Bond Washing Transactions are dealt with in section 94 of the Income Tax Act. Section 94 has been introduced to capture the tax evaders who just do a single transaction at the end of the year to avoid payment of tax on a particular transaction.

To Understand Bond Washing Transaction Law, First, we have to get an understanding of what people used to do earlier before the law was introduced.

Let’s say there is a person Named “X” who is in the Tax bracket of 30 percent and surcharge bracket is 37 percent and there is a person Named “Y” who is in the Tax bracket of 30 percent but surcharge bracket is “0” percent. Now Mr. X who is holding security which will pay interest income to Mr. X at the end of the year, so to avoid the burden of Security’s interest, what Mr. X will do is that He will transfer the security to His Friend Mr. “Y” on 28th of March which is the year-end. Now the interest receivable on Security is due to Mr. Y and taxable in the hands of Mr. Y. After the Interest is received on the due date, Mr. Y transfer the security back to Mr. X on the 2nd of April which is after the year-end. By doing this transaction Mr. X has saved 37% of the Surcharge which he would have paid if received interest in his hand.

Section 94: States as follows:

1. If an assessee sold his securities to any person a few days before the accrual of interest and repurchase them just after the date of interest accrual. Also, the Assessing Officer is satisfied that the transaction was entered just to avoid tax burden, then such interest shall be deemed to be income in the hand of the transferor and not the transferee.
2. Subsection 2, provides that in the case where the assessee has any beneficial interest in any bond or security and some arrangement has been made so that no income or less income is received by assessee than the amount which would have been received had there been no such arrangement, then such income would be included in the income of the person making such arrangement.
3. Subsection 3, gives an exception to this section, that the provision of section 94 will not be applicable if the assessee produced sufficient proof to the satisfaction of the assessing officer that the transaction entered was bonafide and has not resulted in any tax avoidance and if there were any tax avoidance then it was exceptional as there were no such transaction entered by the assessee in the past three years.
4. Subsection 4 Talks about Dealer of Securities. It Says that if there is a transaction referred to in the example above because of which income arising in the hands of the securities dealer does not become due in the hands of a securities dealer, then no account shall be taken of the transaction in the computation of the profits or loss which are arising from this transaction.

Assessing Officer may ask the Securities dealer to furnish the detailer of the securities held by the dealer by serving a notice upon the dealer for not less than 28 days. {Section 94(5)}