Penalties under the Fiscal Laws
Dharmendra Textiles — demystified
Ever since the judgment of Dharmendra Taxtiles1
pronounced by the Apex Court in the matter of
penalties under the fiscal laws declaring that
‘mens rea’ is not a necessary ingredient in fiscal
laws, the Departmental authorities are imposing
penalties mechanically. Let us paraphrase the
wordings of Hon’ble Shri Pramod Kumar, Member,
Income Tax Appellate Tribunal, Pune, in the matter
of Kanbay Software India Pvt. Ltd. (now called
Capgemini India Pvt. Ltd.)2 at para 11 “As we
proceed to deal with the grievance raised in this
appeal, we may mention that in the recent past,
we have witnessed a very lively, though at times
somewhat acrimonious, debate on paradigm shift
in the scheme of Section 271(1)(c), claimed to
have been brought about by the Hon’ble Supreme
Court’s landmark judgment in the case of Union
of India vs. Dharmendra Textile Processors (306
ITR 277). The perceptions of the taxpayers and
the tax authorities about the impact of this judgment
are at times so diametrically opposed to each
other that there is effectively no meeting ground
between these two extremes. With the consent of
the parties, therefore, we have decided to hear
several penalty appeals together so that we have
the benefit of the guidance by a cross-section
of Bar members, as also Revenue authorities, in
finalising our stand on this fundamental issue
i.e., impact of the Hon’ble Supreme Court’s judgment
in the case of Dharmendra Textile Processors (supra)
on the scheme of Section 271(1)(c).”
The Hon’ble Member further expressed :
“48. The views expressed by their Lordships in
Dharmedra Textile Processors’ case (supra) cannot
be viewed as an authority for the proposition
that a penalty under Section 271(1)(c) is an automatic
consequence of an addition being made to income
of the taxpayer, for the reason that whether it
is a civil liability or a criminal liability,
penalty under Section 271(1)(c) can only come
into play when the conditions laid down under
that Section are to be satisfied. In view of the
elaborate discussions in the preceding paragraphs,
by no stretch of logic or rationale it could be
said that imposition of penalty under Section
271(1)(c) has a cause-and-effect relationship
with addition being made to the returned income
per se. An addition being made to income does,
because of impact of Explanation 1, effectively
raise a presumption against the assessee, but
that is an entirely rebuttable presumption and
the scheme of rebuttal is provided in the Explanation
itself.
49. In our humble understanding, all that the
Explanation 1 to Section 271(1)(c) does is to
shift the onus of proof from the Assessing Officer
to the assessee; instead of the Assessing Officer
being under an obligation to establish the mala
fides of the assessee, the onus is now on the
assessee to establish his innocence and righteous
conduct. As a matter of fact, as a result of the
Explanation 1 to Section 271(1)(c) in its present
form, the burden of proof has entirely shifted
to the assessee, and it is this paradigm shift
which is one of the most important features of
rule of evidence in civil proceedings as distinct
from criminal proceedings. In the ‘Law of Evidence’
by Ratan Lal and Dhiraj Lal (@ pages 10-11), this
aspect is highlighted thus : Difference between
evidence in civil and criminal proceedings :
In a civil case, a Judge in fact must find for
the party in whose favour there is a preponderance
of proof, though the evidence is not entirely
free from doubt. In a criminal case, no weight
of preponderant evidence is sufficient, short
of that which excludes all reasonable doubt.
In a criminal trial, the degree of probability
of guilt has got to be very much higher — almost
amounting to a certainty — than in civil proceeding,
and if there is slightest reasonable or probable
chance of innocence of an accused, the benefit
must be given to him . . . .
The onus of proof in criminal cases never shifts
to the accused, and they are under no obligation
to prove their innocence . . . .
50. The views so expressed by the learned authors
appeal to us. Viewed from the above perspective,
the observations made by Their Lordships in Dharmendra
Textile Processors’ case (supra) only re-emphasise
the paradigm shift on burden of proof as brought
about by Explanation 1 to Section 271(1)(c). The
observations made in Dilip Shroff’s case, on the
need for the tax authorities to establish mens
rea before a penalty can be imposed, were contrary
to this school of thought and, to that extent,
therefore, the Larger Bench overruled the Dilip
Shroff decision. However, even when the liability
under Section 271(1)(c) is viewed as a civil liability,
while the onus is certainly not on the tax authorities
to establish mens rea of the assessee, the explanation
of the assessee is still to be examined by the
adjudicating authority on its own merits.
51. There can be three distinct mutually exclusive
situations in the case of an addition to income.
In the first scenario, the addition made could
be on account of contumacious conduct of the assessee
in which mens rea is established or can be reasonably
inferred. As far as this situation is concerned,
penalty was always leviable under Section 271(1)(c).
