DCIT, Bangalore V. M/s JSR Constructions Private Limited, Bangalore

ITA 875/BANG/2014

• Counselvise Citation: [2016] 133 COUNSELVISE.COM (IT) 0449 (ITAT-BANGALORE)
• Duration Of Justice: 1 year(s) 9 month(s) 16 day(s)
• Appeal Type: Income Tax Appeal
• Pronouncement Date: 13-04-2016
• Appeal Filed By: Department
• Order Result: Dismissed
• Bench Allotted: C
• Next Hearing Date: 05-04-2016
• Assessment Year: 2008-2009
• Appeal Filed On: 27-06-2014
• Result in Favour of: Assessee
• Court: TRIBUNAL
• Department Lawyers: SUNIL KUMAR AGARWALA JT
• Assessee Lawyers: V CHANDRASHEKAR
• Keywords: Capital asset; Business income; Question of law
• Section: 44AD; 145; 144

Judgement Text

IN THE INCOME TAX APPELLATE TRIBUNAL C BENCH : BANGALORE BEFORE SHRI ABRAHAM P. GEOERGE, ACCOUNTANT MEMBER AND SHRI GEORGE GEORGE K., JUDICIAL MEMBER ITA NO.875/BANG/2014 ASSESSMENT YEAR : 2008-09 THE DEPUTY COMMISSIONER OF INCOME TAX, CENTRAL CIRCLE 2(2), BANGALORE. VS. M/S. JSR CONSTRUCTIONS PVT. LTD., 540, 4 TH FLOOR, CMH ROAD, INDIRANAGAR, BANGALORE. PAN: AAACJ 4500H APPELLANT RESPONDENT ITA NO.741/BANG/2014 ASSESSMENT YEAR : 2008- 09 M/S. JSR CONSTRUCTIONS PVT. LTD., 540, 4 TH FLOOR, CMH ROAD, INDIRANAGAR, BANGALORE. PAN: AAACJ 4500H VS. THE DEPUTY COMMISSIONER OF INCOME TAX, CENTRAL CIRCLE 2(2), BANGALORE. APPELLANT RESPONDENT REVENUE BY : SHRI SUNIL KUMAR AGARWALA, JT. CIT(DR) ASSESSEE BY : SHRI V. CHANDRASHEKAR, ADVOCATE DATE OF HEARING : 05.04.2016 DATE OF PRONOUNCEMENT : 13.04.2016 ITA NOS. 875 & 741/BANG/2014 PAGE 2 OF 20 O R D E R PER ABRAHAM P. GEORGE, ACCOUNTANT MEMBER THESE ARE CROSS APPEALS FILED BY THE REVENUE AND THE ASSESSEE RESPECTIVELY DIRECTED AGAINST THE ORDER DATED 26.2. 2014 OF THE CIT(APPEALS)-I, BANGALORE. 2. ASSESSEE IN ITS APPEAL HAS ALTOGETHER RAISED 10 GROUNDS, OF WHICH GROUNDS NO.1, 3, 9 & 10 ARE GENERAL IN NATURE NOT N EEDING ANY SPECIFIC ADJUDICATION. 3. GROUND NO.2 ASSAILS INVOCATION OF SECTION 144 OF THE INCOME-TAX ACT, 1961 [IN SHORT THE ACT] AND PASSING OF A BEST JUD GMENT ASSESSMENT ON THE ASSESSEE, WHICH WAS CONFIRMED BY THE CIT(APPEALS). 4. FACTS APROPOS ARE THAT ASSESSEE ENGAGED IN THE B USINESS OF CONSTRUCTION OF ROADS AND CONTRACTS HAD FILED RETUR N OF INCOME FOR THE A.Y. 2007-08 AT RS.1,45,72,139. IN THE COURSE OF ASSESS MENT PROCEEDINGS, THE ASSESSEE WAS REQUIRED TO GIVE BREAK-UP OF THE INVEN TORY OF RS.36.04 CRORES SHOWN BY IT IN ITS ACCOUNTS, DETAILS OF CONTRACT RE CEIPTS, OPERATING EXPENDITURE AND CURRENT LIABILITIES. ASSESSING OFF ICER ALSO REQUIRED THE ASSESSEE TO PRODUCE BOOKS OF ACCOUNTS. IN REPLY, A SSESSEE FURNISHED COPIES OF INVENTORY AND BREAK-UP OF UNSECURED LOANS ALONG WITH STATEMENT OF SUNDRY CREDITORS AS ON 31.3.2007 AND 31.3.2008. NEVERTHELESS, IT SEEMS BOOKS OF ACCOUNT AND OTHER RECORDS WERE NOT PRODUCE D. AO PUT THE ITA NOS. 875 & 741/BANG/2014 PAGE 3 OF 20 ASSESSEE ON NOTICE AS TO WHY SECTION 144 SHOULD NOT BE INVOKED. IT SEEMS ASSESSEE COULD NOT JUSTIFY ITS INABILITY TO PRODUCE THE BOOKS OF ACCOUNTS. SINCE ASSESSEE DID NOT PRODUCE BOOKS OF ACCOUNT NOR FURNISH THE SPECIFIC INFORMATION CALLED BY THE AO, HE PROCEEDED TO MAKE AN ASSESSMENT U/S. 144 OF THE ACT. THE ACTION OF THE AO IN INVOKING SECTION 144 OF THE ACT WAS CONFIRMED BY THE CIT(APPEALS) CONSIDERING THE NON-C OMPLIANCE WITH THE REQUIREMENT OF PRODUCTION OF BOOKS OF ACCOUNT AND E VIDENCE IN RESPECT OF ITS CLAIM OF EXPENDITURE. 5. NOW BEFORE US, THE LD. AR STRONGLY SUBMITTED THA T INVOCATION OF SECTION 144 OF THE ACT WAS NOT WARRANTED UNDER THE FACTS AND CIRCUMSTANCES OF THE CASE. PER CONTRA , THE LD. DR SUPPORTED THE ORDERS OF AUTHORITIES BELOW. 