M/s Swaraj Enterprises, Vatluru V. The ITO, Ward-2, Eluru

ITA 495/VIZ/2010

• Counselvise Citation: [2011] 134 COUNSELVISE.COM (IT) 7129 (ITAT-VISAKHAPATNAM)
• Duration Of Justice: 4 month(s) 15 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 17-03-2011
• Appeal Filed By: Assessee
• Order Result: Allowed
• Bench Allotted: DB
• Next Hearing Date: 01-03-2011
• Assessment Year: 1999-2000
• Appeal Filed On: 01-11-2010
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: D S SUNDER SINGH
• Keywords: Depreciation
• Section: 32; 28

Judgement Text

ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 1 OF 13 IN THE INCOME TAX APPELLATE TRIBUNAL VISAKHAPATNAM BENCH, VISAKHAPATNAM BEFORE: SHRI SUNIL KUMAR YADAV, JUDICIAL MEMBER AND SHRI BR BASKARAN, ACCOUNTANT MEMBER ITA NO.495/VIZAG/2010 ASSESSMENT YEAR: 1999-2000 M/S SWARAJ ENTERPRISES VATLURU ITO WARD-2 ELURU (APPELLANT) PAN NO: AAIFS 3894 G VS. (RESPONDENT) ITA NO.496/VIZAG/2010 ASSESSMENT YEAR: 2003-04 M/S SHIVRAM AGENCIES, JANGAREDDYGUDEM ITO WARD-2 ELURU (APPELLANT) PAN NO: AAXFS 0306 E VS. (RESPONDENT) APPELLANT BY: SHRI G.V.N. HARI, CA RESPONDENT BY: SHRI D.S.SUNDER SINGH, SR.DR ORDER PER SHRI B. R. BASKARAN, ACCOUNTANT MEMBER: 1. THESE TWO APPEALS FILED BY THE ASSESSEES MENTIO NED ABOVE ARE DIRECTED AGAINST THE ORDER OF LD CIT(A), RAJAHMUNDRY. WHILE THE APPEAL NUMBERED AS ITA NO.495/VIZ/2010 RELATES TO THE ASSESSMENT YE AR 1999-2000, THE OTHER APPEAL PERTAINS TO THE ASSESSMENT YEAR 2003-0 4. SINCE THE ISSUE URGED IN THESE TWO APPEALS IS IDENTICAL IN NATURE, THEY WERE HEARD TOGETHER AND ARE BEING DISPOSED OF BY THIS COMMON ORDER, FOR THE SAKE OF CONVENIENCE. 2. THE GROUNDS RAISED BY THESE TWO ASSESSEES GI VE RISE TO A SINGLE ISSUE VIZ., WHETHER THE LD CIT(A) IS JUSTIFIED IN CONFIRM ING THE ACTION OF THE ASSESSING OFFICER IN DISALLOWING A PORTION OF INTER EST PAID TO THE PARTNERS BY REWORKING THE PARTNERS CAPITAL ACCOUNT BALANCES. ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 2 OF 13 3. THE FACTS RELATING TO THE ISSUE ARE DISCUSSE D IN BRIEF. BOTH THE ASSESSEES ARE PARTNERSHIP FIRMS. AS PER THE PROVIS IONS OF SEC. 40(B) OF THE ACT, THE INTEREST PAID TO THE PARTNERS IS ALLOWABLE AS A DEDUCTION IN COMPUTING THE INCOME FROM BUSINESS, HOWEVER SUBJECT TO THE CONDITIONS PRESCRIBED IN THAT SECTION. BOTH THESE ASSESSEES P AID INTEREST TO THEIR RESPECTIVE PARTNERS AND CLAIMED THE SAME AS A DEDUC TION. THERE IS NO DISPUTE THAT BOTH THE PARTNERSHIP FIRMS HAVE COMPLI ED WITH THE CONDITIONS PRESCRIBED U/S 40(B) OF THE ACT. 3.1 THE DISPUTE IS RELATED TO THE DETERMINATION OF THE CAPITAL ACCOUNT BALANCES OF THE PARTNERS ON WHICH THE INTEREST IS P AYABLE. THESE ASSESSEES CLAIMED INTEREST ON THE CAPITAL ACCOUNT BALANCES OF THE PARTNERS AS DISCLOSED IN THEIR RESPECTIVE BOOKS OF ACCOUNT. HO WEVER, DURING THE COURSE OF ASSESSMENT PROCEEDINGS, THE ASSESSING OFFICER NO TICED THAT BOTH THE FIRMS DID NOT PROVIDE FOR DEPRECIATION ON THE FIXED ASSETS IN THEIR BOOKS. HOWEVER FOR THE PURPOSE OF COMPUTING THE TOTAL INCO ME, THEY HAVE CLAIMED DEPRECIATION IN ACCORDANCE WITH SEC. 32 OF THE ACT. THUS IT WAS NOTICED THAT THE NET PROFIT FOR BOOK PURPOSES HAVE BEEN SHO WN AT A HIGHER FIGURE BY NOT-CHARGING DEPRECIATION, WHICH WOULD CONSEQUEN TLY INCREASE THE CAPITAL BALANCES OF THE PARTNERS. IN THAT CASE, TH ESE