Deductibility of Loss by Embezzlement

► Date : Jul 07, 2022

A question of law relating to deductibility of amount written off relating to embezzlement was recently decided by the Chennai ITAT where the assessee had preferred the appeal in front of ITAT against the order of lower authorities disallowing the deduction of the embezzled amount written off. The caselaw provides an insight regarding the deductibility of embezzled amount and the time line for claiming the deduction of embezzled amount.  

Facts of the Case 

The assessee company is engaged in the business of trading in automobile spare parts, etc. The assessee claimed an amount of Rs.1,07,35,908/- as written off on account of embezzlement which was reported in P&L account as extraordinary item vide Note-V of the audited accounts. AO made an enquiry regarding the same to which assessee explained that during the financial year 2001-02, the assessee-company maintained bank account with Central Bank of India and company officials namely Shri J.C. Joseph clandestinely removed some cheque leaves, forged signature of the official of the company and withdrawn a total sum of Rs.1,07,35,908/- from this bank account. The company came to know about the embezzlement in the course of bank reconciliation and accordingly, lodged a complaint was lodged with the Crime Branch of Chennai City Police in December, 2001. The assessee also pursued the matter with the Central Bank of India requesting them to reimburse the amount withdrawn from the account of the company by means of forged cheques. It was the contention of the company that primary responsibility of passing of forged cheques rested with the Bank. The Bank conducted internal enquiry, since there was no fault on the part of the bank, bank took a stand that it was not responsible for paying the alleged amount of forged cheques. The assessee also filed complain with Central Bureau of Investigation (CBI). Going further, the company perused the matter by filing complaint with Banking Ombudsman on 29.10.2004 but the same was dismissed. The assessee, then, pursued the matter with the Executive Director and Chairperson of the Bank. As a final attempt, the assessee company met with the officials in March, 2008 but the bank again refused to accept any responsibility and it was made clear to the company that bank will not pay any amount this account.  There was no scope of recovery of the amount involved from the accused as well as from the bank, the assessee company came to the conclusion that the amount of Rs.1,07,35,908/- embezzled from this account by way of forged cheques cannot be recovered and therefore wrote of this amount in assessment year 2008-09.

The AO did not doubt the claim of embezzlement on merits but held that the embezzlement took place in financial year 2001-02 and assessee company came to know of it during the course of bank reconciliation and assessee company also quantified the amount of embezzlement during the period itself as evidenced by the complaint filed by the assessee with the police, hence the claim should have been made in AY 2002-03. Accordingly, he disallowed the claim.

CIT(A) confirmed the action of the AO and dismissed the assessee’s claim by stating that the assessee is entitled for deduction of embezzlement loss either in the year of discovery or in the year in which the amount was crystallized or the year in which the assessee realizes that the amount cannot be recovered, whichever is later. According to CIT(A), the embezzlement took place in financial year 2001-02 and this was discovered by assessee in that very year because the assessee filed a petition before bank Ombudsman on 29.10.2004. Further the assessee could not provide any proof that the bank officials made it clear in March, 2008 that the bank will not be paying any amount to the assessee company.

Decision of ITAT

As per the para 2 of the Circular No. 035D(XLVII-20) [F. NO. 10/48/65-IT(AI)] dated 24th November 1965 relating to the Loss by embezzlement by employees and Deductibility thereof wherein it is clearly mentioned that the loss should be allowed as deduction in the year in which it is discovered. 

ITAT noted that Hon’ble Jammu & Kashmir High Court in the case of J and K Bank Ltd., supra where it was held that as the expression detection and discovery have different and distinct connotations in law and the expression “discovery” has to be interpreted so as to mean that loss must be deemed to have arisen only when employer comes to know about it and realizes that the amount embezzled cannot be recovered and not merely from the date of acquiring knowledge in which that embezzlement has taken place.

ITAT placed its reliance on the decision of Hon’ble Supreme Court in the case of Associated Banking Corporation of India Ltd., 56 ITR 1 where it was held that loss must be deemed to have arisen only when the employer comes to know about it and realized that the amount embezzled cannot be recovered, no doubt, it came to its knowledge prior.

ITAT, then, held that in the present case also, the assessee came to know of embezzlement in 2001-02 but he tried his level best for recovery of embezzled amount by filing police complaints and even the matter was referred to CBI by filing FIR against the accused persons. The assessee also pursued the matter with the Banking Ombudsman and the bank officials, when finally everybody refused and there was no chance of recovery, the assessee reversed this amount in the accounts of the assessee for assessment year 2008-09, when finally discovered that this amount is not recoverable. Hence, in such circumstances, the loss on account of embezzlement claimed by assessee is allowable in this year.


ITAT allowed the appeal of assessee

Crux of the Caselaw

Loss must be deemed to have arisen only when the employer comes to know about it and realized that the amount embezzled cannot be recovered, no doubt, it came to its knowledge prior.

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Name : Meenakshi Jain

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► Tags : #itat #itatorder #caselaw #embezzlement #deductibilityofembezzlementloss #incometaxact1961 #incometax #timelinefordeductibilityofembezzlementloss

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