6. WE HAVE PERUSED THE RECORDS AND HEARD THE RIVAL CONTENTIONS. IT IS NOT DISPUTED THAT ASSESSEE FAILED TO PRODUCE BOOKS OF ACCOUNT. IT COULD NOT FURNISH VARIOUS DETAILS CALLED FOR BY THE AO. ASSE SSEE HAD FILED ITS BALANCE SHEET AND PROFIT & LOSS ACCOUNT ALONG WITH THE RETU RN OF INCOME. ONCE THE ASSESSEE, DESPITE NOTICES, FAILED TO PRODUCE BOOKS OF ACCOUNT FOR VERIFICATION, AO IS LEFT WITH NO CHOICE BUT TO PROC EED WITH A BEST JUDGMENT ASSESSMENT. WE CANNOT FIND ANY FAULT WITH THE AO I N THIS REGARD. GROUND NO.2 OF THE ASSESSEE STANDS DISMISSED. 7. VIDE GROUND NO. 4, GRIEVANCE RAISED BY THE ASSES SEE IS ON THE DISALLOWANCE OF RS.55,95,000. AO DURING THE COURSE OF ASSESSMENT ITA NOS. 875 & 741/BANG/2014 PAGE 4 OF 20 PROCEEDINGS FOUND THAT ASSESSEE HAD IN ITS PROFIT & LOSS ACCOUNT DEBITED A SUM OF RS.4,49,07,419 AS FINANCE CHARGES. OUT OF T HIS, SUM OF RS.62,97,421 WAS BANK CHARGES AND COMMISSION, WHERE AS THE BALANCE REPRESENTED INTEREST PAID TO VARIOUS BANKS ON LOANS TAKEN BY THE ASSESSEE. AO NOTED THAT MAJORITY OF THE LOANS TAKEN WERE FOR THE WORKING CAPITAL NEEDS OF THE ASSESSEE. HOWEVER, ACCORDING TO THE AO , ASSESSEE HAD ADVANCED A SUM OF RS.4.45 CRORES AS ON 31.3.2007 AN D RS.3 CRORES AS ON 31.3.2008 TO VARIOUS PARTIES WITHOUT CHARGING INTER EST. AS PER AO, THE AVERAGE ADVANCES SANS INTEREST CAME TO RS.3.73 CRORES. HE APPLIED A RAT E OF 15% ON SUCH AMOUNT AND HELD THAT RS.55,95,000 OU T OF THE TOTAL CLAIM OF INTEREST EXPENDITURE WAS NOT ALLOWABLE. ADDITION W AS ACCORDINGLY MADE. 8. IN ITS APPEAL BEFORE THE CIT(APPEALS), ARGUMENT OF THE ASSESSEE WAS THAT ADVANCES GIVEN BY IT WAS OUT OF INTEREST F REE FUNDS AVAILABLE. HOWEVER, LD. CIT(A) WAS OF THE OPINION THAT ASSESSE E COULD NOT SUBSTANTIATE THIS ARGUMENT. ACCORDING TO HIM, ASSE SSEE HAD GIVEN A LOAN OF RS.5,66,26,900 TO ONE SHRI J. SRINIVASULU REDDY, RS. 87,51,304 TO SMT. J. SOWADHAMINI AND RS.62,58,275 TO ONE SHRI R. RAMA CHANDRA REDDY, WHO WERE ALL DIRECTORS OF THE ASSESSEE. AS PER LD. CIT(A), NO INTEREST WAS CHARGED BY THE ASSESSEE ON THE ABOVE LOANS AND HE H ELD THAT DISALLOWANCE OF PRO RATA INTEREST AT 15% WAS JUSTIFIED SINCE ASSESSEE HAD P AID SUBSTANTIAL INTEREST DURING THE RELEVANT PREVIOUS Y EAR. HE THUS CONFIRMED THE ADDITION. ITA NOS. 875 & 741/BANG/2014 PAGE 5 OF 20 9. NOW BEFORE US, LD. AR STRONGLY ASSAILING THE OR DER OF CIT(APPEALS), SUBMITTED THAT ASSESSEE HAD SUBSTANTIAL INTEREST FR EE FUNDS AVAILABLE WITH IT. AS PER LD. AR, THE INTEREST FREE FUNDS AVAILABLE TO ASSESSEE AS ON 31.3.2007 WAS RS.17,90,41,923 AND AS ON 31.3.2008 RS.26,47,86 ,988. THUS, AS PER LD. AR, THE LOANS OF RS.4.45 CRORES AS ON 31.3.2007 AND RS.3 CRORES AS ON 31.3.2008 WERE GIVEN OUT OF INTEREST FREE FUNDS. R ELYING ON THE JUDGMENT OF THE HONBLE BOMBAY HIGH COURT IN THE CASE OF CIT V. RELIANCE UTILITIES AND POWER LTD., 313 ITR 340, THE LD. AR SUBMITTED THAT IF INTEREST FREE FUNDS AN D INTEREST BEARING FUNDS WERE BOTH AVAILABLE, THEN A PRESUMPTION WOULD ARISE THAT LOANS WERE FIRST GIVEN OUT OF INTEREST FREE FU NDS. RELIANCE WAS ALSO PLACED IN THE CASE OF M/S. KBD SUGARS & DISTILLERIES LTD. V. ACIT, ITA NO S. 1362 & 1363/BANG/2011 DATED 22.11.2013. 10. PER CONTRA , LD. DR STRONGLY SUPPORTED THE ORDERS OF AUTHORITI ES BELOW AND SUBMITTED THAT NO PRESUMPTION AS ARGUED BY THE LD. AR COULD BE TAKEN. ACCORDING TO HIM, HONBLE PUNJAB & HARYANA HIGH COU RT IN THE CASE OF CIT V. ABHISHEK INDUSTRIES, 286 ITR 1, HAD TAKEN A VIEW THAT PROPORTIONATE FUNDING PRINCIPLE SHOULD BE FOLLOWED WHILE CONSTRUI NG INTEREST DISALLOWANCE RELATING TO INTEREST FREE LOANS GIVEN BY THE ASSESS EE. 11. AD INTERIM REPLY OF THE LD. AR WAS THAT THE DECISION OF HONB LE PUNJAB & HARYANA HIGH COURT IN THE CASE OF ABHISHEK INDUSTRIES (SUPRA) WAS CONSIDERED BY THE HONBLE APEX COURT IN THE CAS E OF MUNJAL SALES ITA NOS. 875 & 741/BANG/2014 PAGE 6 OF 20 CORPORATION V. CIT, 298 ITR 298 (SC) AND THE SAID DECISION STOOD OVERTURNED. 