In the second scenario, while the addition is
made to the returned income, neither is it established,
or can be reasonably inferred, that the addition
made to the income is on account of contumacious
conduct of the assessee nor is it established,
or can be reasonably inferred, that the assessee’s
conduct and explanation is bona fide. In such
a situation, in the light of Hon’ble Supreme Court’s
judgment in the case of Dilip Shroff (supra),
penalty under Section 271(1)(c) could not have
been levied since the onus of establishing mens
rea of the assessee could not have been discharged
in such a situation. However, as the law stands
now and in the light of the Hon’ble Supreme Court’s
judgment in the case of Dharmendra Textile Processors
(supra), penalty under Section 271(1)(c) will
be leviable since it is not necessary for the
tax authorities to establish mens rea of the assessee.
That is the area in which legal position has changed.
However, there is still a third scenario in which
an addition is made to the income but it is established,
or can be reasonably inferred, that assessee’s
conduct and explanation is bona fide. These are
the situations in which the assessee is able to
establish his innocence. In such a situation,
in accordance with the undisputed scheme of Section
271(1)(c), neither the penalty was leviable prior
to Hon’ble Supreme Court’s judgment in the case
of Dilip Shroff, nor is it leviable after the
Dharmendra Textile Processors’ case.”
Now, let us examine another Apex Court judgment
which is delivered on May 12, 2009, i.e., after
the judgment of Dharmendra Textiles (cited supra)
in the case of Union of India vs. M/s. Rajasthan
Spinning & Weaving Mills, Civil Appeal No.
3527 of 2009 (Arising out of S.L.P. (Civil) No.
15927 of 2007), wherein one of the Judges was
presiding over in the Larger Bench in the very
case of Dharmendra Textile, (cited supra), viz.
Hon’ble Shri Aftab Alam, J.
“20. At this stage, we need to examine the recent
decision of this Court in Dharmendra Textile (supra).
In almost every case relating to penalty, the
decision is referred to on behalf of the Revenue
as if it laid down that in every case of non-payment
or short payment of duty the penalty clause would
automatically get attracted and the authority
had no discretion in the matter. One of us (Aftab
Alam, J.) was a party to the decision in Dharmendra
Textile and we see no reason to understand or
read that decision in that manner. In Dharmendra
Textile the Court framed the issues before it,
in paragraph 2 of the decision, as follows :
“2. A Division Bench of this Court has referred
the controversy involved in these appeals to a
Larger Bench doubting the correctness of the view
expressed in Dilip N. Shroff vs. Joint Commissioner
of Income Tax, Mumbai & Anr. [2007 (8) SCALE
304]. The question which arises for determination
in all these appeals is whether Section 11AC of
the Central Excise Act, 1944 (in short the ‘Act’)
inserted by Finance Act, 1996, with the intention
of imposing mandatory penalty on persons who evaded
payment of tax should be read to contain mens
rea as an essential ingredient and whether there
is a scope for levying penalty below the prescribed
minimum. Before the Division Bench, stand of the
Revenue was that said Section should be read as
penalty for statutory offence and the authority
imposing penalty has no discretion in the matter
of imposition of penalty and the adjudicating
authority in such cases was duty-bound to impose
penalty equal to the duties so determined. The
assessee on the other hand referred to Section
271(1)(c) of the Income Tax Act, 1961 (in short
the ‘IT Act’) taking the stand that Section 11AC
of the Act is identically worded and in a given
case it was open to the Assessing Officer not
to impose any penalty. The Division Bench made
reference to Rule 96ZQ and Rule 96ZO of the Central
Excise Rules, 1944 (in short the ‘Rules’) and
a decision of this Court in Chairman, SEBI vs.
Shriram Mutual Fund & Anr. [2006(5) SCC 361]
and was of the view that the basic scheme for
imposition of penalty under Section 271(1)(c)
of IT Act, Section 11AC of the Act and Rule 96ZQ(5)
of the Rules is common. According to the Division
Bench the correct position in law was laid down
in Chairman, SEBI’s case (supra) and not in Dilip
Shroff’s case (supra). Therefore, the matter was
referred to a larger Bench.”
After referring to a number of decisions on interpretation
and construction of statutory provisions, in paragraphs
26 and 27 of the decision, the Court observed
and held as follows :
“26. In Union Budget of 1996-97, Section 11AC
of the Act was introduced. It has made the position
clear that there is no scope for any discretion.
In para 136 of the Union Budget, reference has
been made to the provision stating that the levy
of penalty is a mandatory penalty. In the Notes
on Clauses also similar indication has been given.
