So, after you file an ITR, you get four years from the end of the assessment year to include any additional income in the updated ITR that you have missed reporting in the original tax return.
Sounds like a good deal for voluntary compliance? It is, only until you realise it is no free lunch and comes with a 25-70% tax penalty.
The highest penal tax is 70% of the aggregate of tax due and interest when the updated ITR is filed in the fourth year. In the third year, the penal tax is 60%. Here’s another catch – the cost of voluntary compliance by filing an updated return in the third or fourth year is much higher than getting a reassessment notice from the tax department.
When a case is reassessed for underreported income and a penalty order is passed, 50% of the tax due is to be paid as penalty. Take note, the penalty is levied on just the tax due, unlike an updated ITR, where the penalty is on the tax due plus the interest payable on it. Therefore, the penalty in the case of reassessment will work out much lower than what you would pay by filing an updated ITR.
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Even after giving two more years to file updated returns, the Budget has opened a loophole where some taxpayers may not file updated ITRs in the third or fourth year to escape the heavy penalties.
The loophole in timelines
Under Section 148, past income tax returns can be reopened for assessment up to three years from the end of the assessment year if the unreported income is below ₹50 lakh. For amounts exceeding this threshold, the reassessment window extends to five years.
For example, ITRs that were filed for assessment year 2024-25 with unreported income below ₹50 lakh can be reopened until 31 March 2028. If the unreported income is over ₹50 lakh, the reassessment period extends up to 31 March 2030.
In cases where the unreported income is below ₹50 lakh, this loophole may prompt assessees to not update ITRs after two years as waiting for a tax notice under Section 148 means paying 50% penalty, as opposed to 60% in filing updated ITRs.
If the unreported income escapes scrutiny for three years, they are completely safe as the case can’t be reopened for assessment after that.
Experts said the government should relook at the high amount of additional tax imposed in the third and fourth years of updated returns so that taxpayers are not deterred from updating ITRs beyond two years.
“The government should consider reducing the additional tax for updated ITRs,” said Prakash Hegde, a Bengaluru-based chartered accountant.
Costly tax mistake
Experts cautioned against exploiting this loophole to avoid updating returns for missed income as the consequences can be severe.
Foremost, the 50% penalty in reassessment applies to underreported income, whereas misreported incomes attract a whopping 200% of the tax due as penalty. There’s a difference between the two, explained Harsh Bhuta, partner, Bhuta Shah & Co.
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“When it’s an honest mistake of reporting income lower than the actual income earned or received for a financial year, it’s a case of underreporting income. For example, reporting of lower revenue due to accounting errors or failure to include complete revenue. Or interest income from a joint bank account is not reported, which is not offered by other joint holders either,” said Bhuta. “Misreported income, on the other hand, is when there is intentional misrepresentation of facts. Say, claiming expenditure without any supporting evidence.”
Though the income tax law defines scenarios to distinguish between under-reporting and misreporting of income, it may be subject to interpretation, said Parizad Sirwalla, partner and head, global mobility services, tax, KPMG in India.
“What the taxpayer may consider as only underreporting, the authorities, based on a detailed review of the documents and the intent, may consider the same as misreporting, considering the intent, explanations and documents provided by the taxpayer,” Sirwalla said.
So, if you get a tax order where the assessing officer (AO) treats your case as one of misreported income, you will have to pay double the tax due as penalty. Hegde pointed out that in the case of misreported income, taxpayers don’t even get immunity from penalty, unlike underreported income.
“When passing the reassessment order, the AO doesn’t straightaway levy the penalty. He first issues initiation of notice for penalty proceedings. If it’s a notice for underreported income, the taxpayer can submit Form 68 to request immunity from penalty and that he will pay the due tax, interest payable and not appeal against the reassessment order. In majority cases, AOs accept such requests and waive the penalty. But this option is not available in cases of notice for misreported income,” Hegde said.
Of course, the taxpayer can challenge the order against misreported income by filing an appeal, but the case can slip into prolonged litigation and interest on the tax due will keep building up through the duration of the appeal.
Not to mention, the tax authorities can recover the due tax even when the case is pending. The only way to get a stay is by depositing 20% of the due tax and penalty amount.
A better thing to do is to update the tax return when you find out that you have missed reporting income as it runs the risk of being assessed as a case of misreporting of income.
Report it or risk it
Sudhakar Sethuraman, partner at Deloitte India, emphasised the importance of filing updated returns, especially when taxpayers have overlooked reporting foreign income.
“Report foreign income voluntarily by filing updated returns as these are scrutinised under the Black Money Act. If a tax officer reopens unreported foreign income under Section 148, they will also initiate black money penalty, which is at least ₹10 lakh,” he warned.
However, an updated return cannot be used solely to report missed foreign assets under Schedule FA, as the conditions for filing an updated return do not permit it.
A taxpayer can file an updated return only if there is an additional tax liability. Therefore, it cannot be filed solely for foreign asset disclosure, explained Bhuta.
That said, FA disclosures can be made if there is other income to report alongside them.
“In case the taxpayer also has any additional income to offer in the updated tax return, then the same can be filed along with reporting of foreign assets, subject to payment of additional taxes and applicable penalties,” Sirwalla said.
F&O losses? Report now
The other crucial use case of updated returns is for traders to report losses from futures & options (F&O) or intra-day trades, which many don’t report, thinking there are no profits to show.
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But the condition is that the updated return should not result in a total loss, said Vishwas Panjiar, partner, Nangia Andersen LLP.
“There is no restriction on filing an updated return if a loss exists under a particular head of income, provided the overall total income remains positive. Losses from F&O transactions and intra-day trades are business losses, the assessee can report these losses in an updated return. However, the total income in the updated return must be equal to or greater than the total income declared in the original return, ensuring that the tax liability does not decrease,” he said.
“If claiming these losses does not lead to a reduction in tax liability, the normal provisions of set-off of losses under the Income Tax Act, 1961, will apply,” he added.