12. WE HAVE PERUSED THE ORDERS AND HEARD THE RIVAL CONTENTIONS. INTEREST FREE FUNDS AVAILABLE WITH ASSESSEE AS ON 3 1.3.2007 AND 31.3.2008 WERE AS UNDER:- PARTICULARS 31.03.2008 31.03.2007 SHARE CAPITAL 60,62,000 60,62,000 RESERVES & SURPLUS 16,93,24,161 15,32,96,877 LOANS FROM DIRECTORS & SHAREHOLDERS 8,94,00,827 1,96,83,046 TOTAL 26,47,86,988 17,90,41,923 13. OBVIOUSLY THE LOANS GIVEN BY THE ASSESSEE COMIN G TO RS.4.45 CRORES AS ON 31.3.2007 AND RS.3 CRORES AS ON 31.3.2008 WER E MORE THAN COVERED BY INTEREST FREE FUNDS AVAILABLE WITH IT. THE OBSE RVATION OF THE HONBLE BOMBAY HIGH COURT IN THE CASE OF RELIANCE UTILITIES AND POWER LTD. (SUPRA) IS VERY RELEVANT. IT WAS HELD BY THE HONBLE BOMBA Y HIGH COURT AS UNDER:- IF THERE WERE FUNDS AVAILABLE BOTH INTEREST-FREE A ND OVERDRAFT AND/OR LOANS TAKEN, THEN A PRESUMPTION WOULD ARISE THAT INVESTMENTS WOULD BE OUT OF THE INTEREST-FREE FUNDS GENERATED OR AVAILABLE WITH THE COMPANY, IF THE INTEREST-FREE FU NDS WERE SUFFICIENT TO MEET THE INVESTMENTS. IN THIS CASE, THIS PRESUMPTION WAS ESTABLISHED CONSIDERING THE FINDING THE FACT BO TH BY THE COMMISSIONER (APPEALS) AND THE TRIBUNAL. THE INTER EST WAS DEDUCTIBLE. 14. AS FOR THE CONTENTION OF LD. DR THAT HONBLE PU NJAB & HARYANA HIGH COURT HAD ACCEPTED THE PRINCIPLE OF PROPORTIONATE F UNDING FOR CALCULATION OF ITA NOS. 875 & 741/BANG/2014 PAGE 7 OF 20 INTEREST IN THE CASE OF ABHISHEK INDUSTRIES (SUPRA) , WE FIND THAT THE HONBLE APEX COURT HAD CONSIDERED THE SAID DECISION IN THE CASE OF MUNJAL SALES CORPORATION, 298 ITR 298 (SC) AND HELD AGAINST THE REVENUE. WE ARE THEREFORE OF THE OPINION THAT DISALLOWANCE OF INTER EST WAS NOT WARRANTED IN THE FACTS AND CIRCUMSTANCES OF THE CASE. SUCH DISA LLOWANCE STANDS DELETED. GROUND NO.4 IS ALLOWED. 15. VIDE GROUND NO.5, GRIEVANCE RAISED BY THE ASSES SEE IS THAT INTEREST EXPENDITURE OF RS.1,78,91,526 WAS DISALLOWED FOR TH E REASON THAT IT WAS EXPENDITURE PERTAINING TO WORK-IN-PROGRESS AND HAD TO BE CAPITALIZED. 16. FACTS APROPOS ARE THAT DURING THE COURSE OF ASS ESSMENT PROCEEDINGS, IT WAS NOTED BY AO THAT ASSESSEE WAS H OLDING INVENTORY OF MORE THAN RS.34 CRORES AS ON 31.3.2008. THE AVERAGE WORK-IN-PROGRESS OF THE ASSESSEE FOR THE YEAR CAME TO RS.23,85,53,685. AO WAS OF THE OPINION THAT ASSESSEE SHOULD HAVE CAPITALIZED THE INTEREST ATTRIBUTABLE TO WORK-IN- PROGRESS. AS PER AO, SECTION 145 OF THE ACT REQUIR ED COMPUTING COST OF STOCK INCLUDING ALL EXPENDITURE. AS PER LD. AO, ON CE THE WORK-IN-PROGRESS WAS COMPLETED AND TAKEN TO THE REVENUE ACCOUNT, COR RESPONDING MATERIAL AND INTEREST COSTS COULD BE ALLOWED AS EXPENDITURE. HE CONSIDERED 50% OF THE AVERAGE WORK-IN-PROGRESS OF RS.23,85,53,685 AS FUNDED THROUGH INTEREST BEARING LOANS. ACCORDING TO LD. AO, INT EREST ASCRIBABLE TO THE SUM OF RS.11,92,76,842 AT 15% P.A. CAME TO RS.1,78,91,5 26. HE DISALLOWED THE CLAIM OF INTEREST TO THIS EXTENT AND MADE AN ADDITI ON. ITA NOS. 875 & 741/BANG/2014 PAGE 8 OF 20 17. IN APPEAL BEFORE THE CIT(APPEALS), ARGUMENT OF THE ASSESSEE WAS THAT NONE OF THE WORK-IN-PROGRESS WAS CAPITAL WORK- IN-PROGRESS. AS PER ASSESSEE, IT WAS UNDERTAKING ROAD CONTRACT WORKS. THE WORK-IN-PROGRESS AND CLOSING STOCK OF RS.14,63,91,113, AS PER ASSESS EE, WERE HELD AS PART OF ITS BUSINESS. ARGUMENT OF THE ASSESSEE WAS THAT WORKING CAPITAL LOANS TAKEN AND INTEREST PAID THEREON COULD NOT BE CAPITA LIZED. FURTHER CONTENTION OF ASSESSEE WAS THAT CLOSING STOCK OF WO RK-IN-PROGRESS COULD NOT INCLUDE INTEREST COST, SINCE WORK-IN-PROGRESS REPRE SENTED ITS TRADING ASSETS AND NOT CAPITAL ASSETS. HOWEVER, THE LD. CIT(APPEA LS) WAS NOT IMPRESSED. ACCORDING TO HIM, ASSESSEE WAS FOLLOWING PERCENTAGE COMPLETION METHOD. A PART OF THE INCREASE IN WORK-IN-PROGRESS PERTAINI NG TO ONE WORK CALLED NANDYAL DIVISION WORK, AS PER LD. CIT(A), CAME DUE TO COST ARISING FROM ACCRUED INTEREST CHARGED BY ASSESSEE ON ITS CLIENTS . AGAIN, AS PER LD. CIT(A), IN ANOTHER PROJECT CALLED NAGPUR PROJECT, W ORK-IN-PROGRESS WAS CALCULATED CONSIDERING THE ENTIRE VALUE OF THE WORK . THUS, AS PER THE LD. CIT(A), THE ADDITION MADE BY THE AO CONSIDERING 50% OF WORK-IN-PROGRESS TO HAVE BEEN FINANCED OUT OF INTEREST BEARING FUNDS WAS JUSTIFIED. HE CONFIRMED THE ADDITION. 