Why Has The Supreme Court Limited Tax Audits A CA Can Undertake?

A rule restricting the number of tax audits that a chartered accountant can accept in a financial year is not unreasonable or arbitrary and does not fall afoul of the right “to practice any profession” as provided under Article 19(1)(g) of the Constitution, the Supreme Court has held.

As a necessary corollary, the top court has upheld the rule that imposes a ceiling on the number of tax audits that a CA can accept in a given financial year. Currently, the ceiling is set at 60 audits per year.

The inception of the issue dates back to 1984, when a provision concerning compulsory tax audits was introduced in the Income Tax Act.

As per this provision, if a person exceeds a set amount of sales or gross earnings, they need to have a CA look over their books of accounts.

The rule was added to prevent evasion of taxes and to plug loopholes that fostered tax avoidance. Another reason, and perhaps the more crucial one, was that a mandatory audit would save assessing officers a great deal of time, as CAs can devote more time to examination and verification of accounts than an assessing officer.

After the rule came into force, the Institute of Chartered Accountants of India noted that some auditors were undertaking too many tax audits in a year, going against the fundamental premise of inserting the compulsory tax audit provision, which was to ensure better tax administration and quality auditing standards.

This prompted the ICAI to formulate a guideline, whereby a CA could only undertake a set number of tax audits in a year. The limit was originally fixed at 30 audits a year.

The top court has clarified that the idea of compulsory tax audits is neither an inherent part of the practice of a CA nor an essential function that could be claimed as a fundamental right under Article 19(1)(g).

The compulsory audit provision was inserted to facilitate the process of tax administration to the benefit of the public exchequer, the court said.

The genesis of the opportunity to conduct tax audits was not the regulation of a practice essential to the CA profession per se, but rather the use of auditors in their public duties to plug tax leakage and thereby save time for the assessment officers in presenting quality tax audit reports in a prescribed format, the court said.

Further, it disagreed with the claim that conducting more than a certain number of tax audits would not affect the integrity and quality of audits. The court said that the rule cannot be overturned, as long as there is a good reason to believe that the quality of audits might dwindle.

Owing to the fact that the impugned rule was successfully challenged before the Madras High Court and that the case was lying pending before the top court, the court has clarified that the rule will take effect prospectively from April 2024 onwards.

What this effectively means is that any CA accepting more than 60 tax audits in a financial year will be subject to disciplinary proceedings by the ICAI.

The apex court has also given liberty to the ICAI to enhance the specified number of audits that can be undertaken in a given financial year.

While upholding the rule limiting the number of audits that can be undertaken, the court made some significant observations regarding the role of ICAI and CAs in their endeavour towards securing the highest standards of corporate governance.

The court observed that the court observed that the taxation system must be one that not only incorporates the normative and prescriptive considerations of neutrality, fairness, and certainty but also promotes the virtuous circle of increased trust between taxpayers and the tax administration.

Against this backdrop, the court said that CAs can serve as effective catalysts in securing this circle of trust between the taxpayer and the tax administration.

It highlighted the fact that CAs are gatekeepers of the corporate world and said that many concepts and processes in the present taxation regime rest almost completely on the vigilance of CAs.

While the quality of information generated by an auditor has immediate and far-reaching implications for a particular enterprise, it eventually permeates the market and the economy as a whole, the court said.

The bottom line, according to the court, is that the higher the quality and integrity maintained by the profession, the stronger and more resilient the markets will be, and it is for this reason that a limit on the number of audits undertaken by a CA is essential.