ASSESSEES WOULD GIVE CLAIM DEDUCTION OF MORE AMOUNT OF INTEREST ON THE C APITAL BALANCES SO INFLATED BY NOT PROVIDING DEPRECIATION ON THE FIXED ASSETS. THE ASSESSING OFFICER FELT THAT IT IS COMPULSORY FOR THE ASSESSEE S TO PROVIDE FOR DEPRECIATION IN THE BOOKS ALSO. IN THIS CONNECTION , THE ASSESSING OFFICER PLACED RELIANCE ON THE FOLLOWING CASE LAW:- A) G.R.GOVINDARAJULU NAIDU & ANOTHER VS. CIT (90 IT R 13 (MAD), WHEREIN IT WAS HELD THAT THE DEPRECIATION IS CHARGE ON THE PROFITS. B) CIT VS. ELECON ENGINEERING COMPANY LTD. (96 ITR 672 (GUJ)) WHERE IN IT WAS HELD THAT THE DEPRECIATION IS A STA TUTORY ALLOWANCE NOT CONFINED EXPRESSLY TO THE DIMINUTION IN THE VAL UE OF FIXED ASSETS BY REASON OF WEAR AND TEAR AND THE ASSESSEE IS ENTI TLED AS OF RIGHT TO ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 3 OF 13 THE FULL AMOUNT OF PRESCRIBED ALLOWANCE ONCE THE CO NDITIONS LAID DOWN THEREIN ARE SATISFIED IRRESPECTIVE OF THE FACT WHETHER THERE HAS IN FACT BEEN ANY DEPRECIATION IN THE VALUE OF THE A SSET BY WEAR AND TEAR. C) CIT VS. LOTHIAN JUTE MILLS CO. (66 ITR 630 (CAL )), WHERE IN IT WAS HELD THAT THE DEPRECIATION IS NOT A RESERVE CREATE D, BUT A CHARGE TO SPREAD THE EXPENDITURE INCURRED ON THE ASSET OVER I TS EFFECTIVE LIFE TIME. ACCORDINGLY, THE ASSESSING OFFICER HELD THAT THESE ASSESSEES SHOULD HAVE PROVIDED DEPRECIATION IN THEIR BOOKS, IN WHICH CASE , THE CAPITAL ACCOUNT BALANCES OF THE PARTNERS WOULD HAVE BEEN REDUCED TO THE EXTENT OF DEPRECIATION. ACCORDINGLY THE ASSESSING OFFICER HA S ALSO HELD THAT THEY ARE NOT JUSTIFIED IN ALLOWING INTEREST ON THE CAPITAL B ALANCES WHICH HAVE BEEN ARTIFICIALLY INFLATED. HENCE THE ASSESSING OFFICER REWORKED THE CAPITAL BALANCES OF THE PARTNERS BY REDUCING THE CUMULATIVE AMOUNT OF DEPRECIATION THERE FROM AND ACCORDINGLY ALLOWED THE INTEREST COMPUTED ON SUCH REDUCED CAPITAL BALANCES. BOTH THESES ASSESSE ES CARRIED THE MATTER IN APPEAL BEFORE LD CIT(A), BUT DID NOT FIND FAVOUR FR OM HIM. THE LD CIT(A) RELIED UPON THE DECISION OF SMC BENCH OF VISAKHAPAT NAM IN THE CASE OF ARTHI NURSING HOME VS. ITO REPORTED IN 119 TTJ 415 IN ORDER TO REJECT THE APPEALS FILED BY THESE ASSESSEES BEFORE HIM. AGGRIE VED, BOTH THE ASSESSEES ARE IN APPEAL BEFORE US. 4. THE LEARNED COUNSEL FOR THE ASSESSEE CONTENDED THAT THERE IS NO PROVISION IN THE ACT WHICH ENABLES THE ASSESSING OF FICER TO REWORK THE CAPITAL BALANCES OF THE PARTNERS FOR THE PURPOSE OF ALLOWING THE INTEREST PAYABLE ON THEIR CAPITAL BALANCES. THE ALLOWANCE/D ISALLOWANCE OF INTEREST PAID TO THE PARTNERS IS GOVERNED BY THE PROVISIONS OF SEC. 40(B) OF THE ACT. BOTH THE ASSESSEES HEREIN HAVE DULY COMPLIED WITH T HE CONDITIONS PRESCRIBED IN THAT SECTION AND HENCE THE ASSESSING OFFICER SHOULD HAVE FULLY ALLOWED THE CLAIMS MADE BY THESE ASSESSEES. HE FUR THER SUBMITTED THAT, EVEN IF IT IS ASSUMED THAT THE ASSESSING OFFICER IS ENTITLED TO REWORK THE ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 4 OF 13 CAPITAL BALANCES, IT IS NOT PROPER ON THE PART OF T HE ASSESSING OFFICER TO REDUCED THE CUMULATIVE AMOUNT OF DEPRECIATION THAT WAS ALLOWED UNDER THE INCOME TAX ACT. THE LD A.R SUBMITTED THAT THE REWO RKING OF CAPITAL BALANCES IS NOT SUCH A SIMPLE EXERCISE AS CARRIED O UT BY THE ASSESSING OFFICER. ELABORATING THIS PROPOSITION, THE LD A.R SUBMITTED THAT THERE ARE MAINLY