Supreme Court limits penalty under Section 271AAA to undisclosed income not admitted during search and directs levy only on part of assessed amount

A Bench of Justices J.B. Pardiwala and Manmohan heard the appeal by K. Krishnamurthy against the Karnataka High Court's dismissal of his Section 260A appeal challenging penalty orders under Section 271AAA of the Income Tax Act, 1961. The challenge concerned whether penalty at 10% could be imposed on the entire returned income for AY 2010-11 / 2011-12 or only on amounts that qualified as "undisclosed income" found in the course of the search.

The Court allowed the appeal in part and clarified the scope of Section 271AAA. It held that the Assessing Officer possessed a discretionary power to levy penalty under Section 271AAA(1) but that such power was "not mandatory" and had to be exercised in accordance with law; the onus lay on the Assessing Officer to demonstrate that undisclosed income, as defined in the Explanation to Section 271AAA, was found in the course of search. The Court, in its reasoning, observed: "This Court is of the view that Section 271AAA(1) of the Act 1961 stipulates that the Assessing Officer may, notwithstanding anything contained in any other provisions of the Act 1961, direct the Assessee, in a case where search has been carried out to pay by way of a penalty, in addition to the tax, a sum computed at the rate of 10% (Ten per cent) of the undisclosed income of the specified previous year. However, the imposition of penalty is not mandatory. Consequently, penalty under this Section may be levied if there is undisclosed income in the specified previous year." The Court held that penalty was not attracted on Rs.2,27,65,580 which the appellant had admitted during the course of search, substantiated and on which tax with interest had been paid (albeit belatedly). It directed payment of penalty only at 10% on Rs.2,49,90,000, which the Court found constituted undisclosed income discovered in continuation of the search.

Background

The dispute arose from a search under Section 132 on 25 November 2010 and subsequent assessment dated 15 March 2013 assessing total income at Rs.4,78,02,616 for the relevant year. The appellant had entered an MOU dated 19 January 2009 and, during the search, admitted income of Rs.2,27,65,580 before the DDIT(Inv.). Penalty orders under Section 271AAA were imposed by the AO for AY 2010-11 and AY 2011-12; the CIT(A) set aside the penalty for AY 2010-11 but sustained it for AY 2011-12; the ITAT affirmed the penalty. The High Court dismissed the taxpayer’s Section 260A appeal, holding that compliance with all three conditions of Section 271AAA(2) was mandatory and that the appellant had not paid tax with interest in time.

The appellant contended that the AO had not satisfied himself that "undisclosed income" as defined in the Explanation was found in the specified previous year, that imposition of penalty was discretionary (relying on precedents such as Dilip N. Shroff), and that the MOU alone could not form the basis for penalisation. The Revenue maintained that the conditions of Section 271AAA(2) were not fulfilled, that the search led to recoveries including sale deeds from the Society, and that concurrent findings below supported levy of penalty on the returned income. The Supreme Court analysed the statutory text, the Explanation defining "undisclosed income" and "specified previous year", and precedent, holding that the exception in Section 271AAA(2) applied to the amount admitted and substantiated during search but not to the amount (Rs.2,49,90,000) disclosed only during assessment proceedings as a result of documents obtained in continuation of the search. The Court concluded that penalty at 10% was leviable only on Rs.2,49,90,000 and not on the whole assessed sum; pending applications were disposed of.

Case Details: Case No.: Civil Appeal No. 2411 of 2025 (Arising out of SLP (C) No. 943 of 2023); Citation: 2025 INSC 208 Case Title: K. Krishnamurthy v. The Deputy Commissioner of Income Tax Appearances: For the Petitioner(s): [Not indicated in the judgment] For the Respondent(s): [Not indicated in the judgment]