Recent Trends:

Lately, there has been an unprecedented increase in the number of prosecution proceedings initiated by the Income Tax Department. Prosecutions have majorly been initiated for offences like wilful attempt to evade tax or payment of any tax, wilful failure in filing returns of income, failure to deposit the tax deducted / collected at source (TDS / TCS) or delay in doing so. A press release issued by the Ministry of Finance (MOF) depicts the following picture in relation to prosecution cases during the period April 2017 to November 2017.

This multi-fold increase in prosecution cases indicates that the Tax Administration is considering prosecution as a strategic tool to force compliances by Tax Payers. This press release also lists some illustrative cases of convictions by courts. A couple of instances mentioned therein are:

“In Bengaluru, the MD of a company engaged in infrastructure projects was found guilty of non-deposit of TDS of over Rs. 60 lakh (within the prescribed time), and was sentenced to rigorous imprisonment of three months along with imposition of fine. Similarly, a Mohali resident was held guilty of non-deposit of TDS within prescribed time and sentenced to one year jail along with fine."

In addition to this, recently notified Central Action Plan for the period April 2018 to June 2018 mandates that each range should identify and process atleast 10 prosecution cases for defaults liable for prosecution under Section 276CC of the Income Tax Act, 1961 (IT Act) as well as initiate prosecution in all cases wherein additions that are confirmed by the Income Tax Appellate Tribunal (the second appellate level) by 30 June 2018. This Plan also mandates processing of prosecution for atleast 10 cases by each Commissioner of Income Tax (TDS) concerning TDS defaults in relation to defaults that have already been identified manually or through Department systems. This push from the MOF will result in issuance of a huge number of prosecution show cause notices by Tax Department.

Received a prosecution show cause for TDS non-compliance – Now what?

On receipt of a prosecution show- cause notice, one must endeavour to promptly respond and seek professional assistance wherever necessary as prosecution proceedings is a serious matter and if successful can result in imprisonment of up to seven years (Section 276B) and will have adverse effects on a number of other aspects including eligibility of a person to take up directorships in a company, etc. However, Section 278AA of IT Act provides that there shall be no punishment under Section 276B if a tax payer proves that there was a ‘reasonable cause’ for his failure to deposit TDS.  

What is ‘reasonable cause’?

While the term reasonable cause has not been defined in the IT Act, courts have looked at reasonable cause to be something which is fair, not absurd, not irrational and not ridiculous.

Onus to prove existence of ‘reasonable cause’

The act of non-deduction or non-payment is an offence only if such act was done without any reasonable cause or excuse. In its ruling, the Hon’ble Court [TS-5426-HC-1989(PATNA)-O] while considering the burden of proof of onus has held as under:   

The initial onus remains on the prosecution to establish all the ingredients of an offence and for charge under section 276B, this necessary ingredient has to be alleged and proved by the respondent. In case the prosecution is able to discharge the initial onus, then, of course, the onus will shift on to the accused person to show that he/they had a reasonable cause for failure to deduct or to deposit the tax.

What can be termed as ‘reasonable cause’?

Lack of Financial Capacity / Financial Difficulties:

One of the major causes for defaults in deposit of TDS in time is financial difficulties faced by tax payers on account of mounting losses, slack business, adverse cyclical trends, etc. In such circumstances, third party invoices are booked (which fastens TDS liability), but neither payments are made to such parties nor is such TDS deposited due to paucity of funds. This results in delay in deposit of TDS into the Government treasury.    

The Hon’ble Punjab & Haryana High Court [TS-5904-HC-2001(PUNJAB)-O] has held that prosecution under Section 276C(2) of the IT Act would not succeed, if there is no evidence on record to show that the assessee had enough resources to pay the amount and he willfully avoided payment of tax.          

In the case of S G Kale v Union of India [TS-5245-HC-2001(RAJASTHAN)-O], the Hon’ble Rajasthan High Court gave due weightage to the fact that the tax payer was facing financial difficulties while considering whether there was a reasonable cause for non-deposit of TDS in time. The Hon’ble Court noted that penalty for failure to deposit taxes was not levied as there was a finding on record that there was no deliberate attempt on the part of the tax payer and the failure to deposit the taxes in time was on account of financial difficulties. Considering this, the prosecution proceedings were quashed.

Whether any tax refunds are due in other proceedings under the IT Act?

While preparing a response to a prosecution show cause notice one must see whether any refunds are due from the Tax Department. Courts have in various cases taken cognizance of a plea raised by tax payers when they are going through financial crunch and are entitled to some refunds from the Tax Department and such refunds have not been processed or there is delay in processing of such refunds. Such delayed refunds can be considered as a reasonable cause for delay in deposit of TDS by tax payers (assuming the delay is for an amount that is less than the refunds outstanding).