TWO TYPES OF CLAIMING DEPRECIATION VIZ., STR AIGHT LINE METHOD (SLM) AND WRITTEN DOWN VALUE METHOD (WDV). THE COMPANIES REGISTERED UNDER THE COMPANIES ACT HAVE AN OPTION TO FOLLOW ANY ONE OF THE TWO METHODS. HOWEVER, THE INCOME TAX ACT RECOGNIZES ONLY WDV MET HOD OF CLAIMING DEPRECIATION. FURTHER THE RATES AT WHICH DEPRECIAT ION IS ALLOWABLE VARY SIGNIFICANTLY BETWEEN SLM METHOD AND WDV METHOD. EV EN THE RATES OF DEPRECIATION ALLOWABLE UNDER WDV METHOD DIFFERS BET WEEN THE COMPANIES ACT AND INCOME TAX ACT. EVEN UNDER THE COMPANIES ACT, IT IS THE EXCLUSIVE PREROGATIVE OF THE ASSESSEES TO PREFER THE METHOD O F ACCOUNTING AND THE RATES OF DEPRECIATION FROM OUT OF THE PRESCRIBED RA TES. THE ASSESSING OFFICER DOES NOT HAVE ANY SAY ON THESE MATTERS IN THE CASE OF LIMITED COMPANIES. THE SAME PROPOSITION IS EQUALLY APPLICABLE FOR THE PARTNERSHIP FIRMS ALSO. AS PER THE PROVISIONS OF THE COMPANIES ACT, IT IS C OMPULSORY FOR THE LIMITED COMPANIES TO PROVIDE FOR DEPRECIATION IN THEIR BOOK S IF THEY WANT TO DECLARE DIVIDEND, WHERE AS THERE IS NO SUCH STATUTORY COMPU LSION FOR THE PARTNERSHIP FIRMS. HENCE, IT IS THE SWEET WILL OF THE PARTNERS OF THE PARTNERSHIP FIRM TO DECIDE WHETHER TO PROVIDE FOR D EPRECIATION IN BOOKS OR NOT. IF THE PARTNERS DECIDE TO PROVIDE FOR DEPRECI ATION, THEN THEY ALONE ARE ENTITLED TO DECIDE THE METHOD OF DEPRECIATION (I.E. SLM METHOD OR WDV METHOD) AND ALSO THE RATE OF DEPRECIATION. HE FURT HER SUBMITTED THAT THE DETERMINATION OF PROFIT FOR BOOK PURPOSES AND THE C OMPUTATION OF TOTAL INCOME FOR INCOME TAX PURPOSES ARE TWO DIFFERENT EX ERCISES AND HENCE THE ALLOWANCE OR DISALLOWANCE MADE IN COMPUTING THE TOT AL INCOME UNDER INCOME TAX ACT DO NOT HAVE ANY EFFECT ON THE CAPITA L BALANCES ALREADY DISCLOSED IN THE BOOKS OF ACCOUNT. FOR EXAMPLE, AN EXPENDITURE ACCOUNTED FOR IN THE BOOKS MAY BE DISALLOWED WHILE COMPUTING THE TOTAL INCOME UNDER ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 5 OF 13 THE INCOME TAX ACT. THE SAID DISALLOWANCE WOULD IN CREASE THE TOTAL INCOME OF THE ASSESSEE, BUT IT WOULD NOT INCREASE THE CAPI TAL BALANCES OF THE PARTNERS. IN THE SAME MANNER, A DEDUCTION ALLOWED U NDER THE INCOME TAX ACT WOULD NOT DECREASE THE CAPITAL BALANCES OF THE PARTNERS. HE FURTHER SUBMITTED THAT, IF THE ASSESSING OFFICERS ANALOGY IS CONSIDERED FOR A MOMENT TO BE A RIGHT PROPOSITION OF LAW, THEN IN OR DER TO HAVE EQUITY, THE ASSETS SHOULD HAVE BEEN REVALUED TO BRING THEM TO T HEIR RESPECTIVE CURRENT MARKET VALUE AND THE SAID EXERCISE WOULD INCREASE T HE CAPITAL BALANCES OF THE PARTNERS. IN VIEW OF THE COMPLICATIONS NARRAT ED ABOVE, THE RE-WORKING OF CAPITAL BALANCES IS NOT AN EASY EXERCISE AS ASSU MED BY THE ASSESSING OFFICER. HE FURTHER SUBMITTED THAT THE DECISION IN THE CASE OF ARTHI NURSING HOME HAS BEEN RENDERED BY SMC BENCH OF VISAKHAPATNA M. HOWEVER THE DIVISION BENCH OF THE VISAKHAPATNAM, IN THE FOLLOWI NG CASES, HAS HELD THAT THE ASSESSING OFFICER IS NOT ENTITLED TO RE-WORK TH E CAPITAL BALANCES OF THE PARTNERS FOR THE PURPOSE OF DETERMINATION OF INTERE ST PAYABLE TO THE PARTNERS. A) AMBICA CHEMICAL PRODUCTS, ORDER DATED 31-5-200 5 IN ITA NO.612/V/1998 AND ITA NO.09/V/1999. B) AMBICA CHEMICAL PRODUCTS ORDER DATED 09-1-2009 IN ITA NO.201/V/2003. THE LD A.R FURTHER SUBMITTED THAT THE SMC BENCH HAS GIVEN MUCH IMPORTANCE