The balance sheet shows ₹25 lakh of cash in hand. The cash book is written up and the figures tie. So when the cash is deposited in the bank, there should be nothing to explain. Yet many businesses and individuals receive notices asking exactly that: where did the cash come from, and why was it held instead of banked earlier? From a tax perspective, a book entry is a claim, not proof. This article explains why cash deposits are questioned, the provisions involved, how the tax cost changed under the Income-tax Act, 2025, and the records that make a cash balance defensible.
Cash in hand shown in the books can still be questioned when deposited if its source, retention and records are not credible. Unexplained deposits may be taxed under Sections 68 or 69A of the 1961 Act (Sections 102 and 104 of the Income-tax Act, 2025) at special rates, with possible penalty. Daily cash records, sales evidence and a clear reason for holding cash are the best defence.
Why a cash balance in the books can still be questioned
Banks report cash deposits to the department through the Statement of Financial Transactions once they cross the prescribed annual thresholds, and these appear in your Annual Information Statement. Under the rules framed under the 1961 Act, the reporting thresholds were ₹10 lakh in aggregate in savings accounts and ₹50 lakh in current accounts in a financial year. A large deposit is therefore visible to the department whether or not it is questioned immediately.
When the department looks at a deposit, it tests the books rather than simply accepting them. A cash balance is only as reliable as the entries that created it. If the entries cannot be supported, the balance itself can be treated as fictitious and the deposit as unexplained money.
The legal provisions behind cash deposit additions
Two provisions are most commonly invoked. Under Section 68 of the 1961 Act, any sum credited in the books for which the taxpayer offers no explanation, or an explanation the Assessing Officer finds unsatisfactory, may be taxed as income. Under Section 69A, money, bullion, jewellery or other valuables owned by the taxpayer and not recorded in the books, or not satisfactorily explained, may be deemed income. Under the Income-tax Act, 2025, these correspond to Sections 102 and 104 respectively.
For a cash deposit, the department typically asks three questions: how the cash was generated, why it was retained rather than deposited earlier, and whether each step is supported by documents. Our article on Section 68 unexplained cash credits explains the burden of proof in more detail.
Where cash sales have already been recorded and offered as income, taxing the deposit of the same cash again would amount to double taxation, and this is a common ground of appeal. But the argument holds only if the sales themselves are credible. If the department rejects the cash sales as non-genuine, for example because of a sudden unexplained spike, stock that does not support the sales or missing customer details, the protection falls away.
What an unexplained cash addition costs
Income deemed under these provisions is not taxed at normal slab rates. No basic exemption, deduction or loss set-off is available against it. The cost depends on the year involved.
| Period | Tax rate | Penalty exposure |
|---|---|---|
| FY 2025-26 and earlier (1961 Act, Section 115BBE) | 60%, plus 25% surcharge and 4% cess, an effective rate of about 78% | Penalty under Section 271AAC of 10% of the tax, where applicable |
| Tax year 2026-27 onwards (Income-tax Act, 2025, Section 195 as amended by the Finance Act, 2026) | 30%, plus applicable surcharge and cess | Where detected by the department, misreporting penalty of up to 200% of tax is reported to apply under the amended penalty provisions |
The lower headline rate under the new Act does not make an unexplained deposit cheap. If the department detects it and a misreporting penalty is levied, the combined outgo can still be very high, and interest is payable in addition. The practical lesson is unchanged: the only safe position is a deposit you can explain.
Cash receipt limits that compound the problem
Even where cash is genuine income, the way it was received can create a separate exposure.
- Section 269ST of the 1961 Act prohibits receiving ₹2 lakh or more in cash from one person in a day, in respect of a single transaction, or in respect of transactions relating to one event or occasion. The penalty under Section 271DA equals the amount received. The same limit continues under the Income-tax Act, 2025.
- Section 269SS prohibits accepting loans, deposits or specified sums of ₹20,000 or more in cash, and Section 269T restricts repaying them in cash, each with a penalty equal to the amount.
- Section 40A(3) disallows business expenses paid in cash above ₹10,000 to one person in a day.
So an explanation that a large deposit came from a single cash sale of ₹5 lakh may explain the source but admit a Section 269ST violation. Explanations need to be thought through before they are given.