18. NOW BEFORE US, LD. AR SUBMITTED THAT SECTION 14 5 WHICH WAS RELIED ON BY THE AO FOR MAKING THIS DISALLOWANCE DID NOT R EQUIRE INTEREST ON LOANS RAISED FOR FINANCING WORKING CAPITAL TO BE CHARGED TO THE CLOSING INVENTORY. RELYING ON CLAUSE 12 OF ACCOUNTING STANDARD AS-2 OF INSTITUTE OF CHARTERED ACCOUNTANTS OF INDIA, LD. AR SUBMITTED THAT IT CLEA RLY STIPULATED EXCLUSION OF ITA NOS. 875 & 741/BANG/2014 PAGE 9 OF 20 INTEREST AND OTHER BORROWING COSTS IN THE COST OF I NVENTORY. AS PER LD. AR, THE WORK-IN-PROGRESS DID NOT REPRESENT ANY ASSETS O WNED BY ASSESSEE. IT WAS WORK BEING DONE BY THE ASSESSEE BASED ON CONTRA CTS AND THE PART OF ITS TRADING BUSINESS. HENCE, IT WAS JUST LIKE A TR ADING CLOSING STOCK. THUS, AS PER LD. AR, CHARGING INTEREST ON SUCH CLOSING WO RK-IN-PROGRESS WOULD GIVE RISE TO ABSURD RESULTS. 19. PER CONTRA , LD. DR STRONGLY SUPPORTED THE ORDERS OF AUTHORITI ES BELOW. 20. WE HAVE PERUSED THE RECORD AND HEARD THE RIVAL CONTENTIONS. THERE IS NO DISPUTE THAT WORK-IN-PROGRESS SHOWN BY THE AS SESSEE WAS A PART OF ITS CURRENT ASSETS. SUCH WORK-IN-PROGRESS AND INVENTOR Y DID NOT REPRESENT ANY CAPITAL ITEM OR CAPITAL ASSET BEING CONSTRUCTED OR ACQUIRED BY THE ASSESSEE FOR ITS OWN USE. ASSESSEE WAS DOING ROAD WORK BASE D ON CONTRACTS AWARDED TO IT. INTEREST COST ATTRIBUTED TO LOANS T AKEN FOR FINANCING ITS NORMAL TRADING ACTIVITY IS, IN OUR OPINION, A PERIOD COST THAT HAS TO BE CHARGED TO PROFIT & LOSS ACCOUNT. SUCH INTEREST CANNOT GO INT O THE COST OF INVENTORIES. ACCOUNTING STANDARDS AS-2 WHICH DEALS WITH VALUATIO N OF INVENTORIES STATES AS UNDER:- COST OF INVENTORIES 6. THE COST OF INVENTORIES SHOULD COMPRISE ALL COS TS OF PURCHASE, COSTS OF CONVERSION AND OTHER COSTS INCUR RED IN BRINGING THE INVENTORIES TO VALUATION OF INVENTORIES TO THEI R PRESENT LOCATION AND CONDITION. ITA NOS. 875 & 741/BANG/2014 PAGE 10 OF 20 COSTS OF PURCHASE 7. THE COSTS OF PURCHASE CONSIST OF THE PURCHASE P RICE INCLUDING DUTIES AND TAXES (OTHER THAN THOSE SUBSEQ UENTLY RECOVERABLE BY THE ENTERPRISE FROM THE TAXING AUTHO RITIES), FREIGHT INWARDS AND OTHER EXPENDITURE DIRECTLY ATTRIBUTABLE TO THE ACQUISITION. TRADE DISCOUNTS, REBATES, DUTY DRAWBAC KS AND OTHER SIMILAR ITEMS ARE DEDUCTED IN DETERMINING THE COSTS OF PURCHASE. COSTS OF CONVERSION 8. THE COSTS OF CONVERSION OF INVENTORIES INCLUDE COSTS DIRECTLY RELATED TO THE UNITS OF PRODUCTION, SUCH A S DIRECT LABOUR. THEY ALSO INCLUDE A SYSTEMATIC ALLOCATION OF FIXED AND VARIABLE PRODUCTION OVERHEADS THAT ARE INCURRED IN CONVERTIN G MATERIALS INTO FINISHED GOODS. FIXED PRODUCTION OVERHEADS ARE THOSE INDIRECT COSTS OF PRODUCTION THAT REMAIN RELATIVELY CONSTANT REGARDLESS OF THE VOLUME OF PRODUCTION, SUCH AS DEP RECIATION AND MAINTENANCE OF FACTORY BUILDINGS AND THE COST OF FA CTORY MANAGEMENT AND ADMINISTRATION. VARIABLE PRODUCTION OVERHEADS ARE THOSE INDIRECT COSTS OF PRODUCTION THAT VARY DI RECTLY, OR NEARLY DIRECTLY, WITH THE VOLUME OF PRODUCTION, SUCH AS IN DIRECT MATERIALS AND INDIRECT LABOUR. 