Calcutta High Court
Commissioner Of Income-Tax vs Simplex Concrete Piles (India) Pvt. ... on 5 December, 1988
Equivalent citations: [1989]179ITR8(CAL)
JUDGMENT Ajit K. Sengupta, J.
1. At the instance of the Commissioner of Income-tax, West Bengal-IV, the following question of law has been referred to this court under Section 256(2) of the Income-tax Act, 1961 :
"Whether, on the facts and in the circumstances of the case and in view of the fact that the assessee follows the mercantile system of accounting, the Tribunal was right in holding that the retention money in respect of the jobs completed by the assessee during the relevant previous year should not be taken into account in computing the profits and gains of the assessee's business for the assessment year 1.965-66 ?"
2. The facts, shortly stated, are that the assessee is a private limited company carrying on business of concrete piling for buildings. Up to and including the assessment year 1964-65, the assessee-company was crediting 100 per cent. of the job value but, from the assessment year 1965-66, it started the practice of crediting only 90 per cent., deducting the retention money, which resulted in the reduction of income. The Income-tax Officer treated it as a change in the method of accounting. He did not accept the change. This resulted in the addition of Rs. 20,77,161 for the assessment year 1965-66 and Rs. 14,43,479 for the assessment year 1966-67.
3. The assessee-company filed appeals before the Appellate Assistant Commissioner. In the appeal against the assessment for the year 1965-66, the Appellate Assistant Commissioner examined the matter in great detail, both with reference to the law on the subject and the terms of the contract, and held that the retention money did not arise or accrue in the years in which the job was executed but at a later date depending on the completion of the contract and the certificate of the architect/engineer that the work had been satisfactorily completed. Therefore, he allowed the appeal of the assessee-company. Following that order, the appeal for the assessment year 1966-67 was also allowed.
4. The Department challenged both these orders before the Tribunal. It was argued on behalf of the Revenue that the retention money could not be excluded because the work was done in the previous accounting years and the right to receive the payment had also accrued in those years. As against this, the argument on behalf of the assessee-company is that the right to receive payment had not accrued or arisen in the relevant years but was contingent, as per the terms of the contract.
5. The Tribunal considered the question as to when the right to receive payment of 10 per cent. retention money has accrued or arisen. After referring to the Supreme Court decision in CIT v. A. Gajapathy Naidu [1964] 53 ITR 114, the Tribunal examined the terms of the contract entered into by the assessee with various parties. The Tribunal directed the Income-tax Officer to examine the question of retention money in the light of the observations made by the Tribunal and make adjustments regarding the same, if necessary, in the assessment order.
6. Hence, this reference.
7. At the hearing, Mr. Bhattacharyya, the learned advocate appearing for the Revenue, has contended that the assessee has changed its method of accounting as would be apparent from the assessment order where the auditor's note has been reproduced.
"As explained in Note 3 on contract profit and loss account, there has been a change in the basis of accounting. As a result of this change, Rs. 21,00,000 approximately representing retention money becoming due after December 31, 1964, has not been taken in these accounts".
8. He, therefore, submits that the right to receive the retention money had also accrued to the assessee and, accordingly, this amount was rightly included in the assessment order by the Income-tax Officer.
9. Reliance was placed on a decision of the Supreme Court in Seth Pushalal Mansinghka (P.) Ltd, v. CIT [1967] 66 ITR 159. There, the Supreme Court observed that the words "accrue" and "arise" do not mean actual receipt of the profits or gains. Both these words are used in contradistinction to the word "receive" and indicate a right to receive. If the assessee acquires a right to receive the income, the income can be said to accrue to him, though it may be received later, on its being ascertained. The question, therefore, in this case is whether the assessee had the right to receive the retention money.
10. It is, therefore, necessary for us to refer to the order of the Tribunal. It may be mentioned that the finding of the Tribunal has not been challenged before us. The Tribunal examined the contracts entered into by the assessee with several parties. The Tribunal observed that a number of contracts, were produced before the Tribunal and although the wording in all of them is somewhat different, the net effect is the same in all cases. The Tribunal held as follows :
"Taking first of all the contract with the Calcutta Electric Supply Corporation Ltd., it provides that 90 per cent. payment shall be made from time to time against the value of permanent work completed. A further five per cent. shall be paid on issue of the purchaser's certificate of taking over referred to in Clause 29, i.e., taking over of the contract work on substantial completion thereof. The work is not to be finally accepted until the expiry of a period of 12 months from the date of taking over under Clause 29. During the period, the contractor shall be liable for replacement of any defective parts that may have developed in the work. The contractor shall also bear reasonable cost of minor repairs in this period. The date of final acceptance of the work by the purchaser for payment of the remaining 5 per cent. shall be determined'by the purchaser and certified by him to the contract in writing, Taking the second instance of a contract with the Birla Brothers, it provided that finally a retention of 10 per cent will be withheld by the employers which will be refunded after the expiry of six months after final and satisfactory completion of the work and architect's certification of satisfaction.
