Facts of the Case

The assessee declared Long-Term Capital Gain (LTCG) arising from the sale of listed equity shares and claimed exemption under Section 10(38) of the Income-tax Act, 1961. The shares were stated to have been purchased earlier and subsequently sold through a recognized stock exchange after payment of Securities Transaction Tax (STT).

During scrutiny assessment under Section 143(3), the Assessing Officer treated the LTCG as bogus, alleging that the transactions involved penny stock companies used for accommodation entries. The AO relied on investigation reports and abnormal price rise of the shares to conclude that the gains were not genuine.

Consequently, the sale proceeds were treated as unexplained cash credit under Section 68 and added to the income of the assessee. The CIT(A) confirmed the addition. Aggrieved, the assessee filed an appeal before the ITAT, Allahabad.

Issues Involved

  1. Whether LTCG claimed on sale of shares was genuine.
  2. Whether exemption under Section 10(38) could be denied on the basis of suspicion regarding penny stock transactions.
  3. Whether addition under Section 68 was justified despite documentary evidence supporting the transactions.
  4. Whether reliance on general investigation reports without specific evidence against the assessee was permissible.

 Petitioner’s (Assessee’s) Arguments

  • The share transactions were genuine and executed through recognized stock exchange mechanisms.
  • All purchases and sales were supported by contract notes, demat statements, bank statements, and proof of STT payment.
  • The AO made additions solely on suspicion and general reports relating to penny stocks, without any direct evidence linking the assessee to manipulation.
  • No material was produced to show that the assessee introduced unaccounted money.
  • Therefore, exemption under Section 10(38) was rightly claimed and could not be denied arbitrarily.

Respondent’s (Revenue’s) Arguments

  • The Revenue contended that the shares belonged to companies identified as penny stocks used for generating artificial capital gains.
  • The unusual rise in share prices indicated manipulation rather than genuine market activity.
  • Investigation wing reports suggested that such transactions were accommodation entries designed to convert unaccounted income into exempt LTCG.
  • Hence, the AO was justified in treating the gain as unexplained under Section 68 and denying exemption.

Court Order / Findings

The ITAT Allahabad examined the evidence on record and observed that the assessee had furnished complete documentary proof supporting the purchase and sale of shares, including demat records, contract notes, bank statements, and proof of STT payment.

The Tribunal held that suspicion, however strong, cannot replace evidence. Merely because the shares belonged to a company later categorized as a penny stock does not automatically render the assessee’s transaction bogus.

It was further observed that the Revenue failed to establish any direct connection between the assessee and alleged manipulation or accommodation entry providers. In the absence of such evidence, addition under Section 68 was not sustainable.

Accordingly, the Tribunal allowed the appeal and directed deletion of the addition, holding that the LTCG was genuine and eligible for exemption under Section 10(38).Important Clarification

  • Documentary evidence such as demat statements and contract notes carries significant evidentiary value.
  • Additions cannot be made solely on the basis of general investigation reports.
  • Suspicion cannot substitute proof in tax proceedings.
  • Genuine capital gains from listed shares cannot be denied exemption merely due to abnormal price movement.

 

Link to download the order –

https://itat.gov.in/public/files/upload/1606388921-Mrs.%20Shashi%20Vaish.pdf

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