9. THE ALLOCATION OF FIXED PRODUCTION OVERHEADS FO R THE PURPOSE OF THEIR INCLUSION IN THE COSTS OF CONVERSI ON IS BASED ON THE NORMAL CAPACITY OF THE PRODUCTION FACILITIES. N ORMAL CAPACITY IS THE PRODUCTION EXPECTED TO BE ACHIEVED ON AN AVE RAGE OVER A NUMBER OF PERIODS OR SEASONS UNDER NORMAL CIRCUMSTA NCES, TAKING INTO ACCOUNT THE LOSS OF CAPACITY RESULTING FROM PL ANNED MAINTENANCE. THE ACTUAL LEVEL OF PRODUCTION MAY BE USED IF IT APPROXIMATES NORMAL CAPACITY. THE AMOUNT OF FIXED P RODUCTION OVERHEADS ALLOCATED TO EACH UNIT OF PRODUCTION IS N OT INCREASED AS A CONSEQUENCE OF LOW PRODUCTION OR IDLE PLANT. UNAL LOCATED OVERHEADS ARE RECOGNISED AS AN EXPENSE IN THE PERIO D IN WHICH THEY ARE INCURRED. IN PERIODS OF ABNORMALLY HIGH PR ODUCTION, THE AMOUNT OF FIXED PRODUCTION OVERHEADS ALLOCATED TO E ACH UNIT OF PRODUCTION IS DECREASED SO THAT INVENTORIES ARE NOT MEASURED ABOVE COST. VARIABLE PRODUCTION OVERHEADS ARE ASSIG NED TO EACH UNIT OF PRODUCTION ON THE BASIS OF THE ACTUAL USE O F THE PRODUCTION FACILITIES. ITA NOS. 875 & 741/BANG/2014 PAGE 11 OF 20 10. A PRODUCTION PROCESS MAY RESULT IN MORE THAN O NE PRODUCT BEING PRODUCED SIMULTANEOUSLY. THIS IS THE CASE, FO R EXAMPLE, WHEN JOINT PRODUCTS ARE PRODUCED OR WHEN THERE IS A MAIN PRODUCT AND A BY-PRODUCT. WHEN THE COSTS OF CONVERSION OF E ACH PRODUCT ARE NOT SEPARATELY IDENTIFIABLE, THEY ARE ALLOCATED BETWEEN THE PRODUCTS ON A RATIONAL AND CONSISTENT BASIS. THE AL LOCATION MAY BE BASED, FOR EXAMPLE, ON THE RELATIVE SALES VALUE OF EACH PRODUCT EITHER AT THE STAGE IN THE PRODUCTION PROCESS WHEN THE PRODUCTS BECOME SEPARATELY IDENTIFIABLE, OR AT THE COMPLETIO N OF PRODUCTION. MOST BY-PRODUCTS AS WELL AS SCRAP OR WA STE MATERIALS, BY THEIR NATURE, ARE IMMATERIAL. WHEN THIS IS THE C ASE, THEY ARE OFTEN MEASURED AT NET REALISABLE VALUE AND THIS VAL UE IS DEDUCTED FROM THE COST OF THE MAIN PRODUCT. AS A RESULT, THE CARRYING AMOUNT OF THE MAIN PRODUCT IS NOT MATERIALLY DIFFER ENT FROM ITS COST. OTHER COSTS 11. OTHER COSTS ARE INCLUDED IN THE COST OF INVENT ORIES ONLY TO THE EXTENT THAT THEY ARE INCURRED IN BRINGING THE I NVENTORIES TO THEIR PRESENT LOCATION AND CONDITION. FOR EXAMPLE, IT MAY BE APPROPRIATE TO INCLUDE OVERHEADS OTHER THAN PRODUCT ION OVERHEADS OR THE COSTS OF DESIGNING PRODUCTS FOR SPECIFIC CUS TOMERS IN THE COST OF INVENTORIES. 12. INTEREST AND OTHER BORROWING COSTS ARE USUALLY CONSIDERED AS NOT RELATING TO BRINGING THE INVENTORIES TO THEI R PRESENT LOCATION AND CONDITION AND ARE, THEREFORE, USUALLY NOT INCLU DED IN THE COST OF INVENTORIES. 21. IT IS CLEAR FROM CLAUSE 12 OF THE ACCOUNTING ST ANDARDS 2 THAT NORMAL INTEREST AND BORROWING COSTS CANNOT FORM PART OF CO ST OF INVENTORY. WHEN AN ASSESSEE IS FOLLOWING METHOD OF VALUATION OF INV ENTORY WHICH IS IN ACCORDANCE WITH THE ACCOUNTING STANDARDS PRESCRIBED BY ICAI, IN OUR OPINION, REVENUE CANNOT STEP INTO THE SHOES OF ASSE SSEE AND FOIST ON IT A DIFFERENT METHOD, UNLESS THERE IS A CLEAR STATUTORY EDICT ALLOWING A DEPARTURE ITA NOS. 875 & 741/BANG/2014 PAGE 12 OF 20 FROM SUCH ACCEPTED STANDARDS. WE CANNOT SAY THAT A SSESSEE HAD UNDERSTATED ITS WORK-IN-PROGRESS OR INVENTORY BY NO T CHARGING INTEREST RELATING TO WORKING CAPITAL LOAN TO ITS VALUATION. ASSESSEE WAS WELL JUSTIFIED IN CONSIDERING INTEREST AS A PERIOD COST AND DEBITI NG IN ITS PROFIT & LOSS ACCOUNT. WE DO NOT FIND ANY MERIT IN THE ADDITIONS MADE BY THE AO. AS SUCH, THESE ADDITIONS ARE DELETED AND GROUND NO.5 I S ALLOWED. 22. VIDE ITS GROUND NOS.6 TO 8, ASSESSEE IS AGGRIEV ED ON REJECTION OF BOOKS OF ACCOUNT AND ESTIMATION OF BUSINESS INCOME AT 8% WHICH WAS CONFIRMED BY THE LD. CIT(APPEALS). 23. AO, FINDING THAT ASSESSEE COULD NOT PRODUCE BOO KS OF ACCOUNT AND EVIDENCE IN SUPPORT OF CLAIM OF EXPENDITURE, HAD HE LD THAT THE ONLY OPTION AVAILABLE WAS TO ESTIMATE THE INCOME. AS PER AO, A SSESSEE WHO WAS A CIVIL CONTRACTOR BUILDING ROADS AND BRIDGES, HAD CL AIMED MANY EXPENDITURE WHICH COULD NOT BE VERIFIED IN THE ABSENCE OF BOOKS OF ACCOUNT AND NON- PRODUCTION OF VOUCHERS AND BILLS. AS PER AO, IT CO ULD NOT ALSO BE VERIFIED WHETHER EXPENDITURE INCURRED BY THE ASSESSEE WERE T HROUGH CASH OR THROUGH ACCOUNT PAYEE CHEQUES. THUS, ACCORDING TO AO, IT WAS NOT POSSIBLE TO MAKE THE VERIFICATIONS REQUIRED UNDER T HE ACT. HE