Kalpesh Classes

Cheque transactions carry conviction Entries in the accounts, whether by way of cash borrowings or other credits in the books classed as cash​​ credits, or any payment which is chargeable in trading or P/L Account made in cash are to be proved.​​  ​​​​ The same amount if received by cheque or paid by cheque carries greater conviction.​​ The preference for cheque transactions as better proof of transactions has found its way in the statute as well in section 40A(3), section 269SS and 269T.​​ It is very unfortunate that there should be so much faith in bank transactions as proof of genuineness since it is as easy to disguise cheque payments with reference to cheque transactions as in cash. Notwithstanding the fact that there could be tax evasion by adoption of cheque as a mode of payment, statutes as well as practice place greater faith in cheque transactions. Trade practice or the exigencies of business requiring cash payment in certain urgent circum stances, or where it is prompted by other considerations like lack of faith in the other party, a taxpayer may find himself in difficulties when he has to accept cash.​​ The fact that banks take an unduly long time for cashing cheques, especially when they are out-station instruments is also a circumstance which is not taken into consideration when explanation is given for preference of cash to cheque.​​ The payments made in advancing loans and returning the principal amount of borrowed moneys are not covered by these provisions of section 40A(3), as these do not constitute 'expenditure'.​​ 

This provision is designed to counter evasion of tax through claims for expenditure shown to have been incurred in cash with a view​​ to frustrating proper investigation by the Department as to the identity of the payee and the reasonableness of the payment.​​ Lot of hardship is faced by assessees, especially to transport and civil contractors and others, who are engaged in trades where, looking to the exigencies of business, payment has to be made in cash. In order to remove their hardship, fair limit of twenty thousand rupees is kept.

It may be noted that the provision in section 40A(3) is applicable to all categories of expenditure​​ incurred in businesses and professions, including expenditure on purchase of raw materials, stores or goods, salaries to employees and also other expenditure or professional services, or by way of brokerage, commission, interest, etc. By this test, therefore, the provision does not apply to the advancement of loans or repayment of the principal amount of any loan, as these do not constitute expenditure deductible in computing taxable income.

Where there are three parties, A, B and C, where A owes money to B, and B owes money to C, it is possible for B to ask A to take over the responsibility of repayment to C as long as C is agreeable to it. In such an event B would be repaying the money owed to C by a book entry crediting A and debiting C. In the case of A he would debit B and credit C, while C would credit B and debit A. There has been both borrowing and repayment as between the different​​ parties with no cash passing between them. It cannot be said that this should have been done only by account-payee cheque as between the parties.​​ 

The object of the provision to​​ have transparency or to have identification of the parties is also an advantage as there are three parties involved with the result that collusion which is possible where two parties are involved in transactions in cash, is practically ruled out. The third​​ party without being a bank, may serve the purpose of a bank where both the parties to the transaction have an account with such third party.​​ 

All outgoings, including purchase of stock-in-trade are covered​​ 

Section 40A(3) refers to the expenditure incurred by the assessee in respect of which payment is made. It means all outgoings are brought under the word ‘expenditure’ for the purpose of the sub-section. The expenditure for purchasing the stock-in-trade is one of such outgoings. - Attar Singh Gurmukh Singh v. ITO [1991] 191 ITR 667 (SC). The word "expenditure" in section 40A(3) has not been defined in the Act. It is a word of wide import. Section 40A(3) refers to the expenditure incurred by the assessee in respect of which payment is made.​​ It means that​​ all outgoings are brought under the word "expenditure" for the purpose of the section. The expenditure for purchasing stock-in-trade is one of such outgoings. Section 40A(3) is, therefore, attracted to payments made for acquiring stock-in-trade and other materials. [1991] 191 ITR 0667W ​​ Attar Singh Gurmukh Singh vs. ITO (Supreme Court of India)

Advance payments are also covered​​ 

Even if the payments were made by way of advances and were ultimately treated as discharging the liability to pay the price of the goods purchased, the payments so made must be considered to fall within the expression ‘expenditure’ incurred for payment of the price of the goods - Kejriwal Iron Stores v. CIT [1988] 169 ITR 12 (Raj.).

Conclusion

Provision of section 40A(3) shall apply only for actual cash payment. Any amount written off in the books of accounts or adjusted against other account shall not attract the provision.​​ The expenditure for this purpose shall include any payment in form of trading advance or payment for​​ acquisition of stock in trade. However any capital transaction shall not attract the provisions.