given deadlines. The AO can impose a penalty under Section 271(1)(b).

2. Section 271(1)(c): Concealment of Income / Furnishing Inaccurate Particulars

Historically, Section 271(1)(c) was the primary section for imposing penalties for concealment of income or furnishing inaccurate particulars of income. From AY 2017-18, for cases of under-reporting and misreporting, Section 270A generally takes precedence. However, Section 271(1)(c) may still apply to certain other defaults or for assessment years prior to AY 2017-18.

• Applicability: When a person has concealed the particulars of their income or furnished inaccurate particulars of such income.
• Penalty Range: The penalty can range from 100% to 300% of the tax sought to be evaded by reason of the concealment or furnishing of inaccurate particulars. The exact percentage depends on the facts and circumstances of the case and the discretion of the AO.

Other Important Penalties under Section 271 and related sections:

• Section 271A: Failure to keep, maintain, or retain books of account, documents, etc.
  • Penalty: ₹25,000.
• Section 271B: Failure to get accounts audited.
  • Penalty: 0.5% of the total sales, turnover, or gross receipts, or ₹1,50,000, whichever is lower.
• Section 271F: Failure to furnish return of income.
  • Penalty: ₹5,000 if the return is not filed before the end of the assessment year. This is for cases where the taxpayer was required to file but did not. This is separate from the late filing fee under Section 234F.
• Section 271FA: Failure to furnish statement of financial transaction or reportable account.
  • Penalty: ₹500 per day during which the failure continues.

Penalty Proceedings: How they are Initiated and Concluded

The imposition of a penalty is a distinct proceeding from the assessment proceedings. It involves a specific legal process:

1. Initiation of Penalty Proceedings: The AO can initiate penalty proceedings if, during any income tax proceeding (like assessment, reassessment, or inquiry), they are satisfied that a default warranting a penalty has occurred. This satisfaction is usually recorded in the assessment order itself.
2. Show-Cause Notice: The taxpayer must be given an opportunity of being heard. This is done by issuing a show-cause notice, asking the taxpayer to explain why a penalty should not be imposed.
3. Taxpayer's Reply: The taxpayer must respond to the show-cause notice, providing their explanation and supporting evidence.
4. Penalty Order: After considering the taxpayer's reply and all relevant facts, the AO decides whether to impose the penalty. If imposed, a penalty order (for Section 270A) or a penalty order (for Section 271 and others) is passed. This order details the reasons for the penalty and the amount.
5. Demand Notice: Following the penalty order, a notice of demand under Section 156 is issued, requiring the taxpayer to pay the penalty amount.
6. Appeals: If the taxpayer is aggrieved by the penalty order, they have the right to appeal against it to higher authorities like the Commissioner of Income Tax (Appeals) and then to the Income Tax Appellate Tribunal.

Important Considerations Regarding Penalties

• Mens Rea (Guilty Mind): For many penalties, especially those related to concealment or misreporting, the element of 'mens rea' or guilty mind is implied. The burden to prove that the default was not due to a deliberate act often lies with the taxpayer.
• Reasonable Cause (Section 273B): A crucial provision, Section 273B, states that no penalty shall be imposed if the taxpayer proves that there was a "reasonable cause" for the failure. What constitutes reasonable cause depends on the facts and circumstances of each case (e.g., severe illness, natural calamity, genuine human error, reliance on expert advice). This provision offers a crucial defense against penalty imposition.
• Voluntary Compliance: The best way to avoid penalties is to ensure timely and accurate compliance with all provisions of the Income Tax Act, including accurate reporting of income, claiming genuine deductions and exemptions, and responding to all notices promptly.