TO THE EXPLANATION 5 TO SEC. 32, WHICH W AS INSERTED INTO THE ACT WITH EFFECT FROM 1.4.2002. HE SUBMITTED THAT THE DECISION RENDERED IN THE CASE OF AARTHI NURSING HOME, SUPRA SHALL NOT APPLY TO THE ASSESSEE NAMED SWARAJ ENTERPRISES (ITA NO.495/V/2010), AS THE ASSE SSMENT YEAR INVOLVED THERE IS 1999-2000, WHICH IS THE YEAR PRIOR TO THE INSERTION O THE ABOVE SAID EXPLANATION 5 TO SEC. 32. HE ALSO INVITED OUR ATTE NTION TO THE DECISION OF THE DIVISION BENCH PUNE IN THE CASE OF DEVI UTENSIL S FACTORY VS. D.C.I.T (2005)(98 TTJ (PUNE) 501), WHERE IN IT WAS HELD THA T THE ASSESSING OFFICERS METHOD OF REWORKING OF CAPITAL WAS HELD TO BE JUST IFIED. ACCORDINGLY THE LD A.R SUBMITTED THAT, FOR THE PURPOSE OF ALLOWING INTEREST ON CAPITAL ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 6 OF 13 BALANCES OF THE PARTNERS, ONLY IT IS REQUIRED TO BE SEEN THAT THE ASSESSEE HAS CLAIMED THE SAID EXPENDITURE IN ACCORDANCE WITH SEC. 40(B) OF THE ACT. 5. ON THE CONTRARY, THE LD D.R. PLACED HEAVY REL IANCE ON THE DECISION RENDERED BY THE SMC BENCH IN THE CASE OF ARTHI NURS ING HOME, SUPRA. HE SUBMITTED THAT IT IS MANDATORY FOR THE ASSESSEES TO CLAIM DEPRECIATION, IN VIEW OF THE INSERTION OF EXPLANATION 5 TO SEC. 32 O F THE ACT WITH EFFECT FROM 1.4.2002. SINCE THE SAID EXPLANATION IS CLARIFICATO RY IN NATURE, IT WILL HAVE RETROSPECTIVE OPERATION AND HENCE APPLICABLE FOR TH E ASSESSMENT YEAR 1999-2000 ALSO. HE FURTHER SUBMITTED THAT, IN ORDE R TO DEPICT A TRUE STATE OF ACCOUNTS, THE ASSESSEES SHOULD COMPULSORILY PROV IDE FOR DEPRECIATION IN THE BOOKS OF ACCOUNT. IF THE ASSESSEES DID NOT PRO VIDE SO, THE ASSESSING OFFICER HAS THE RIGHT TO MAKE SUITABLE ADJUSTMENTS IN THE FINANCIAL STATEMENTS. IN THIS REGARD, THE LD D.R RELIED UPON THE FOLLOWING OBSERVATIONS OF THE HONBLE SUPREME COURT IN THE CA SE OF CIT VS. BRITISH PAINTS INDIA LTD. (1991) (188 ITR 44) IT IS NOT ONLY THE RIGHT BUT THE DUTY OF THE AO TO CONSIDER WHETHER OR NOT THE BOOKS DISCLOSE THE TRUE STATE OF ACCOUNTS AND THE CORRECT INCOME CAN BE DEDUCED THERE FROM. I T IS INCORRECT TO SAY, AS CONTENDED ON BEHALF OF THE ASS ESSEE, THAT THE OFFICER IS BOUND TO ACCEPT THE SYSTEM OF ACCOUN TING REGULARLY EMPLOYED BY THE ASSESSEE THE CORRECTNESS OF WHICH HAD NOT BEEN QUESTIONED IN THE PAST. THERE IS NO E STOPPEL IN THESE MATTERS AND THE OFFICER IS NOT BOUND BY THE M ETHOD FOLLOWED IN THE EARLIER YEARS. 6. WE HAVE HEARD THE RIVAL CONTENTIONS AND CAREFU LLY PERUSED THE RECORD. WE HAVE ALSO CAREFULLY PERUSED THE ORDER OF SMC BEN CH IN THE CASE OF ARTHI NURSING HOME, SUPRA, ON WHICH THE LD D.R PLACED HEA VY RELIANCE. IN THE CASE OF ARTHI NURSING HOME, (SUPRA), THE SMC BENCH, INTER ALIA, PLACED RELIANCE ON THE DECISION OF HONBLE SUPREME COURT I N THE CASE OF BRITISH PAINTS LTD., SUPRA, WHERE IN IT WAS HELD THAT THE A SSESSING OFFICER HAS RIGHT AND ALSO DUTY BOUND TO CONSIDER WHETHER THE BOOKS D ISCLOSE THE TRUE STATE OF ACCOUNTS AND THE CORRECT INCOME CAN BE DEDUCED T HERE FROM. ACCORDINGLY IT WAS HELD BY THE APEX COURT THAT THE ASSESSING OFFICER IS NOT ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 7 OF 13 BOUND BY THE METHOD OF ACCOUNTING FOLLOWED BY THE A SSESSEE, IF THE CORRECT INCOME CANNOT BE DEDUCED THERE FROM. 7. IN THE CASE OF BRITISH PAINTS LTD. SUPRA, TH E DISPUTE WAS WITH REGARD TO THE METHOD OF VALUATION