THEREFORE REJECTED THE BOOK RESULTS OF THE ASSESSEE AND ESTIM ATED NET PROFIT AT 8% OF THE TOTAL CONTRACT RECEIPTS. THE TOTAL RECEIPTS CA ME TO RS.65,28,61,901 AND APPLYING 8%, AO ARRIVED AT A BUSINESS INCOME OF RS. 5,22,28,952. ON THE SAID AMOUNT, HE ALLOWED TELESCOPING INTEREST DISALL OWANCES OF ITA NOS. 875 & 741/BANG/2014 PAGE 13 OF 20 RS.55,95,000 AND RS.1,78,91,526. SINCE ASSESSEE HI MSELF HAD DECLARED A BUSINESS INCOME OF RS.1,45,72,139, AO MADE AN ADDIT ION OF BALANCE WHICH AS PER AOS WORKING CAME TO RS.1,40,23,483. IN OTH ER WORDS, AO ALLOWED TELESCOPING OF INTEREST DISALLOWANCE AGAINST THE 8% NET PROFIT ESTIMATED. 24. IN ITS APPEAL BEFORE CIT(APPEALS), ARGUMENT OF ASSESSEE WAS THAT ESTIMATION OF INCOME WAS DONE AT AN EXCESSIVE RATE. AS PER ASSESSEE, BOOKS OF ACCOUNT WERE AUDITED AND AUDIT REPORTS WER E FILED ALONG WITH RETURN OF INCOME. CONTENTION OF ASSESSEE WAS THAT ESTIMATION OF PROFIT AT 8% WAS NOT WARRANTED. HOWEVER, THE LD. CIT(APPEALS ) DID NOT AGREE WITH THE ABOVE ARGUMENTS. ACCORDING TO HIM, THERE WAS P OSSIBILITY OF LARGE NUMBER OF VIOLATIONS WITH REGARD TO RULES ON CASH P AYMENTS. FURTHER, AS PER LD. CIT(A), AO COULD ALSO SHOW THAT THERE WERE NUMB ER OF DISCREPANCIES IN THE STATEMENT OF ACCOUNTS FILED BY THE ASSESSEE. T HUS, AS PER LD. CIT(A), TOTALITY OF THE CIRCUMSTANCES JUSTIFIED THE ACTION OF THE AO IN ESTIMATING NET PROFIT AT 8% OF TOTAL CONTRACT RECEIPTS. HE CONFIR MED THE ADDITION. 25. NOW BEFORE US, LD. AR STRONGLY ASSAILED THE ORD ER OF CIT(A) AND SUBMITTED THAT ASSESSEE HAD NO GRIEVANCE AGAINST RE JECTION OF BOOKS OF ACCOUNT OR ESTIMATION OF NET PROFIT. HOWEVER, ACCO RDING TO LD. AR, NET PROFIT ESTIMATION @ 8% WAS VERY MUCH ON HIGHER SIDE WHEN C ONSIDERING THE NORMAL STANDARDS. AS PER LD. AR, 8% WAS FIXED BY T HE LD. AO RELYING ON SECTION 44AD OF THE ACT, BUT SUCH SECTION APPLIED O NLY TO CONTRACTORS HAVING ITA NOS. 875 & 741/BANG/2014 PAGE 14 OF 20 TURNOVER BELOW 40 LAKHS. FURTHER, AS PER LD. AR, I N ASSESSEES OWN CASE FOR PRECEDING ASSESSMENT YEARS 2006-07 AND 2007-08 WHERE ASSESSMENTS WERE DONE U/S. 143(3), NET PROFITS WERE ACCEPTED AT 1.7% AND 2.21% ON THE CONTRACT RECEIPTS. EVEN IF AVERAGE OF ABOVE WAS TA KEN, AS PER LD. AR, IT WOULD MUCH LESS THAN 8%. THUS, ACCORDING TO HIM, E STIMATION OF PROFIT AT 8% WAS NOT JUSTIFIED AND IT HAD TO BE SCALED DOWN. RELIANCE WAS PLACED ON THE JUDGMENT OF JURISDICTIONAL HIGH COURT IN THE CA SE OF DELUXE ROADLINES PVT. LTD. V. DCIT IN ITA NO.213 OF 2014 DATED 14.10 .2014 . 26. PER CONTRA , LD. DR SUBMITTED THAT AO HAD TAKEN GUIDANCE FROM SECTION 44AD FOR ESTIMATING PROFIT AT 8% OF GROSS C ONTRACT RECEIPTS. ACCORDING TO HIM, ASSESSEE HAD NOT BROUGHT OUT ANY DETAILS REGARDING ITS OWN INCOME FOR EARLIER YEARS NEITHER RAISED ANY ARG UMENT FOR ACCEPTING THE RATES OF PROFITS FOR EARLIER YEARS BEFORE THE LOWER AUTHORITIES. THUS, ACCORDING TO HIM, ESTIMATION DONE BY THE AO WAS JUS TIFIED. 27. WE HAVE PERUSED THE RECORD AND HEARD THE RIVAL CONTENTIONS. IT HAS BEEN NOT DISPUTED BY THE REVENUE THAT ASSESSEES OW N ASSESSMENTS FOR THE AYS 2006-07 AND 2007-08 WERE COMPLETED U/S. 143 (3) OF THE ACT AFTER SCRUTINY. AS PER ASSESSEE, THE NET PROFIT RATE FO R AY 2006-07 AND WORKED OUT TO 2.2% AND FOR AY 2007-08 IT CAME TO 1.7%. IN THE CASE OF M/S. DELUXE ROADLINES PVT. LTD. (SUPRA) RELIED ON BY THE LD. AR, WHERE ASSESSEE WAS ENGAGED IN TRANSPORTATION BUSINESS, THEIR LORDS HIPS OF THE JURISDICTIONAL HIGH COURT HAD HELD AS UNDER:- ITA NOS. 875 & 741/BANG/2014 PAGE 15 OF 20 6. THE APEX COURT IN THE CASE OF RAGHUBAR MANDAL HARIHAR MANDAL VS THE STATE OF BIHAR (1957 VO.VIII STC 770) HAS HELD WHEN THE RETURNS AND THE BOOKS OF ACCOUNT ARE REJECTED, THE ASSESSING OFFICER MUST MA KE AN ESTIMATE, AND TO THAT EXTENT HE MUST MAKE A GUESS; BUT THE ES TIMATE MUST BE RELATED TO SOME EVIDENCE OF MATERIAL AND IT MUST BE SOMETHING MORE THAN MERE SUSPICION. THE ASSESSING OFFICER MUS T MAKE WHAT HE HONESTLY BELIEVES TO BE A FAIR ESTIMATE OF THE P ROPER FIGURE OF ASSESSMENT AND FOR THIS PURPOSE HE MUST TAKE INTO C ONSIDERATION SUCH MATERIALS AS THE ASSESSING OFFICER HAS BEFORE HIM, INCLUDING THE ASSESSEES CIRCUMSTANCES, KNOWLEDGE OF PREVIOUS RETURNS AND ALL OTHER MATTERS WHICH THE ASSESSING OFFICER THINK S WILL ASSIST HIM IN ARRIVING AT A FAIR AND PROPER ESTIMATE. 