In the third contract with the Indian Oil Corporation Ltd., only a sum of 5 per cent. was provided as retention money to be paid after satisfactory completion of the work and hydraulic testing of the tanks or a further period of one year, whichever is earlier.
We need not refer to the terms of the other contracts, because the pattern of retention money is the "same in almost all cases, i.e., while 90 per cent. of the job value is to be paid immediately, 5 per-cent. is to be paid after satisfactory completion of the work and the remaining 5 per cent. after one year or so, and in some cases 10 per cent. is withheld as in Birla Bros, contract depending on the assessee-company removing all defects at its own cost or payment of damages for any defects and thereafter on the architect giving a certificate of satisfactory completion. Now, suppose there is a contract which has to last for two years. Under the terms of this contract, the assessee-company would be entitled to receive only 90 per cent. payment immediately, i.e., the right to receive 90% payment would arise or accrue immediately on completion of the work, but could it be said that the right to receive the remaining payment of 10 per cent. would also arise or accrue immediately on the work being done ? In our opinion, it could not, for, the right to receive 5 per cent. out of it would arise or accrue not earlier than the date of completion of the entire work, which, as in a hypothetical case stated above, would be two years. The delay in receiving 5 per cent. payment in respect of work done in the first month of the contract would be two years or twenty-three months, i.e., till the completion of work as per the contract, though the gap would be longer if completion of the work is delayed for any reason. The remaining 5 per cent would be payable not less than one year thereafter depending on the satisfaction of the architect and the damages paid by the assessee-company for any defect noticed. Thus, the right to receive 90 per cent. payment alone would arise or accrue on completion of part of job while the right to receive 5 per cent. would be deferred by about two years and for remaining 5 per cent. by about three years. It cannot, therefore, be said that the right to receive payment of the remaining 10 per cent. of the value of job done accrues as soon as it is completed. The payment of 10 per cent is deferred in two stages in some cases and in one stage in some others but the payment is deferred and is contingent on completion of the work, its satisfactory completion, the architect's certificate, removal of defects and payment of damages, if any, and a passage of six months or one year thereafter.
Certainly, therefore, there is no warrant for the Income-tax Officer's order that the entire payment becomes due immediately, but 5 or 10 per cent. is withheld as a security. The assessee follows the mercantile system of accounting and, therefore, it must credit the accounts as and when the right to receive a sum accrues and that would be only in respect of 90 per cent. in the first instance when the job is done and the remaining only when it becomes due as per the terms of the contract. It is not clear from the orders of the authorities below as to whether they have examined the question of the remaining 10 per cent. from the angle as to when 5 per cent. becomes due as in the Calcutta Electric Supply Corporation case and some other cases like Indian Oil Corporation Ltd., Orient Paper Mills Ltd., etc. In these cases, as per the contract, the right to payment of 5 per cent. accrues on completion of work and only the remaining 5 per cent. is deferred for a further period. We, therefore, direct that the Income-tax Officer shall examine the question of retention money from this angle and make adjustments regarding the same, if necessary, in the assessment order in the light of our above observations. On merits, we uphold the order of the Appellate Assistant Commissioner."
11. On these facts, we have to consider whether the right to receive the retention money accrued to the assessee on the submission of bills. In CIT v. A. Gajapathy Naidu [1964] 53 ITR 114, the Supreme Court had occasion to examine the question and laid down that when the Income-tax Officer proceeds to include a particular income in the assessment, he should ask himself, inter alia, two questions, viz., (i) what is the system of accountancy adopted by the assessee, and (ii) if it is the mercantile system of accountancy, when has the right to receive that amount accrued. From the facts, as we have already set out hereinbefore, we do not find any reason to hold that the entire amount became due immediately upon the submission of bills but that 5 or 10 per cent. of the bills, as the case may be, was withheld as security. The assessee follows the mercantile system of accounting and, therefore, it must credit its accounts as and when the right to receive any sum accrues. There cannot be any dispute that only in respect of 90 per cent. of the bills, in the first instance, when the job is done accrues to the assessee and the remaining 10 or 5 per cent. becomes due in accordance with the terms of the respective contract. In some cases, as per the contract, the right to receive payment of 5 per cent. accrues on completion of work and only the remaining 5 per cent. is deferred for a further period.
