Section 105: unexplained expenditure

Introduction

Section 105 deems unexplained spending to be income for the tax year in which it is incurred. If all or part of the source remains unexplained or unsatisfactory to the Assessing Officer, the corresponding amount is brought to tax and cannot also be deducted.

Key takeaways

What Section 105 says

Where an assessee has incurred any expenditure in a tax year, and either offers no explanation about the source of that expenditure (or part of it), or the explanation offered is not found satisfactory by the Assessing Officer, the amount covered by that expenditure (or the unexplained part) is deemed to be the assessee's income for that tax year.

No deduction for the deemed income

Irrespective of any other provision of the Act, the amount deemed to be income under this section cannot be claimed as a deduction under the Act.

When this provision applies

Separate evidence that expenditure was incurred from evidence explaining its source. A supplier invoice may support the spending, but the funding trail may require bank records, cash records or other evidence. The statutory enquiry concerns the source of the expenditure or an identified part.

Reconcile the amount under enquiry with each explanation and supporting record. Where only part is not explained or the explanation for that part is unsatisfactory to the Assessing Officer, quantify that part rather than silently assuming that every rupee of the expenditure is unexplained.

Limits and procedural safeguards

An ordinary disagreement about whether an expense is deductible is not, by itself, the source-of-expenditure test in Section 105. Identify the basis of the proposed addition and respond to that issue.

Once an amount is deemed income under subsection (1), subsection (2) bars a deduction for it. Section 107 then directs the charge under Section 195; avoid treating the addition as ordinary business income with unrestricted deductions or loss set-off.

Step-by-step review

1. Identify the expenditure, its tax year and the exact amount or part questioned.

2. Prepare a funding reconciliation linking each source to supporting evidence.

3. Address gaps or inconsistencies in the explanation and distinguish the accepted portion from the disputed portion.

4. If an amount is deemed income, apply the deduction bar and the Section 107/195 charging framework separately.

Hypothetical example

Hypothetical illustration: expenditure of ₹5,00,000 is established, and the source of ₹3,00,000 is satisfactorily explained. If the remaining ₹2,00,000 meets Section 105’s conditions, that portion is the deemed-income amount. It cannot then be claimed as a deduction merely because the money was spent on the business.

Records to prepare

Invoices, contracts and evidence of when the expenditure was incurred.

Bank or cash records and documents explaining the funding source.

A reconciliation of explained and disputed portions, with the notice response and resulting order.

Official amended Act source

• Income-tax Act, 2025 as amended by Finance Act, 2026: Section 105 and related provisions

Step-by-step flow for applying Section 105

1. 1

   Has the assessee incurred expenditure in the tax year?

   First establish that the expenditure (or a part of it) was actually incurred and in which tax year.

   • No: Section 105 is not triggered.
   • Yes: Go to the next step.
2. 2

   Is the source of the expenditure, or of a part of it, explained?

   • Whole source explained to the Assessing Officer's satisfaction: No deemed income under Section 105.
   • No explanation, or not satisfactory for all or part: Go to the next step.
3. 3

   Quantify the unexplained amount

   Only the expenditure, or the part of it, whose source is unexplained is deemed income of that tax year under Section 105(1).

4. 4

   Apply the deduction bar and the charge

   Under Section 105(2), the deemed amount cannot be allowed as a deduction under the Act. Section 107 then directs the charge as per Section 195.

Practical checklist

Glossary

Unexplained expenditure

Spending whose source is not explained to the officer's satisfaction under this section.

Deemed income

The unexplained amount treated by law as income of the relevant tax year.

Funding reconciliation

A record matching the expenditure to the evidence of the sources used to meet it.

Frequently asked questions