Under-reporting of income and Misreporting of income

• Auditing and Assurance
• ||
• February 28, 2024

Taxes are a crucial part of the Indian financial system as they contribute significantly to the government’s revenue sources. To keep things fair, the Income Tax Act 1961 has a superb provision – Section 270A; let’s break it down and understand how it works to keep our tax system fair and honest.

Suppose you have a pizza, and you are telling your friend how many slices you ate; if you say you had four slices but in reality, you ate 5, that’s like underreporting, and if you tell your friend you had pizza but in reality, you had a burger, that’s misreporting. Here comes the role of Section 270A.

Here we go through:

1. Key Definitions
2. Meaning of underreporting.
3. How to calculate the amount of underreporting in different scenarios.
4. How to compute tax payable on under-reported income.
5. What is the penalty for underreporting Income?
6. Meaning of Misreporting of income.
7. Penalty for misreporting of income
8. Closing thoughts

Key Definitions to understand the blog:

1. Assessee – As per section 2(7) of the Income Tax Act, 1961, the assessee means any person by whom income tax is payable.
   
2. Person – In the Income Tax Act, a person may be an individual, HUF, Company, Trust, Association of Persons, Body of Individuals, or a Judicial Artificial Person.
   
3. Assessment – As per the Income Tax Act, the assessment includes reassessment, which means the computation of a person’s income by the income tax authorities when the assessor fails to file a return of income or files a default return of income.
   
4. Income-tax officer –A person appointed to be an Income tax officer under section 117 of the act.
   
5. Prescribed – Means prescribed by rules made under this Act.
   
6. Tax – Means income-tax and super-tax chargeable under the provisions of this Act.
   
7. Total Income – Means the total amount of income referred to in section 5 of the act, computed in the manner laid down in this Act.

Finance Act 2016 introduced section 270A, applicable from A.Y. 2017-18, governing the penalty provisions in case of “Under-reporting” and “Misreporting”.

Let us understand what the provision says:

Under-Reporting

According to section 270A(2), a person shall be considered to have under-reported his income if:-

1. The income assessed is greater than the income mentioned in the Income tax return.

2. The income assessed is greater than the basic exemption limit, which is Rs. 3 lakhs as per the default tax regime under section 115BAC and where no return of income has been furnished.

3. The income reassessed by the tax authorities is greater than that assessed by the assesses or reassessed immediately before such reassessment.

4. The amount of deemed total income assessed by the assesses or reassessed by the income tax authorities as per the provisions of section 115JB or section 115JC, as the case may be, is greater than the deemed total income mentioned in the return.

5. Record any amount of deemed total income assessed as per the provisions of section 115JB or section 115JC is greater than the Basic exemption limit(3 lacs), where no return of income has been filed.

6. As the case may be, the amount of deemed total income reassessed by the Income-tax Authorities as per the provisions of section 115JB or section 115JC is greater than the deemed total income assessed by the assesses or reassessed immediately before such reassessment.

7. The income assessed or reassessed by the income tax authorities has the effect of reducing the loss or converting such loss into income.

The above chart provides a summary of the calculation of the amount of under-reporting:

a.) If assessed for the first time:

 If return of income has been filed: Difference between the assessed income and the amount of income determined u/s 143(1)(a) by the Income Tax Authorities.

For example, if the income assessed is Rs. 18.50 lacs as against income u/s 143(1) Rs. 9 lacs.

Under-reported income = 18.50 – 9.00 = 9.50 lacs.

b.) If the return has not been furnished:

• In case of Firm, Company, or Local Authority: Assessed Income.

• In any other case, the difference between the assessed income and the maximum amount is not taxable.

Example: If the income assessed is Rs. 18.50 lacs and no Return of income is filed by the individual.

Under-reported income = 18.50 – 2.50 = 16.00 lacs.

c.) In cases where there is an effect of reducing loss or converting loss into income:

Difference between the loss claimed and the income or loss, as the case may be assessed or reassessed.

Example: Losses claimed is Rs. 2.50 lacs, and income assessed is Rs. 7.50 lacs.

Under-reported income = 7.50 – 2.50 = 5.00 lacs.

d.) Where Sec. 115JB/115JC are applicable:

Under-reported income will be calculated as per the formula:

(A – B) + (C – D)

A = the total income assessed as per general provisions of the Act.

B = the total income assessed as per general provisions of the Act less the amount of under-reported income.

C = the total income assessed as per the provisions contained in section 115JB or section 115JC.

D = the total income assessed as per the provisions contained in section 115JB or section 115JC minus the amount of under-reported income.

Where the amount is considered under both normal provision and MAT/AMT, then such amount shall not be reduced from the total income assessed while determining the amount under item D.

As we discussed, the calculation of the amount of under-reporting income, the purpose for the same is to calculate Tax payable on the under-reported income, which enables the tax authorities to impose penalties on the same. Let us understand the calculation of tax payable.

Tax payable in respect of the underreported income shall be:

Determined as per the formula:

 (X-Y)

Where,

X – Amount of tax calculated on the under-reported income as increased by the total income determined u/s 143(1)(a) or assessed, reassessed, or recomputed in the preceding order as if it were the total income and

Y – Amount of tax calculated on the total income determined u/s 143(1)(a) or assessed, reassessed, or recomputed in the preceding order.

Penalty for Under-Reporting

The Assessing Officer or the Commissioner (Appeals) or the Principal Commissioner or Commissioner may, during the course of any proceedings under this Act, direct that any person who has underreported or misreported his income shall be liable to pay a penalty in addition to tax.

Penalty = 50% of the amount of tax payable on under-reported income.

Misreporting of income

Now let us understand the concept misreporting of income as per the Income Tax Law.

According to section 270A(9), the cases of misreporting of income shall be the following:-

1. Misrepresentation or suppression of facts.
2. Failure to record investments in the books of account.
3. The claim of expenditure is not substantiated by any evidence.
4. Recording of any false entry in the books of account.
5. Failure to receipt in books of account.
6. Failure to report any international transaction or any transaction deemed to be an international transaction or any specified domestic transaction to which the provisions of Chapter X are applied.

Penalty for Misreporting

Penalty = 200% of the amount of tax payable on under-reported income.

Closing Thoughts:

Under-reporting of income due to misreporting is a huge cost to the taxpayers. The penalty provisions should have such an effect that it will prevent taxpayers from doing it. However, the assessee can get immunity from the penalty imposed, as per the provisions of 270AA.

Assessee can file an application u/s 270AA, which shall be made within one month from the end of the month in which the order u/s 143(3) or 147 is received in such form & manner as prescribed.