Income Tax Appellate Tribunal - Mumbai
Eve'S Apparel vs First Income-Tax Officer on 30 January, 1987
Equivalent citations: [1987]21ITD121(MUM)
ORDER
R.L. Sangani, Judicial Member
1. This appeal by the assesses relates to the assessment year 1977-78. The accounting year of the assessee ended on 31-12-1976. During the year, a fire broke out in the factory premises on 27-9-1976 causing loss to the assessee. The assets involved in fire had been insured. The assessee put claim of Rs. 3,59,500 before the insurance company.
The insurance company accepted the claim of Rs. 3,38,500. The particulars are as follows :
Items Claim made Claim settled
Rs. Rs.
Machinery and other fixed assets 1 ,42,900 1,42,900
Furniture and fittings 27,000 27,000
Stock 1,89,600 1,68,600
-------- --------
3,59,500 3,38,500
-------- --------
2. We are concerned with amount of compensation pertaining to machinery. The assessed credited Rs. 70,834 in the profit and loss account being an excess amount received from insurance company and offered for taxation. However, during the assessment proceeding, the stand taken by the assesses was that no part of the amount relating to machinery was assessable to tax because the machinery had been partially damaged and had not been destroyed with the result that provisions of Section 41(2) of the Income-tax Act, 1961 ('the Act') were not applicable. The ITO disbelieved the version of partial damage to the machinery. He found that the assessee had deducted written down value of machinery (Rs. 47,417.67) which had been burnt in fire from the opening balance to arrive at the machinery used for the purposes of depreciation which indicated that according to the assessee's books the machinery had been destroyed and not partially damaged.
3. The ITO further observed that according to the auditors the amount of Rs. 1,42,000 pertained to machinery (Rs. 1,18,291) as well as office equipment (Rs. 2,070), machinery parts (Rs. 21,288) and water cooler (Rs. 1,250). However, the report of fire brigade did not indicate office equipment. He calculated the profit under Section 41(2) as under :
Rs. Rs.
Claim received towards fixed assets : 1,42,900
Less : WDV of water cooler 1,250
WDV of machinery burnt 47,418
-------
48,668 48,668
-------
94,232
-------
Since the assessee had already disclosed in the profit and loss account Rs. 70,873 as profit from burnt machinery, the difference of Rs. 21,359 (Rs. 94,232-Rs. 70,873) was added and brought to tax under Section 41(2).
4. The assessee filed appeal and reiterated before the Commissioner (Appeals) the plea that machinery had been partially damaged and not destroyed and as such, provisions of Section 41(2) were not attracted with the result that nothing was taxable in respect of amount of compensation received in respect of machinery. It was submitted before the Commissioner (Appeals) that the machinery in question had been repaired by spending Rs. 15,657 in the calendar year 1979 and was used in the business, in that year.
5. The Commissioner (Appeals) examined the materials on record to ascertain whether the plea of the assessee was acceptable. He found that original cost was Rs. 93,149 and written down value was Rs. 47,418. He then considered the figure of compensation received by the assessee and observed that it was impossible that the insurance company would pay such high amount as has been paid if there had been only a partial damage of such nature as could be effectively repaired by spending a small amount of Rs. 15,657. The fact that a very high amount had been paid by insurance company indicated that the assessee represented to the insurance company that the machinery had been destroyed and not partially damaged. Thus, it was the assessee's own case at the relevant time that there was destruction and not partial damage and for that reason the assessee had written off the entire written down value of the machinery. He accordingly confirmed the conclusion of the ITO that this was a case of destruction as distinguished from partial damage and as such provisions of Section 41(2) were attracted. He then considered the alternate submission of the assessee to the effect that assessable profits under Section 41(2) would be confined to the difference between original cost and written down value and accepted the same. He directed the balance to be assessed as capital gains after verifying whether they were long-term capital gains or short-term capital gains. The assessee is now in further appeal before us.
