Bombay High Court Grants Relief to Y-NOT Films, Disallows Income Tax Refund Adjustment Beyond 20% Of Disputed Demand

Granting relief to Y-NOT Films LLP, the Bombay High Court reiterated that the Income Tax Department could not take the entire tax refund of a later year to recover an earlier tax demand that is still under appeal.

The court said that in such situations, the tax department can normally adjust only 20% of the disputed amount, unless senior tax authorities specifically approve a higher recovery.

A Division Bench of Justices B.P. Colabawalla and Firdosh P. Pooniwalla was hearing a petition filed by the production house challenging the 100% adjustment of its tax refund for the year 2023–24, against a dispute of the previous year. 

The dispute arose after the tax department raised a demand of Rs 5.17 crore against the company for the previous year, 2022–23. The company has challenged this demand before the tax appellate authority, and the appeal is still pending before the bench.

Meanwhile, the department adjusted the entire refund of Rs 3.39 crore due to the company for the following year against the disputed demand under Section 245 of the Act. 

The company argued that this was unfair and contrary to government instructions. It said that when a tax demand is under challenge, the department can normally recover only a small portion until the appeal is decided.

The tax department, on the other hand, claimed that it had followed procedure and had informed the company before making the adjustment.

The High Court said it would not examine the factual dispute over whether such prior communication had actually been served. It noted that this involved disputed facts.

However, the Court went on to examine whether the tax department was legally entitled to adjust the entire refund while the appeal was still pending.

The bench referred to instructions issued by the Central Board of Direct Taxes, which explain how much tax can normally be recovered in such situations. These instructions say that, as a general rule, recovery should be limited to 20% of the disputed amount

The Court noted that if the tax department wants to recover more than 20%, it must first place the matter before senior tax authorities and obtain their approval.

In the present case, the Court found that no such approval had been taken. This fact was not disputed by the department.

“Once this is the case, we are clearly of the view that, at the highest, what could have been adjusted from the refund of A.Y. 2023-24 was only 20% of the outstanding demand for 2022-23,” the court held.

Since 20% of Rs 5.17 crore comes to about Rs 1.03 crore, the court ruled that the department could not have adjusted more than this amount.

The court directed the tax department to refund the remaining amount to the company within 30 days, along with interest as applicable under the law.

It clarified that the 20% amount retained by the department will depend on the outcome of the company's pending appeal. The court also asked the appellate authority to decide the appeal as quickly as possible and said that no further recovery can be made until the appeal is decided.

For the Petitioner: Advocates Sanskruti Harode and Vinayak Chitale, instructed by Parinam Law Associates.

For the Respondents: Advocate P. A. Narayanan.