What is Section 68 of the Income Tax Act?

Section 68 of the Income Tax Act deals with the unexplained cash credit. This section enacts that

  • Where any sum of money is found credited in the books of the assessee,
  • The assessee should explain to the AO(Assessing Officer) satisfactorily the nature and source of the sum so credited and establish that the sum in question is not his income.
  • If he does not offer any explanation, or explanation offered is not found satisfactory in the opinion of the AO then, such sum may be charged as the income of the assessee.
Provision in case of Corporate Taxpayers:

In case of a closely held company(company in which public are not substantially interested )where any sum of money credited as the share application money, share capital , share premium or such other amount, by whatever name called in the books of the such company shall be deemed to be unsatisfactory unless the person, in whose name credit is recorded in the books of such company, explains to the satisfaction of Assessing Officer , the nature and source of such sum. Thus, first the Company needs to prove the identification of the person whose name is reflecting in the Books, then the source and nature in the hands of the person whose name is coming in the books needs to prove to the satisfaction of the assessing officer.

However, the exception to this provision is when such credit is recorded in the books of such a company which is a VC(venture capital fund) or a venture capital company as per Section 10(23FB).

Why was the special provision for corporate tax-payers introduced?

  • This special provision has been introduced for closely held corporate taxpayers, which in order to avoid tax evasion by companies shows the name of shareholders and third parties which are actually non existing and are being shown as paying the company share related money which is a mechanism through which the unaccounted money can be parked in such companies.
  • The proviso has placed the onus of proof on the closely held company receiving the share application money/share capital/ share premium/ any such amount to prove that such money which is invested in the company belongs to the person who has given the money to the company. Otherwise the money so received shall be taxable in the hands of the company as unexplained cash credit under section 68.

What are the conditions to be satisfied for applicability of Section 68?

Section 68 comes into operation only when the following two conditions are satisfied:

What is the taxability of unexplained credit u/s 68?

  • Section 115BBE provides that even if the assessee has included unexplained cash credits and declared them in the return of income, still he shall pay 60% tax on such income (+25% surcharge on the Tax Amount + 4% cess in all cases). [ Effective Rate is 78%]
  • Section 115BBE also provides that if unexplained cash credits are discovered by assessing officer, the assessee shall pay 60% tax on such income(+25% surcharge on the Tax + 4% cess in all cases).
  • Section 271AAC provides a penalty of 10% of tax calculated as per Section 115BBE. However, no such penalty shall be levied if assessee has included such income in Return of income and paid tax on or before the end of the previous year. [ Effective Rate is 84 %]
  • No expenditure and deductions will be allowed from such deemed income under section 68 . Also, losses shall not be allowed to be set off against such deemed income.

Thus, the effective rate is 78 per cent if such income is reflected in the return of income furnished u/s. 139. However, if such income is not reflected in the return of income furnished u/s. 139, then a penalty of 10 per cent on tax payable u/s 115BBE shall be imposed u/s 271AAC. In such a case the effective rate will be 84%.

Example to explain unexplained cash credit u/s 68

100 slum dwellers deposited cash of Rs 2,50,000 each in their bank account and gave a cheque of Rs 2,50,000 to a closely held company XYZ Pvt. Ltd. as share application money. The sum dwellers are not able to prove the source of Rs 2,50,000 in their hands to the assessing officer or explanation offered by them is found to be unsatisfactory by the assessing officer.

Now as per proviso of Section 68:
  • If in case of a closely held company any sum is found credited as share application money, share capital, share premium or any such amount (Rs 2.5 crores in case of XYZ Pvt. Ltd.)
  • the person being a resident in whose name such credit is recorded in the books of account (100 slum dwellers) do not offer an explanation about the nature and source of income i.e., Rs 2,50,000.
  • or the explanation given by these residents (slum dwellers) to the assessing officer is found to be unsatisfactory by the assessing officer.
  • It shall be deemed that the explanation offered by the assessee company about the sum so credited (Rs 2.5 Cr) is not satisfactory
  • And consequently Rs 2.5 cr shall be deemed as income of company as unexplained credit u/s 68
  • As per section 115BBE the company shall pay tax 60%+ 25% surcharge + 4% cess= 78% on the income of Rs 2.5 crores so deemed u/s 68 i.e. Rs 1,95,00,0000 . Also, as per section 271AAC, the company shall also pay a penalty of 10% of income tax i.e., 10% of 1,50,00,000 i.e., Rs 15,00,000.
Effect on slum dwellers:
  • The effect of section 115BBE will be that the slum dwellers will not get the slab benefit of Rs 2,50,000 and Rs 2,50,000 shall be taxable at a flat rate of 78%. Therefore each slum dweller shall pay tax of Rs 1,95,000 .
  • Also a penalty of 10% of tax payable under section 115BBE as per section 271AAC i.e., penalty of Rs 15,000. This penalty will not be payable if the slum dwellers pays the tax of Rs 1,95,000 on or before the end of the previous year and includes Rs 2,50,000 in their return of income.

Frequently Asked Questions (FAQs)

Q - Does Section 68 apply only to cash transactions?

Section 68 applies not only to cash transactions but also to amounts received by cheque or draft. In section 68, the words used are ‘any sum found credited in the books of the assessee maintained for any previous year. The sum of money is not restricted to the cash transactions only.

Q - How can an assessee discharge his onus of proof?

If the assessee proves all the following things then his onus is discharged-

  • Identity of the creditor
  • Capacity of the creditor
  • The genuineness of the transaction in question.

Q - What is unexplained cash credit?

Where the assessee is unable to offer an explanation for the sum credited in the books of an assessee, maintained for previous year, or the explanation offered by him is not in the opinion of the Assessing Officer, satisfactory, the sum so credited may be charged to income tax as income of assessee of that previous year. Such credit is called unexplained cash credit.

Q - Can unexplained credit be resolved in Vivaad se Vishwas scheme?

Yes,it can be. Promoters of companies that had received notices u/s 68 at the time of demonetisation can settle the litigation under the Vivaad se Vishwas scheme subject to fulfillment of the conditions of the scheme.

CA Abhishek Soni
CA Abhishek Soni

Abhishek Soni is a Chartered Accountant by profession & entrepreneur by passion. He is the co-founder & CEO of Tax2Win.in. Tax2win is amongst the top 25 emerging startups of Asia and authorized ERI by the Income Tax Department. In the past, he worked in EY and comes with wide industry experience from telecom, retail to manufacturing to entertainment where he has handled various national and international assignments.