27. Above being the position, the plea that the
Rules 96ZQ and 96ZO have a concept of discretion
in-built, cannot be sustained. Dilip Shroff’s
case (supra) was not correctly decided but Chairman,
SEBI’s case (supra) has analysed the legal position
in the correct perspectives. The reference is
answered . . . . ”.
“21. From the above, we fail to see how the decision
in Dharmendra Textile can be said to hold that
Section 11AC would apply to every case of non-payment
or short payment of duty, regardless of the conditions
expressly mentioned in the Section for its application.
22. There is another very strong reason for holding
that Dharmendra Textile could not have interpreted
Section 11AC in the manner as suggested because
in that case that was not even the stand of the
Revenue. In paragraph 5 of the decision the Court
noted the submission made on behalf of the Revenue
as follows :
“5. Mr. Chandrashekharan, Additional Solicitor
General submitted that in Rules 96ZQ and 96ZO,
there is no reference to any mens rea as in Section
11AC where mens rea is prescribed statutorily.
This is clear from the extended period of limitation
permissible under Section 11A of the Act. It is
in essence submitted that the penalty is for statutory
offence. It is pointed out that the proviso to
Section 11A deals with the time for initiation
of action. Section 11AC is only a mechanism for
computation and the quantum of penalty. It is
stated that the consequences of fraud, etc., relate
to the extended period of limitation and the onus
is on the Revenue to establish that the extended
period of limitation is applicable. Once that
hurdle is crossed by the Revenue, the assessee
is exposed to penalty and the quantum of penalty
is fixed. It is pointed out that even if in some
statutes mens rea is specifically provided for,
so is the limit or imposition of penalty that
is the maximum fixed or the quantum has to be
between two limits fixed. In the cases at hand,
there is no variable and, therefore, no discretion.
It is pointed out that prior to insertion of Section
11AC, Rule 173Q was in vogue in which no mens
rea was provided for. It only stated “which he
knows or has reason to believe”. The said clause
referred to wilful action. According to the learned
counsel what was inferentially provided in some
respects in Rule 173Q, now stands explicitly provided
in Section 11AC. Where the outer limit of penalty
is fixed and the statute provides that it should
not exceed a particular limit, that itself indicates
scope for discretion but that is not the case
here.”
23. The decision in Dharmendra Textile must,
therefore, be understood to mean that though the
application of Section 11AC would depend upon
the existence or otherwise of the conditions expressly
stated in the Section, once the Section is applicable
in a case, the concerned authority would have
no discretion in quantifying the amount, and penalty
must be imposed equal to the duty determined under
sub-Section (2) of Section 11A. That is what Dharmendra
Textile decides.
24. It must, however, be made clear that what
is stated above in regard to the decision in Dharmendra
Textile is only insofar as Section 11AC is concerned.
We make no observations (as a matter of fact there
is no occasion for it !) with regard to the several
other statutory provisions that came up for consideration
in that decision.”
Similar view is also expressed in the case of
ACIT vs. M/s. VIP Industries Ltd. ITA No. 4524/Mum/2006
A. Y. 2000-01 ‘A’ Bench dt. 20-3-2009.
From the above it is clear that penalties under
the fiscal laws cannot be automatically imposed
even though ‘mens rea’ element is not provided
in the Section.
Again, in the case of force majeure (act of God)
i.e., flood, fire, earthquake, etc., even if mens
rea is not provided in the penal Section, how
far it would be appropriate to penalise a person
for the act of God ?
Take a hypothetical situation that due to electricity
supply failure in the entire Maharashtra State,
which happens to be on the last day of e-filing
of returns, what could be the scenario ? Is it
fair to impose penalty on all the dealers @ Rs.10,000
considering it is penalty under the fiscal law
and no ‘mens rea’ is required to be seen ? This
angle is yet to be answered by the Apex Court.
Though there is an indirect indication from the
above judgments that penalty cannot be imposed
in such circumstances and Hindustan Steel, 25
STC 211 (SC) and CIT vs. Anvar Ali, 76 ITR 696
(SC) hold the field.
Recently, Karnataka High Court in the case of
Philips Electronics India Ltd. vs. State of Karnatak
and others [2009] 21 VST 321 (Karn) has held that
very high quantum of penalty fixed for a breach
of a provision, especially in case of smaller
dealers, becomes arbitrary and irrational, and
is violative of Article 14 of the Constitution.
The arbitrary and irrational levy automatically
loses the nexus of achieving the object of correcting
the mischief sought to be prevented by the Legislature
and . . . . thereby failing the test of reasonable
restrictions saved by article 19(6) of the Constitution
vis-à-vis article 19(1)(g).
To conclude, Dharmendra Textiles needs to be
understood in light of the above clarifications
made later by the Tribunal and the Supreme Court.
Ashvin A. Acharya
Editor