Age / health of the tax payer:

One of the defences available for an aged individual receiving prosecution notice is to claim that there is a department instruction which prescribes that prosecution proceedings need not normally be initiated against an individual whose age (at the time of commission of an alleged offence) was 70 years or more. Courts have also taken a lenient view when a tax payers have been able to explain that delay in payment / deposit of taxes was account of illness suffered by the tax payer or family members and that the conduct of the tax payers was otherwise in order.   

Issuance of notices in case of companies / firms / association of persons (AOP):

In case default is committed by a company / firm or AOP, the provisions of Section 278B of the IT Act prescribe that every person who was in charge of the company / firm or AOP at the time of commission of the offence will also be deemed to be guilty and liable for prosecution. Courts have held that a person in charge for the purposes of Section 278B means a person who is in overall control of the day to day business of the company / firm / AOP.

Such person will not be liable for prosecution if he proves the offence was committed without his knowledge or that he exercised due diligence to prevent commission of such an offence. In case it comes to light that an offence has been committed with the consent or connivance of or such offence is attributable to some neglect on the part of a director, manager, secretary or other officer of an entity, then such person will also be liable for prosecution.

It is generally seen that prosecution show cause notices are issued to all Directors as well as the principal officer and Accounts Manager/s of the company. It is then for the individual Directors / Managers to state that based on their roles and responsibilities they are either non-executive Directors and were not involved in the day to day affairs of the company. The Accounts Manager/s may plead that they are involved merely in computation of taxes payable, filing of returns and responding to queries raised by the Tax Authorities and were not the decision makers to decide what payments need to be made by their company.   

What if all these arguments are not available in the facts of a tax payer?

In such a scenario one can consider filing a compounding application wherein a Tax Payer admits guilt and approaches the designated competent authorities under Section 279(2) of the IT Act by filing prescribed forms and paying compounding fee and charges as prescribed under the Guidance for Compounding of Offences under Direct Tax Laws, 2014.

It is to be noted that compounding of offence is not a right and would be granted by the competent authorities only after considering facts and circumstances of the case as well as conduct of the applicant, nature and magnitude of offence sought to be compounded. A compounding application can be filed at any stage of the prosecution proceedings i.e., before or after institution of the proceedings. It is generally seen that the Tax Department mentions the option of compounding even in the prosecution show case notices giving the recipient an option to go for compounding. In case an appeal has been filed by the tax payer against a point on which compounding is opted for, such appeal will need to be withdrawn.    

These compounding guidelines bifurcate offences into two:

1. Category A Offence – Section 276B falls in Category A which enlists comparatively less graver offences as compared to Category B. The maximum number of times which compounding can generally be granted under every Section covered under Category A is three times. In case Mr A has been found guilty of an offence under Section 276B thrice and has opted to compound all three times, he may be considered to have expired his chances to seek compounding and may not be considered eligible to approach the competent authorities for compounding under the same Section 276B for the fourth time.

2. Category B Offences – Category B offences being more serious (like Section 276C – Wilful evasion of taxes, etc.) as compared to Category A ones can be compounded only once (subject to the conditions as are prescribed in the compounding guidelines).

The prescribed compounding fee for an offence under Section 276B is 3% per month of part thereof liable to be calculated from the date of deduction to the date of deposit of TDS. A subsequent application will attract a higher fee of 5% per month of part thereof. In addition to this fee, there could be a levy of establishment and related charges to the extent of 10% of the compounding fee as mentioned above (subject to a minimum of INR 25,000) and litigation fee as paid to department counsel as may be applicable.

In case compounding route is not available or opted for, the Tax Department may go ahead and file a criminal complaint in a designated Court. Such complaint filed by the Tax Department will be tried by a designated court that tries Economic Offences.  

Needless to mention, ‘prosecution’ is a serious matter and should therefore be initiated by the revenue authorities only in fit and deserving cases. In all fairness, prosecution provisions should not be used to threaten or harass the tax payers. The applicability of prosecution proceedings will depend on the facts and background of the case and the related conduct of the tax payer. One hopes that a holistic view is taken by the tax authorities while deciding whether or not to launch prosecution in a given case and are guided by the relevant facts, conduct of the tax payer and background and gravity of the matter.

While it appears that the Tax Administration is looking prosecution as a tool to force compliances as well as bring in additional revenues in the form of steep compounding fees and charges, it needs to be ensured that this does not result in tax terrorism and harassment of tax payers in general. It deserves to be ensured that in a haste to meet the targets as prescribed in the recent Central Action Plan for the ongoing quarter (referred to above), prosecutions should not be launched for trivial, minor lapses on the part of tax payers.