6. Shri Dastur, the learned counsel for the assessee contended before us that provisions of Section 41(2) were not attracted at all because this was not a case where the machinery in question had been destroyed. According to him, this was a case where machinery in question had been partially damaged and the said machinery had been used again after repairs on which amount of Rs. 15,657 had been sent. He relied on decision in CIT v. Sirpur Paper Mills Ltd. [1978] 112 ITR 776 (SC.) and CIT v. Engineering Works of India (P.) Ltd. [1977] 108 ITR 11 (Cal.). On the other hand, submission on behalf of department was that this was a case where machinery had been destroyed and not partially damaged and as such those decisions would not be applicable.
7. We have considered these submissions. The decisions cited on behalf of the assessee lay down that Section 41(2) shall have no application where depreciable asset is merely damaged and by repairing the damage it is restored to working condition and that any compensation, etc., for damage caused to depreciable asset cannot be brought to tax under Section 41(2). Hence, the question of fact that requires decision is whether the machinery in question had been destroyed or had been merely partially damaged in the fire.
8. The most important circumstance is that the contemporaneous treatment given by the assessee to the item of machinery after the fire occurred. The first item in the schedule of fixed assets annexed to the balance sheet as at 31-3-1976 relates to plant and machinery. It is mentioned therein that opening balance as on 1-1-1976 in respect of plant and machinery was Rs. 2,84,655.34 and that addition made during the year was Rs. 48,636.22. Prom the total of these two sums is deducted Rs. 65,886 which is termed as sales/adjustment during the year. The balance comes to Rs. 2,67,404.64. On this amount, depreciation of Rs. 60,164.30 was calculated. After deduction of this depreciation amount, the next block is mentioned at Rs. 2,07,240.34. It is thus clear that plant and machinery worth Rs. 65,886.92 went out of the stock of plant and machinery during the year either 'by sale or other adjustment'. Eegarding this item of Rs. 65,886.92, it is specifically mentioned in the footnote that it includes Rs. 47,417.67 which represented value of plant and machinery 'burnt' in fire. These entries clearly indicate that plant and machinery worth Rs. 47,117.67 had been completely destroyed in the fire. The said machinery would not have been deleted from the stock of machineries unless the same had been destroyed. If the same had been partially damaged as was subsequently asserted, the same would not have been removed from the stock of machinery. It was contended that when the assessee mentioned in the said schedule that Rs. 65,886.92 included plant and machinery worth Rs. 47,417.67 'burnt' in fire, he could as well have meant that said machinery had been damaged in fire. We are unable to agree. As already stated, the said machinery has been removed from the stock itself which is indicative of the fact that the same had been destroyed and not merely damaged. Damaged machinery would not go out of the stock. It is the destroyed machinery which would be deleted from the stock by adjustment entry. This view is confirmed by other entries in the same schedule. There are three more items in the column entitled 'Sales/Adjustments during the year'. The other three are :
Rs.
Furniture and fixture 27,000 Office equipment 2,070 Air cooler 1,250
Admittedly these items represent items treated as destroyed. For thease items also the word used is "burnt'. It is thus clear that contemporaneous entries in the accounts indicate complete destruction of machinery in question and not partial damage.
9. Another circumstance is the large amount received by the assessee as compensation. As observed by the Commissioner (Appeals) it is improbable that such a large amount (Rs. 1,18,291) would have been paid by the insurance company as compensation for machinery whose written down value was Rs. 47,417.67 and whose original cost is said to be Rs. 93,149 if the said machinery had not been claimed as destroyed and if the claim had been that there was partial damage to only such extent that by spending a small sum of Rs. 15,657 they could be put to working condition. The assessee has not produce the report of surveyors of insurance company. That was a material document. The Comissioner (Appeals) has specifically referred to this significant commission. We also asked the assessee's learned counsel during the course of arguments about this and it was stated that it was not possible for the assessee to produce the same. It is not shown to us by production of insurance policy that the terms thereof would have entitled the assessee to claim Rs. 1,18,291 in respect of plant and machinery which could be put in working condition by spending a small sum of Rs. 15,657. These surrounding circumstances indicate that this was a case of destruction in fire and not of partial damage.