OF STOCK, WHICH MATERIALLY AFFECTED THE BOOK PROFIT AND CONSEQUENTLY THE TOTAL INCOME ALSO. THE ASSESS EE, IN THAT CASE, WAS VALUING THE STOCK BY ADOPTING THE COST OF RAW MATER IAL AND DID NOT TAKE INTO ACCOUNT OVER HEAD CHARGES. HOWEVER, THE ASSESSING OFFICER THEREIN WAS OF THE VIEW THAT THE OVERHEAD CHARGES SHOULD BE ADDED TO THE VALUE OF STOCK. IN THAT CONTEXT THE HON'BLE APEX COURT HELD THAT IF THE CONSISTENT PRACTICE ADOPTED BY AN ASSESSEE DOES NOT DISCLOSE TRUE AND P ROPER INCOME, THEN IT IS THE DUTY OF THE ASSESSING OFFICER TO DETERMINE T HE TAXABLE INCOME BY MAKING SUCH COMPUTATION AS HE THINKS FIT. HOWEVER, IN THE INSTANT CASES, THE DISPUTE IS WITH REGARD TO THE CHARGING OF DEPRE CIATION FOR BOOK PURPOSES, WHICH WILL NOT HAVE ANY EFFECT IN THE PRO CESS OF DETERMINATION OF TOTAL INCOME. THERE CANNOT BE ANY DISPUTE THAT THE DEPRECIATION UNDER THE INCOME TAX ACT IS ALLOWABLE AS PER THE PROVISIONS O F SEC. 32 OF THE ACT IN ACCORDANCE WITH THE RATES PRESCRIBED UNDER THE INCO ME TAX ACT, I.E. THE AMOUNT OF DEPRECIATION PROVIDED FOR IN THE BOOKS OF ACCOUNT SHALL BE DISREGARDED WHILE COMPUTING THE TOTAL INCOME UNDER THE INCOME TAX ACT, MEANING THEREBY THE BOOK DEPRECIATION WILL NOT AFFE CT THE COMPUTATION OF CORRECT TOTAL INCOME OF THE ASSESSEE. FOLLOWING EX AMPLES WOULD CLARIFY THIS POSITION. CASE A CASE B NET PROFIT BEFORE PROVIDING DEPRECIATION 1,00 ,000 1,00,000 (-) DEPRECIATION CHARGED IN BOOKS NIL 20,000 NET PROFIT AFTER DEPRECIATION 1,00,000 80,000 LET US ASSUME THAT THE DEPRECIATION COMPUTED AS PER THE PROVISIONS OF INCOME TAX IS RS.30,000/-. ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 8 OF 13 THEN THE TOTAL INCOME IN BOTH THE CASES SHALL BE C OMPUTED AS UNDER: CASE A CASE B NET PROFIT AFTER DEPRECIATION 1, 00,000 80,000 (+) BOOK DEPRECIATION NIL 20,000 ------------ ------------ 1,00,000 1,00,000 (-) DEPN. AS PER I.T. ACT 30,000 30,000 ------------- ------------- TOTAL INCOME 70,000 70,000 ======== ====== THUS, IT COULD BE SEEN THAT THE COMPUTATION OF TOTA L INCOME IS NOT AFFECTED BY THE AMOUNT OF DEPRECIATION PROVIDED FOR IN THE B OOKS OF ACCOUNT AND THE POSITION REMAINS THE SAME EVEN IF NO DEPRECIATION I S PROVIDED FOR IN THE BOOKS. HENCE, IN OUR VIEW, THE RATIO LAID DOWN IN T HE CASE OF BRITISH PAINTS LTD, SHALL NOT APPLY IN RESPECT OF DEPRECIATION, AS IT WILL NOT AFFECT THE COMPUTATION OF TOTAL INCOME UNDER THE INCOME TAX AC T. 8. IN THE CASE OF ARTHI NURSING HOME, THE SMC B ENCH ALSO PLACED RELIANCE ON THE ACCOUNTING STANDARDS PRESCRIBED BY THE INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA (ICAI). IN THE CASE OF LIMITED COMPANIES, THERE IS STATUTORY COMPULSION UNDER SECTION 211(3A) OF THE COMPANIES ACT TO FOLLOW THE ACCOUNTING STANDARDS. EVEN IF THE AC COUNTING STANDARDS ARE NOT FOLLOWED, IT WOULD BE SUFFICIENT COMPLIANCE AS PER SEC. 211(3B) OF THE COMPANIES ACT, IF A NOTE IS ATTACHED TO THE FINANCI AL STATEMENTS MENTIONING THE SAID FACT OF NON-COMPLIANCE AND THE FINANCIAL I MPLICATION THEREOF. HOWEVER, AS PER THE PROVISIONS OF SEC. 205 OF THE C OMPANIES ACT, THE COMPANIES CANNOT DECLARE DIVIDEND UNLESS THE DEPREC IATION HAS BEEN PROVIDED FOR IN THE BOOKS OF ACCOUNTS. THUS, IT CO ULD BE SEEN THAT A COMPANY MAY CHOOSE NOT TO PROVIDE FOR DEPRECIATION IN THE BOOKS AND INSTEAD MAY DISCLOSE THE SAME IN THE NOTES TO THE A CCOUNTS. HOWEVER, UNDER THE PARTNERSHIP ACT, THERE IS NO SUCH STATUTO RY COMPULSION TO PROVIDE FOR DEPRECIATION IN THE BOOKS OF ACCOUNTS OR TO FOL LOW THE ACCOUNTING STANDARDS PRESCRIBED BY THE ICAI, THOUGH IT MAY BE IN THE INTEREST OF THE PARTNERSHIP FIRMS TO FOLLOW THE SAID ACCOUNTING STA NDARDS. ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 9 OF 13 9. THE LD D.R VEHEMENTLY ARGUED THAT IT IS MAND ATORY TO CLAIM DEPRECIATION AS PER THE EXPLANATION 5 TO SEC. 32 OF THE ACT. THE SAID PROVISION WAS ALSO TAKEN INTO ACCOUNT IN THE CASE O F ARTHI NURSING HOME, SUPRA. THE SAID EXPLANATION READS AS UNDER: EXPLANATION 5- FOR THE REMOVAL OF DOUBTS, IT IS HE REBY DECLARED THAT THE PROVISIONS OF THIS SUB SECTION SH ALL APPLY WHETHER OR NOT THE ASSESSEE HAS CLAIMED THE DEDUCTI ON IN RESPECT OF DEPRECIATION IN COMPUTING HIS TOTAL I NCOME. FIRST OF ALL, THE ABOVE SAID PROVISION IS APPLICABL E ONLY FOR THE PURPOSE OF COMPUTATION OF TOTAL INCOME UNDER THE INCOME TAX AC T AND NO WHERE IT IS PROVIDED THAT IT IS APPLICABLE EVEN FOR PREPARING T HE BOOKS OF ACCOUNT. THE WORDS WHETHER OR NOT THE ASSESSEE HAS CLAIMED THE DEDUCTION IN RESPECT OF DEPRECIATION WOULD SHOW THAT THE ASSESSEE HAS A N OPTION NOT TO CLAIM DEPRECIATION WHILE COMPUTING HIS TOTAL INCOME, BUT THE SAID OPTION SHALL BE IGNORED BY THE ASSESSING OFFICER AND HE WILL DEDUCT DEPRECIATION FROM THE TOTAL INCOME OF THE ASSESSEE. HENCE, IN OUR VIEW, IT IS NOT MANDATORY FOR THE ASSESSEE TO ALWAYS CLAIMS DEPRECIATION, BUT IT IS ONLY MANDATORY FOR THE ASSESSING OFFICER TO ALLOW DEPRECIATION. 10. THUS, IT COULD BE NOTICED THAT THERE IS NO ST ATUTORY COMPULSION FOR THE PARTNERSHIP CONCERNS TO PROVIDE FOR DEPRECIATION IN THE BOOKS OF ACCOUNT UNDER EXPLANATION 5 TO SEC. 32 OF THE ACT. THERE I S ALSO NO STATUTORY COMPULSION FOR THE PARTNERSHIP CONCERNS TO FOLLOW T HE ACCOUNTING STANDARDS. WE HAVE ALSO SEEN THAT THE RATIO LAID D OWN BY THE APEX COURT IN THE CASE OF BRITISH PAINTS LTD., SHALL NOT AFFEC T THE METHOD OF CHARGING OF DEPRECIATION IN BOOKS. WE HAVE ALSO SEEN THAT THE COMPUTATION OF TOTAL INCOME IS NOT AFFECTED BY THE AMOUNT OF DEPRECIATIO N CHARGED IN THE BOOKS OF ACCOUNT. 11. EVEN FOR A MOMENT, IF IT IS ASSUMED THAT TH E DEPRECIATION SHALL NECESSARILY BE REQUIRED TO BE CHARGED FOR BOOK PURP OSES, THEN THE QUESTION ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 10 OF 13 THAT ARISES IS WHETHER THE ASSESSING OFFICER IS ENT ITLED TO DETERMINE THE METHOD AND RATE OF DEPRECIATION. THE LD A.R, DURIN G THE COURSE OF HIS ARGUMENTS, SUBMITTED THAT THERE ARE TWO METHOD OF P ROVIDING DEPRECIATION, VIZ., SLM METHOD AND WDV METHOD. FURTHER THE RATES OF DEPRECIATION ALSO DIFFER BETWEEN THE COMPANIES ACT AND THE INCOME TAX ACT. IT IS PERTINENT TO NOTE THAT THE PARTNERSHIP ACT DOES NOT PRESCRIBE DEPRECIATION RATES. THEN THE QUESTION THAT ARISES IS WHETHER THE ASSESS ING OFFICER IS ENTITLED TO COMPEL THE ASSESSEE TO PROVIDE FOR DEPRECIATION THA T TOO AT THE METHOD AND RATES DETERMINED BY THE ASSESSING OFFICER. 