7. THEREFORE, IN THE INSTANT CASE, WHEN THE ASSESSE E DID NOT PRODUCE THE BOOKS OF ACCOUNTS, THE ASSESSING OFFICE R WAS NOT HELPLESS. THE ASSESSEE HAS BEEN FILING RETURNS EVER Y YEAR. IN FACT, HE HAS PRODUCED FIVE YEARS RETURNS. IT IS FROM THAT THEY TOOK THE TURNOVER BECAUSE THE TURNOVER OFFERED BY THE ASSESS EE FOR THE YEAR 2009-10 WAS COMPARABLE WITH THE PAST FIVE YEARS TUR NOVER AS REFLECTED IN THE RETURNS FILED. THEY ACTED ON THAT. HOWEVER, HE REFUSED TO ACT ON THE PROFITS SHOWN IN THE SAID RET URNS. NO REASONS ARE GIVEN FOR NOT RELYING ON THE SAID PROFITS AT TH E SAME TIME, HE HAS ALSO NOT TAKEN INTO CONSIDERATION THE COMPARABL E CASES IN SIMILAR BUSINESS TO COME TO THE CONCLUSION. WITHOUT ANY BASIS, THE ASSESSING AUTHORITY DETERMINED THE PROFIT AT 8%, TH E FIRST APPELLATE AUTHORITY REDUCED IT TO 3% AND THE TRIBUNAL HAS RED UCED IT TO 2.5%. IN COMING TO THE SAID FINDING, ALL THE THREE AUTHOR ITIES HAVE DECLINED TO TAKE NOTE OFF THE EVIDENCE BY WAY OF EA RLIER RETURNS. IN THAT VIEW OF THE MATTER, WHAT THE AUTHORITIES HAVE DONE IS A MERE GUESS WORK AND WITHOUT ANY BASIS. THAT IS NOT PERMI SSIBLE IN LAW AS HELD BY THE APEX COURT IN THE AFORESAID JUDGMENT . 8. IN THAT VIEW OF THE MATTER, THE IMPUGNED ORDERS ARE UNSUSTAINABLE. HENCE, THE ORDER PASSED BY THE TRIBU NAL IS HEREBY SET-ASIDE. MATTER IS REMITTED BACK TO THE TRIBUNAL FOR FRESH CONSIDERATION IN THE LIGHT OF THE OBSERVATIONS MADE ABOVE. IN THAT VIEW OF THE MATTER, THE SUBSTANTIAL QUESTION OF LAW IS ANSWERED IN FAVOUR OF THE ASSESSEE AND AGAINST THE REVENUE AND APPEAL IS PARTLY ALLOWED. ITA NOS. 875 & 741/BANG/2014 PAGE 16 OF 20 28. WHAT WE FIND FROM THE ABOVE JUDGMENT IS THAT I N THE SAID CASE, ASSESSMENT WAS COMPLETED U/S. 144 OF THE ACT ESTIMA TING THE INCOME OF ASSESSEE AT 8% AS DONE HERE. THE CONCERNED ASSESSE E HAD FAILED TO PRODUCE BOOKS OF ACCOUNT. THE CIT(A), ON ASSESSEE S APPEAL, HAD REDUCED THE NET PROFIT TO 3% OF THE TOTAL TURNOVER. THIS WAS REDUCED BY THE TRIBUNAL TO 2.5%. THEIR LORDSHIPS HAD HELD THAT SU CH ADHOC ESTIMATE WAS NOT WARRANTED, WHEN EVIDENCE IN THE NATURE OF EARLI ER RETURNS FILED BY THE ASSESSEE WAS AVAILABLE. HERE IN THE CASE BEFORE US ALSO, SCRUTINY ASSESSMENTS WERE DONE FOR AYS 2006-07 & 2007-08 AND THE NET PROFIT RATE ACCEPTED WERE MUCH LOWER THAN 8%. SUBMISSION IS TH AT SUCH RATES CAME TO 1.7% FOR AY 2007-08 AND 2.21% FOR AY 2006-07. W E, THEREFORE, SET ASIDE THE ORDERS OF AUTHORITIES BELOW IN SO FAR AS IT RELATES TO THE ESTIMATION OF PROFIT AND DIRECT THE AO TO TAKE THE AVERAGE OF NET PROFIT OF THE ABOVE TWO YEARS AND APPLY IT TO THE GROSS RECEIPTS OF THE ASS ESSEE AND DETERMINE ITS INCOME FROM BUSINESS FOR THE IMPUGNED ASSESSMENT YE AR. ORDERED ACCORDINGLY. GROUND NOS.6 TO 8 OF THE ASSESSEE ARE TREATED AS PARTLY ALLOWED. 