10. The learned counsel for the assessee has produced before us copy of assessment order for the assessment year 1980-81 This assessment order was not before the Commissioner (Appeals). Perhaps this assessment order was passed subsequent to decision of the impugned order of the Commissioner (Appeals). No date is mentioned in the assessment order. We proceed to consider the same. From the assessment order, it appears that in the calendar year 1979 (assessment year 1980-81) the assesssee made reverse entries about plant and machinery in question whose written down value in calendar year 1976 was Rs. 47,417.67. What the assessee did in calendar year 1979 was that it debited Rs. 47,417.67 to plant and machinery account and credited to general reserve account. By this method, machinery worth Rs. 47,417.67 was treated as machinery installed in this year and since no cash had been paid in this year and since this item had been written off in calendar year 1976, credit was taken in general reserve. The ITO allowed depreciation on the entire value of plant and machinery which had been claimed as added during the year (Rs. 3,18,582) which included Rs. 47,417.67 about which debit was made in plant and machinery account and credit was made to general reserve account. It is submitted that since the ITO has allowed depreciation on Rs. 47,417.67 introduced in above manner, we should hold that the machinery in question was brought to use in 1979 after spending Rs. 15,657 on repairs. We are unable to accept this submission. Normally a reserve is created out of accumulated profits. In the present case, the assessee created reserve by debiting machinery account and showed that machinery worth Rs. 47,417.67 was used in this year. We asked the learned counsel for the assessee as to why the assessee could have kept the machinery idle in the accounting years 1977 and 1978 if the machines could have been put in working condition by spending merely Rs. 15,657 particularly when the assessee had already received over Rs. 1 lakh as compensation from the insurance company. There was no satisfactory explanation. The conduct of keeping machinery idle for two years in these circumstances would have been wholly unnatural when the assessee was in the process of carrying out a lucrative business. Mere fact that the ITO did not inquire about this item while completing assessment for the assessment year 1980-81 would not entitle the assessee to claim that his version of partial damage as distinguished from destruction should be accepted.
11. The Commissioner (Appeals) has examined the details of expenditure of Rs. 15,657 and found that alleged repairs were of ordinary nature and machinery which required such ordinary repairs could not have brought about acceptance of claim of over Rs. 1 lakh as compensation. We have also examined those details and we agree with the said conclusion.
12. It was argued that the assessee received a very large amount as compensation because compensation was payable on reinstatement basis. As already stated, no material was produced to explain the basis of compensation. The survey report of insurance company was not produced. If the amount has been paid as reinstatement value of the entire machinery, it would follow that the machinery had been destroyed.
13. For the reasons given, we hold that out of difference between compensation amount and written down value, the amount representing difference between original cost and written down value was includible as balancing charge under Section 41(2) and the remaining amount was includible as capital gains under Section 45 of the Act. Regarding capital gains the Commissioner (Appeals) has directed the ITO to verify whether they were long-term or short-term capital gains and then make assessment in accordance with law. We confirm the directions of the Commissioner (Appeals).
14. The amount of Rs. 1,42,000 received by the assessee is said to consist of the following:
Rs.
Machinery and plant 1,18,291
Machinery parts 21,285
Office equipment 2,070
Water cooler 1,250
--------
1,42,000
--------
Regarding item of Rs. 21,285, the learned counsel for the assessee stated that the assessee admitted that Rs. 21,285 was chargeable but, according to him, separate addition was not justified because the assessee had already accounted for it. We direct the ITO to consider the said submission of the assessee and after verification pass necessary order regarding the same.
15. Subject to this, the appeal is dismissed.