Circular Vs Bogus Trading: ITAT Deletes Rs. 5.44 Cr. Demand, Rejects Bogus Purchase Allegation

Circular Vs Bogus Trading: ITAT Deletes Rs. 5.44 Cr. Demand, Rejects Bogus Purchase Allegation

Gandhidham–based salt merchant reported a loss of Rs. 13.8 lakhs in his income tax return filed for the AY 2018–19. After the tax authorities discovered high-volume purchases totalling Rs. 43.53 crores, the Assessing Officer reopened the case under Section 148, Income Tax Act, 1994. The Assessing Officer declared the transactions to be “bogus purchases” and added 12.5% of the total purchase, approximately Rs. 5.44 crore, to his income. This addition was done based on findings that indicated circular trading without actual movement of goods, supported by patterns in fund flow and an investigation into associated entities, which pointed to possible accommodation entries.

The assessee argued that he was only involved in pure trading, which is the buying and selling of salt with little to no manufacturing and low profit margins. To demonstrate the authenticity of his purchases and sales, he provided more than 1,400 pages of documentary proof, such as ledger confirmations, transport records, bank transactions, and VAT filings. The assessing officer, however, dismissed the evidence and made the addition on the grounds of circular trading.

CIT(A)’s Decision: Aggrieved by the AO’s order, the assessee appealed to the CIT(A), who upheld the addition, citing failure to prove genuine purchases and evidence of bogus transactions, leading to a further appeal before the Tribunal.

Issue Raised: Whether legitimate trading transactions can be deemed fraudulent purchases under Section 68 and subject to a 12.5% presumptive tax rate just because they involve related parties and show a circular flow of funds.

ITAT Held: The Hon’ble Tribunal accepted the arguments of the assessee that the Assessing Officer had himself labelled the transactions as “circular trading” and not as outright bogus or fraudulent purchases. The assessee had shown a net trading profit of Rs. 18.12 lakhs (0.39% of turnover), which was in line with industry standards and earlier decisions in cases of a similar nature. The tribunal relied on the decisions of its coordinate bench in Pradip Overseas Ltd. and also on the Gujarat High Court’s ruling in PCIT v. KFC Exports (P.) Ltd., which concluded that although circular trading is tax inefficient, it is not the same as fraudulent purchases, particularly when backed up by documentary evidence in the form of confirmed records and real sales.

The tribunal further clarified that Section 68 only comes into play when the books of accounts contain unexplained credits. Additions under Section 68 cannot be justified in situations where sales and purchases are systematically recorded and matched, and the profit from such activity has already been declared. Additionally, the Tribunal reiterated that the assessee is not estopped from challenging an addition merely because an alternative plea (such as 12.5% estimation) was made before the AO under a mistaken belief. Resultantly, the appeal was allowed in full, and the ITAT removed the entire addition, acknowledging that the transactions were legitimate and fell under the purview of circular trading rather than fraudulent and bogus purchases.

To Read the Judgment, Download the PDF Given Below.