12. AS PER THE PROVISIONS OF THE INCOME TAX ACT , THE ASSESSING OFFICER DETERMINES THE TOTAL INCOME OF THE ASSESSEE FOR ANY YEAR, ON THE BASIS OF BOOKS OF ACCOUNTS OR OTHER RECORDS MAINTAINED BY TH E ASSESSEE. THUS, IT IS THE RESPONSIBILITY OF THE ASSESSEE TO MAINTAIN PROP ER RECORD AND BOOKS OF ACCOUNT WHICH WOULD ENABLE THE ASSESSING OFFICER TO VERIFY THEM AND DETERMINE THE CORRECT TOTAL INCOME OF THE ASSESSEE. THERE CANNOT BE ANY DISPUTE THAT THE TOTAL INCOME IS DETERMINED IN ACCO RDANCE WITH THE METHOD OF ACCOUNTING REGULARLY FOLLOWED BY THE ASSESSEE, I .E. UNDER SEC. 145(1) OF THE ACT, THE INCOME CHARGEABLE UNDER THE PROFITS A ND GAINS OF BUSINESS OR PROFESSION OR INCOME FROM OTHER SOURCES SHALL, S UBJECT TO THE PROVISIONS OF SUB SECTION (2), BE COMPUTED IN ACCORDANCE WITH EITHER CASH OR MERCANTILE SYSTEM OF ACCOUNTING REGULARLY EMPLOYED BY THE ASSESSEE. THUS IT COULD BE SEEN THAT IT IS THE PREROGATIVE OF THE ASSESSEE TO SELECT THE METHOD OF ACCOUNTING FOR THE INCOME CHARGEABLE UNDE R THE TWO HEADS CITED IN SEC. 145. IN THE SIMILAR MANNER, IN OUR VIEW, I T IS THE PREROGATIVE OF THE ASSESSEE TO SELECT THE METHOD AND RATE FOR PROVIDIN G DEPRECIATION FOR BOOK PURPOSES. IN CASE OF PARTNERSHIP CONCERNS, SINCE TH ERE IS NO STATUTORY COMPULSION TO PROVIDE FOR DEPRECIATION, THE PARTNER S MAY CHOOSE NOT TO PROVIDE DEPRECIATION IN BOOKS. AS PER THE RATIO OF THE HON'BLE APEX COURT IN THE CASE OF BRITISH PAINTS LTD., (SUPRA), THE AS SESSING OFFICER MAY DISTURB THE METHOD OF ACCOUNTING ONLY IF IT DOES NOT ENABLE HIM TO DETERMINE THE ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 11 OF 13 CORRECT TOTAL INCOME. WE HAVE ALREADY SEEN THAT THE QUANTUM OF DEPRECIATION CHARGED IN THE BOOKS DOES NOT AFFECT T HE TOTAL INCOME. 13. NOW WE SHALL TURN TO THE MAIN CONTROVERSY, VIZ., WHETHER THE ASSESSING OFFICER IS ENTITLED TO RE-COMPUTE THE CAP ITAL ACCOUNT BALANCES OF THE PARTNERS. IN THE CASE OF ASST. CIT VS. SANT SH OW STORE (2004) 88 ITD 524 (CHD.), IT WAS HELD THAT THE ASSESSING OFFICER IS NOT ENTITLED TO REWRITE THE BOOKS OF ACCOUNT. THE RELEVANT OBSERVATIONS MA DE IN THAT CASE ARE EXTRACTED BELOW: THERE IS NO POWER WITH THE AO TO REWRITE THE BOOKS OF ACCOUNT. THE INTEREST HAS TO BE ALLOWED AS COMPUTE D BY THE ASSESSEE. THE AO HAS ONLY TO SAY WHETHER THE INTERE ST CLAIMED IS AUTHORIZED BY OR IS IN ACCORDANCE WITH THE TERMS OF THE PARTNERSHIP DEED. HE IS NOT ENTITLED TO MAKE ADJUS TMENT IN THE P&L A/C OR IN THE CAPITAL ACCOUNTS OF THE PARTNERS. THE FACT THAT PARTNERS HAD BEEN TAXED ON THE INTEREST ALLOWE D TO THEM BY THE FIRM ALSO SUPPORTED THE CASE OF THE ASSESSEE . IN SUCH CIRCUMSTANCES, IT WAS TO BE HELD THAT THE CIT(A) WA S FULLY JUSTIFIED IN DELETING THE DISALLOWANCE MADE BY THE AO UNDER S. 40(B). HIS ACTION WAS CONFIRMED. 14. AS PER THE PROVISIONS OF SEC. 28(I), THE PR OFITS AND GAINS OF ANY BUSINESS OR PROFESSION WHICH WAS CARRIED ON BY THE ASSESSEE AT ANY TIME DURING THE PREVIOUS YEAR SHALL BE CHARGEABLE TO INC OME TAX UNDER THE HEAD PROFITS AND GAINS OF BUSINESS OR PROFESSION. UN DER SEC. 29, THE INCOME REFERRED TO IN SECTION 28 SHALL BE COMPUTED IN ACCO RDANCE WITH THE PROVISIONS CONTAINED IN SECTIONS 30 TO 43D. THE DE DUCTION OF PAYMENT OF INTEREST TO THE PARTNERS IS GOVERNED BY SEC. 40(B) OF THE ACT. HENCE THE ASSESSING OFFICER HAS TO VERIFY WHETHER THE ASSESSE E HAS FOLLOWED THE CONDITIONS PRESCRIBED UNDER SECTION 40(B) OF THE AC T IN ORDER TO ALLOW DEDUCTION OF INTEREST PAID TO THE PARTNERS. SEC. 4 0(B) OF THE ACT READS AS UNDER:- 40. NOT WITHSTANDING ANYTHING TO THE CONTRARY IN S ECTIONS 30 TO 38, THE FOLLOWING AMOUNTS SHALL