12. The payment of retention money is deferred and is contingent on the satisfactory completion of the work and removal of defects and payment of damages, if any. Till then, there is no admission of liability and no right to receive any part of the retention money accrues to the assessee. Accordingly, the Tribunal was right in directing the Income-tax Officer to examine the question of retention money from this angle and make adjustments regarding the same, if necessary.
13. Dr. Pal, the learned advocate appearing for the assessee, has relied on a decision of the Patna High Court in the case of CIT v. Chanchani Bros. (Contractors) Pvt. Ltd. [1986] 161 ITR 418. In that case, the assessee-company did contract work for the Irrigation Department of the Bihar Government. For the assessment year 1970-71, the Income-tax Officer found that the assessee had not included a sum of Rs. 1,64,428 in the bills shown as receivable. It was explained that this amount had been withheld by the Irrigation Department pending verification of the satisfactory conclusion of the work to which the payment related. The Appellate Assistant Commissioner held that only the sum of Rs. 80,535 had been admitted by the Irrigation Department in the subsequent years and so only the addition to this extent out of Rs. 1,64,428 could be sustained. The Tribunal upheld the order of the Appellate Assistant Commissioner. On a reference, the Patna High Court held that in respect of the amount of Rs. 1,64,428, the assessee had asserted that these amounts were withheld by the Irrigation Department pending verification of the satisfactory conclusion of the work pertaining to these amounts, and this position had been accepted by the Income-tax Officer. The assessee had no right to claim this amount and this amount was not assessable in the assessment year 1970-71. The Patna High Court relied on the decision of the Kerala High Court in Janatha Contract Co. v. CIT [1976] 105 ITR 627,
14. Before the Kerala High Court, the assessee was a firm ,of contractors which carried out certain works on contract for the State. Clause 9 of the contract provided : "To allow of a guarantee fund being formed on the part of the Government a deduction of 10 per cent. from all payments to contractors is to be made by the executive engineer at the time of payments. But the amount so held as retention plus the security deposit of 4 per cent. as per Clause (1) shall not at any time exceed 8 per cent. of the contract amount. This retention amount will not be released before the expiry of three months (6 months in the case of road works) after the issue of certificate or otherwise on completion of work or the final bill has been prepared and passed, whichever is later," Under the provisions of this clause, a sum of Rs. 1,14,071 had been retained by the Government, The Appellate Tribunal included this in the total assessable income of the assessee. In those circumstances, it was held by the Kerala High Court that if the money had become due during the accounting period, it would be income which would have to be taken into account in determining the total income of the assessee and that the question whether the money had become due or whether income had accrued would depend upon the terms of the contract and that by reading clause 9 of the contract alone, it was not possible finally to conclude that the money had become due. On the other hand, the provision therein that "this retention amount will not be released before the expiry of 3 months (6 months in the case of road works) after the issue of certificate or otherwise of completion of work or the final bill has been prepared and passed, whichever is later" seemed to indicate that the money retained had not become due and that when there is a stipulation postponing the time for payment of the whole or part of the balance until after the expiration of a period during which the contractor is liable for defects or for repairs, payment would not have become due to that contractor. The High Court also held that the explanation given by the executive engineer in this case indicated that at least part of the money retained was of that kind.
15. The facts in the instant case are more or less similar. Having regard to the facts and circumstances of the case, we are of the view that on the terms and conditions of the contract as examined by the Tribunal, it cannot be held that either 10 per cent. or 5 per cent. as the case may be, being the retention money, became legally due to the assessee on the completion of the work. Only after the assessee fulfils the obligation under the contract, that the retention money would be released and the assessee would acquire the right to receive such retention money. Therefore, on the date when the bills were submitted, having regard to the nature of the contract, no enforceable liability has accrued or arisen and, accordingly, it cannot be said that the-assessee had any right to receive the entire amount on the completion of the work or on the submission of bills. The assessee had no right to claim any part of the retention money till the verification of satisfactory execution of the contract.
16. For the reasons aforesaid, we answer this question in this reference in the affirmative and in favour of the assessee.
17. There will be no order as to costs.
J. N. Hore, J.
18. I agree.