29. NOW WE TAKE UP THE APPEAL OF THE REVENUE. REV ENUE IN ITS APPEAL IS AGGRIEVED THAT CIT(A) HAD DELETED THE ADDITION O F RS.1,14,31,582 MADE BY THE ASSESSEE U/S 41(1) OF THE ACT. 30. DURING THE COURSE OF ASSESSMENT PROCEEDINGS, IT WAS NOTED BY THE AO THAT ASSESSEE HAD SHOWN SUNDRY CREDITORS OF RS.2 1.62 CRORES ON ITA NOS. 875 & 741/BANG/2014 PAGE 17 OF 20 31.3.2007 AND RS.23.59 CRORES AS ON 31.3.2008. AS PER LD. AO, ASSESSEE COULD NOT FURNISH ANY EXPLANATION AS TO WHY THE OUT STANDING CREDITORS WHO WERE REMAINING SO FOR MORE THAN ONE YEAR SHOULD NOT BE ADDED U/S. 41(1) OF THE ACT. THOUGH ASSESSEE GAVE BREAK-UP OF SUNDR Y CREDITORS, LD. AO WAS OF THE OPINION THAT THERE WAS NO CHANGE IN THE OUTSTANDING AMOUNT BETWEEN 31.3.2007 AND 31.3.2008, INSOFAR AS CREDITS WHICH WERE MORE THAN ONE YEAR OLD WERE CONCERNED. AS PER LD. AO, SUCH C REDITORS HAD CEASED TO EXIST. HE HELD THAT SECTION 41(1) WAS ATTRACTED. AN ADDITION OF RS.1,14,31,582 WAS MADE. 31. IN ITS APPEAL BEFORE THE CIT(A), ARGUMENT OF T HE ASSESSEE WAS THAT MANY OF THE CREDITORS HAD TRANSACTIONS IN SUBSEQUEN T AND EARLIER YEAR WHICH WOULD SHOW THAT THERE WAS NO CESSATION OF LIA BILITY. AS PER ASSESSEE, THE BALANCES WERE GENUINE AND JUST BECAUSE THERE WE RE NO REPAYMENTS DURING THE RELEVANT PREVIOUS YEAR WOULD NOT MEAN TH AT THE LIABILITIES HAD CEASED TO EXIST. THE CIT(A) SOUGHT A REMAND REPORT FROM THE AO. IN SUCH REMAND REPORT, AO STATED THAT EXCEPT LEDGER EXTRACT OF THE CONCERNED CREDITORS APPEARING IN THE BOOKS OF ACCOUNT OF SUCH CREDITORS, ASSESSEE COULD NOT FURNISH ANY FURTHER EVIDENCE. 32. LD. CIT(A), AFTER GOING THROUGH ARGUMENTS OF AS SESSEE AND REMAND REPORT OF AO, WAS OF THE OPINION THAT CONDITIONS RE QUIRED TO ATTRACT SECTION 41(1) OF THE ACT WAS NOT SATISFIED. AS PER LD. CIT( A), LOAN HAD NOT CEASED TO EXIST JUST BECAUSE THE CLAIM BY THE CREDITORS WOULD BE BARRED BY LAW OF ITA NOS. 875 & 741/BANG/2014 PAGE 18 OF 20 LIMITATION. AS PER LD. CIT(A), UNLESS AO COULD SHO W THAT THERE WAS A REMISSION OR CESSATION OF TRADING LIABILITY, SECTIO N 41(1) COULD NOT BE APPLIED. HE DELETED THE ADDITION. 33. NOW BEFORE US, THE LD. DR STRONGLY ASSAILING TH E ORDER OF CIT(A) SUBMITTED THAT AO IN THE REMAND REPORT CLEARLY BROU GHT OUT THE FAILURE OF ASSESSEE TO PROVE THE CREDITS. ACCORDING TO HIM, I T WAS CLEARLY PROVED THAT CREDITS DID NOT EXIST. HENCE AS PER LD. DR, SECTIO N 41(1) WAS CORRECTLY APPLIED BY AO. 34. PER CONTRA , LD. AR SUBMITTED THAT LIABILITY REMAINED IN THE BOOKS AND HAD NOT CEASED TO EXIST. FURTHER, AS PER LD. AR, H ONBLE ALLAHABAD HIGH COURT IN THE CASE OF CIT V. MODERN RUBBER INDUSTRIES [2013] 37 TAXMANN.COM 394 (IT APPEAL NO. 431 OF 2009 DATED 7 TH NOVEMBER,2012) HAD HELD THAT ONCE PROFITS WERE ESTIMATED AND ASSES SMENT COMPLETED U/S. 144 OF THE ACT, THERE WAS NO QUESTION OF MAKING ANY ADDITION ON THE GROUND OF SUNDRY CREDITORS. 35. WE HAVE PERUSED THE ORDERS AND HEARD THE RIVAL CONTENTIONS. AO IN HIS REMAND REPORT HAS STATED THAT ASSESSEE WAS UNAB LE TO GIVE LEDGER EXTRACTS FROM THE BOOKS OF CREDITORS FOR PROVING TH E CREDIT. BUT THIS BY ITSELF WOULD NOT SHOW THAT LIABILITIES HAD CEASED TO EXIST ; WHEN THE LIABILITIES WERE APPEARING IN THE BOOKS OF ACCOUNT. AO HAD NOT ISSU ED ANY SUMMONS ON THE CREDITORS OR OBTAINED ANY STATEMENTS FROM THEM WHICH WOULD SHOW THAT LIABILITIES WERE NOT EXISTING AND HAD CEASED. IN A NY CASE, WE FIND THAT ITA NOS. 875 & 741/BANG/2014 PAGE 19 OF 20 ASSESSMENT WAS COMPLETED U/S. 144 OF THE ACT. WHEN AN ASSESSMENT IS COMPLETED U/S. 144 OF THE ACT BY APPLYING THE NET P ROFIT RATE ON THE TURNOVER, ADDITION U/S. 41(1) OF THE ACT, IN OUR OPINION, CAN NOT BE MADE. WHEN BOOKS OF ACCOUNT AS SUCH ARE REJECTED, THE QUESTION WHETH ER CREDITORS APPEAR IN SUCH BOOKS WERE THERE OR HAD CEASED TO EXIST, WOULD BECOME IRRELEVANT. WE ARE OF THE OPINION THAT LD. CIT(APPEALS) WAS JUS TIFIED IN DELETING SUCH ADDITION. 36. TO SUMMARISE, APPEAL OF ASSESSEE IS PARTLY ALLO WED, WHEREAS THAT OF REVENUE IS DISMISSED. PRONOUNCED IN THE OPEN COURT ON THIS 13 TH DAY OF APRIL, 2016. SD/- SD/- ( GEORGE GEORGE K. ) (ABRAHAM P. GEORGE ) JUDICIAL MEMBER ACCO UNTANT MEMBER BANGALORE, DATED, THE 13 TH APRIL, 2016. /D S/ ITA NOS. 875 & 741/BANG/2014 PAGE 20 OF 20 COPY TO: 1. REVENUE 2. ASSESSEE 3. CIT 4. CIT(A) 5. DR, ITAT, BANGALORE. 6. GUARD FILE BY ORDER ASSISTANT REGISTRAR, ITAT, BANGALORE.