NOT BE DEDUCTED IN COMP UTING THE INCOME CHARGEABLE UNDER THE HEAD PROFITS AND GAINS OF BUSINESS OR PROFESSION,-- ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 12 OF 13 ------- (B) IN THE CASE OF ANY FIRM ASSESSABLE AS SUCH,---- ----- (II) ANY PAYMENT .. OF INTEREST TO ANY PARTNER. WHICH, ., IS NOT AUTHORIZED BY, OR IS NOT IN ACCORDANCE WITH, THE TERMS OF THE PARTNERSHIP DEED; OR (III) ANY PAYMENT .. OF INTEREST TO ANY PARTNER, WHICH, , IS AUTHORIZED BY, AND IS IN ACCORDANCE WITH, THE TERMS OF THE PARTNERSHIP DEED, BUT WHICH RELATES TO ANY PERI OD (FALLING PRIOR TO THE DATE OF SUCH PARTNERSHIP DEED ) FOR WHICH SUCH PAYMENT WAS NOT AUTHORIZED BY, OR IS NOT IN ACCORDANCE WITH, ANY EARLIER PARTNERSHIP DEED, SO, HOWEVER, THAT THE PERIOD OF AUTHORIZATION FOR SUCH PAYMENT BY ANY EARLIER PARTNERSHIP DEED DOES NOT COVER ANY PERIOD PRIOR TO THE DATE OF SUCH EARLIER PARTNERSHIP DEED; OR (IV) ANY PAYMENT OF INTEREST TO ANY PARTNER WHICH IS AUTHORIZED BY, AND IS IN ACCORDANCE WITH, THE TERMS OF THE PARTNERSHIP DEED AND RELATES TO ANY PERIOD FALL ING AFTER THE DATE OF PARTNERSHIP DEED IN SO FAR AS SUC H AMOUNT EXCEEDS THE AMOUNT CALCULATED AT THE RATE OF (TWELVE)** PER CENT SIMPLE INTEREST PER ANNUM. (** SUBSTITUTED FOR EIGHTEEN BY THE FINANCE ACT 2 002 W.E.F 1-6-2002.) ON A CAREFUL READING OF THE ABOVE SAID PROVISIONS WOULD SHOW THAT THE ASSESSING OFFICER IS AUTHORIZED ONLY TO VERIFY WHET HER THE PAYMENT OF INTEREST TO ANY PARTNER IS AUTHORIZED BY AND IS IN ACCORDANCE WITH THE TERMS OF PARTNERSHIP DEED AND ALSO IT RELATES TO THE PERI OD FALLING AFTER THE DATE OF PARTNERSHIP DEED. BESIDES THE ABOVE, THE ASSESSING OFFICER SHOULD RESTRICT THE RATE OF INTEREST, IF THE RATE AUTHORIZED IN THE PARTNERSHIP DEED IS MORE THAN THE RATE SPECIFIED IN SECTION 40(B)(V) OF THE ACT. THUS, IT COULD BE SEEN THAT NO WHERE IT IS PROVIDED THAT THE ASSESSIN G OFFICER IS ENTITLED TO DISALLOW THE PAYMENT OF INTEREST TO PARTNERS BY REW ORKING THE CAPITAL ACCOUNT BALANCES OF THE PARTNERS. ITANOS 495 AND 496 OF 2010 SWARAJ ENTERPRISES VTLUR U & SHIVRAM AGENCIES JANGAREDDIGUDEM PAGE 13 OF 13 15. IN VIEW OF THE FOREGOING DISCUSSIONS, WE AR E OF THE VIEW THAT THE ASSESSING OFFICER IS NOT ENTITLED TO COMPEL THE ASS ESSEE TO PROVIDE FOR DEPRECIATION IN THE BOOKS OF ACCOUNT AND CONSEQUENT LY NOT ENTITLED TO RECOMPUTED THE CAPITAL ACCOUNT BALANCES OF THE PART NERS BY DEDUCTING THE CUMULATIVE AMOUNT OF DEPRECIATION THAT WAS ALLOWED IN THE HANDS OF THE ASSESSEES HEREIN. ACCORDINGLY, WE REVERSE THE IMPU GNED ORDERS OF LEARNED CIT(A) AND DIRECT THE ASSESSING OFFICER TO ALLOW T HE DEDUCTION OF INTEREST PAYMENT MADE TO THE PARTNERS, IF IT IS OTHERWISE IN ACCORDANCE WITH THE PROVISIONS OF SEC. 40(B) OF THE ACT. 16. IN THE RESULT, THE APPEALS OF THE ASSESSEES ARE ALLOWED. PRONOUNCED IN THE OPEN COURT ON 17.3.2011. SD/- SD/- (SUNIL KUMAR YADAV) (B R BASKARAN) JUDICIAL MEMBER ACCOUNTANT MEMBER PVV/SPS VISAKHAPATNAM, DATE: 17 TH MARCH, 2011 COPY TO 1 M/S SWARAJ ENTERPRISES, C/O KOMMANA VEERA VENKATA KRISHNA RAO, VATLURU 534 007, WEST GODAVARI DISTT. 2 M/S SHIVARAM AGENCIES, HPC DEALERS, JANGAREDDIGUD EM 3 THE ITO WARD-2 ELURU 4 5. THE CIT RAJAHMUNDRY THE CIT(A), RAJAHMUNDRY 6 THE DR, ITAT, VISAKHAPATNAM. 7 GUARD FILE. BY ORDER SENIOR PRIVATE SECRETARY INCOME TAX APPELLATE TRIBUNAL VISAKHAPATNAM