Illustration: testing a year-end cash balance
A retail trader's cash book shows an opening cash balance of ₹2,00,000, cash sales of ₹36,00,000 during the year, cash expenses of ₹8,00,000 and cash deposits of ₹10,00,000, leaving a closing balance of ₹20,00,000. In the first week of the next year, the trader deposits ₹20,00,000.
Arithmetically, the balance works: ₹2,00,000 + ₹36,00,000 − ₹8,00,000 − ₹10,00,000 = ₹20,00,000. The questions will be whether the ₹36,00,000 of cash sales is supported by invoices, GST returns and stock movement; why the trader, who normally deposits cash regularly, held ₹20,00,000 at year end; and whether cash sales were unusually high in the last weeks of the year. If those answers are documented, the deposit is defensible. If not, the department may treat part or all of the ₹20,00,000 as unexplained.
Records that make a cash balance defensible
- Daily cash book. Written up daily, with physical cash counts signed by a responsible person.
- Sales evidence. Invoices or bills for cash sales with customer details where required, reconciled with GST returns.
- Stock records. Purchases and stock movement that support the volume of cash sales.
- Withdrawal trail. Where cash withdrawn from the bank is redeposited, evidence of the purpose of the withdrawal and that the cash remained unused.
- Reason for retention. A documented business reason for holding cash, such as expected cash purchases, wage payments or seasonal needs.
- Deposit discipline. Regular deposits in line with business patterns, rather than large irregular deposits.
- Consistency with past returns. Cash balances and deposits that are in line with income and turnover declared in earlier years.
If a notice is received, respond with the reconciliation and the documents, not just a statement that the cash was in the books. Our article on AIS mismatches and notices after filing your return covers how to approach such communications, and for cash introduced as capital, see capital introduction and source of funds.
Frequently asked questions
Can I deposit the cash shown in my books without any tax issue?
You can deposit it, but the department may still ask how the cash was generated and why it was held. If the cash book entries are supported by sales, withdrawals and other records, the deposit is defensible; if not, it may be treated as unexplained income.
What is the tax rate on unexplained cash deposits?
For FY 2025-26 and earlier years, Section 115BBE of the 1961 Act applies a 60% rate plus 25% surcharge and cess, about 78% in effect. From tax year 2026-27, Section 195 of the Income-tax Act, 2025, as amended by the Finance Act, 2026, applies 30% plus applicable surcharge and cess, with significant penalty exposure where the department detects the income.
How much cash can a business receive from one customer?
Under Section 269ST, a person cannot receive ₹2 lakh or more in cash from one person in a day, for a single transaction or for transactions relating to one event. A violation attracts a penalty equal to the amount received.
Will a cash deposit always lead to a notice?
No. Deposits above reporting thresholds are reported to the department, but a notice usually follows only where the deposit appears inconsistent with declared income, past patterns or business turnover. Keeping deposits in line with the business pattern reduces the risk.
Is redepositing cash withdrawn earlier a valid explanation?
It can be, but the gap matters. The longer the time between withdrawal and redeposit, the more evidence is needed that the cash was not used elsewhere, such as the purpose of the withdrawal and why it was not spent.
What should I do if I receive a notice on a cash deposit?
Prepare a reconciliation of the cash book showing how the balance arose, attach supporting sales, withdrawal and stock records, and explain the reason for holding cash. Respond within the time given and avoid explanations that create new issues, such as cash receipts above legal limits.
Conclusion
A cash balance in the balance sheet is an accounting representation. The tax authorities look at the commercial substance and the evidence behind it: how the cash was generated, why it was held and whether every step can be proved. Under both the 1961 Act and the Income-tax Act, 2025, the cost of failing that test is severe. Disciplined daily records, regular deposits and a documented reason for holding cash are what turn a book figure into a defensible position.
Received a tax notice or planning a transaction?
H K Davra & Co. advises on income tax assessments, notices, appeals and documentation.
Talk to usThis article is for general information only and does not constitute professional advice or solicitation. Examples are illustrative. Rates under the Income-tax Act, 2025 reflect the Finance Act, 2026 as reported and should be confirmed for specific cases. Provisions are summarised as of October 2026. Please refer to the relevant provisions and seek advice on your specific facts.