Income Tax Appellate Tribunal - Allahabad
Jewellers Co. vs Income-Tax Officer on 19 May, 1987
Equivalent citations: [1987]23ITD532(ALL)
ORDER
R.N. Puri, Accountant Member
1. The appeal, filed by the assessee, is directed against the order dated 30-3-1985 of the Commissioner (CIT) passed under Section 263 of the Income-tax Act, 1961 in respect of the assessment year 1980-81.
2. The assessee is a registered firm. Proceedings relate to the assessment of the assessee for the assessment year 1980-81. The business of the assessee-firm is that of Sarrafa. The accounting year relevant to this assessment year had ended on 31-3-1980. The assessee had shown gold jewellery as under :
Gold Jewellery Account (1-4-1979 to 31-3-1980) Dr. Cr.
Rs. Rs.
To opening stock gold By sales
(4217 grams) ... 1,89,181 (5617 grams) ...6,93,879
To purchase By closing stock
(4770 grams) ... 5,82,583 of gold
________ (4369 grams) ...2,02,914
_________
8,96,793 8,96,793
The assessee had 4369 grams of gold jewellery in the closing stock. Out of this, 4217 grams of gold jewellery were valued for Rs. 1,89,181, which was the value of the opening stock. In other words, out of the total closing stock of 4369 grams of jewellery, jewellery weighing 4217 grams was valued @ Rs. 44.86 per gram. The balance jewellery weighing 152 grams was valued for Rs. 13,733 which was at the average rate of purchase of gold during the year. The average rate of purchase of gold during the year was Rs. 100.96 per gram. What we have to decide in this appeal is whether the assessee was justified to value the major portion of its closing stock, not at the average rate of purchase during the year, but at the rate of Rs. 44.86 per gram on the basis of the cost of the opening stock. The underlying assumption, which has been made by the assessee is that the gold jewellery, which was there in the opening stock, was not sold during the year. It was assumed that the jewellery, which was sold during the year, had come out of the purchases of the year. What is to be decided here is whether such a theoretical assumption was justified. The ITO had accepted the assessee's method of the valuation of closing stock. He had framed the assessment accordingly. Subsequently, the CIT held that the assessment framed by the ITO was erroneous and prejudicial to Revenue since the closing stock had been undervalued. According to the CIT, the ITO was in error to accept the contention of the assessee that the opening stock was still intact at the end of the year. The CIT hence set aside the assessment by his order under Section 263. He directed the ITO to make the assessment afresh after taking the value of the closing stock on the average rate of purchase for the year. As has been pointed out above, the average purchase rate of gold during the year was of Rs. 100.96 per gram, whereas the ITO had accepted the valuation of the major portion of the closing stock @ Rs. 44.86 per gram. The assessee has felt aggrieved by this order of the CIT under Section 263 and has come up in appeal before us.
3. It was stated by the assessee that it had maintained the details of stock in terms of weight only and not in terms of pieces and items of jewellery. It was stated by the assessee that it was not possible for it to say as to which items of jewellery were there in the opening stock and as to which items were purchased during the year. It was stated that hence it was not possible for the assessee to say as to whether the items sold during the year were items of opening stock or were the items that had been purchased during the year. It was stated that the assessee then in absence of the details, which could tell as to whether the items left in the closing stock were out of the ones which had been there in the opening stock, or were out of the ones which had been purchased during the year, it was assumed that the jewellery, which was purchased last, was the first to be sold and on this basis what was left was out of the earlier purchase. This is LIFO-last in first out-assumption. It was pointed out that this was a recognised method of valuation of stock and no objection could be had to it. It was further stated by the assessee that he was at liberty to choose the manner and method of maintaining its accounts and the only requirement of law was that the method adopted by it should be followed consistently. It was thus argued that since this mathod of valuation of stock had been followed by it consistently, over the years, the CIT was not justified to raise any objection to this method of the valuation of stock.
4. The CIT had, on the other hand, held that the ITO by accepting the method of valuation of stock, as shown by the assessee, had made an assessment which was erroneous. According to the CIT, the entire closing stock was required to be valued at the average rate of purchase of gold during the years. The CIT was of the view that it would be erroneous to assume that the opening stock was still intact at the end of the year.
5. It was argued by the Departmental Representative that it had been held by the courts that it was not justified to value the closing stock on the basis of LIFO assumption. It was hence argued by him that the order under Section 263 of the CIT should be upheld.
6. Hence the question in the main, which we have to decide, is whether the assessee was justified to value its closing stock on LIFO assumption. We have considered the matter carefully. It is true that the choice of the method of accounting lies with the assessee. The Department is bound by the assessee's choice of a method regularly employed by him unless by that method the true income, profits and gains cannot be arrived at. If the true income, profits and gains cannot be ascertained on the basis of the assessee's method, it would be the duty of the ITO to discard the method and to adopt a method of his own. The assessee's method of accounting precludes the ITO from computing the profits under the proviso to Sub-section (1) of Section 145 only if the method is such that the true profits can be correctly determined by it. The Supreme Court in the case of CIT v. A. Krishnaswami Mudaliar [1964] 53 ITR 122 observed as under :
The expression 'in the opinion of the Income-tax Officer', in the proviso to Section 13 of the Indian Income-tax Act, 1922, does not confer a mere discretionary power; in the context it imposes a statutory duty on the Income-tax Officer to examine in every case the method of accounting employed by the assessee and to see whether or not it has been regularly employed and to determine whether the income, profits and gains of the assessee could properly be deduced therefrom.
We may also draw attention to the following observation of the Supreme Court in the case of S.N. Namasivayam Chettiar v. CIT [1960] 38 ITR 579 :-
The power to compute profits under the proviso to Section 13 arises only where no method of accounting has been regularly employed by the assessee and where the method employed is such that the income, profits and gains cannot properly be deduced therefrom. It means that the method adopted by the assessee must prima facie prevail where it is regularly employed, though the Income-tax Officer can resort to the proviso if the method is such that the true profits cannot be correctly determined therefrom. In other words, even if the assessee has regularly employed a method of accounting it can be discarded under the proviso if the method does not show the correct profits of the year.
7. The question hence arising for consideration is whether the LIFO method of valuation of closing stock can be said to help in the determination of the true profits for the year of the assessee. In case this method is not likely to give the true profits, then the ITO has to reject this method and to proceed to determine the income on different basis.
8. LIFO method may be an acceptable method of accountancy but what we have to consider is whether it conforms to the prescription of the Income-tax Act. Under the Income-tax Act, we have to determine the profits for the year on which tax is to be charged. Lord Herschell said in Russell (Surveyor of Taxes) v. Town & Country Bank [1888] 4 TLR 500 as under :-
The profit of trade or business is the surplus by which the receipts from the trade or business exceed the expenditure necessary for the purpose of earning those receipts.
Hence, the question is to determine the expenditure on gold which could be properly charged against the receipts of the year. In the opening stock, there were 4217 grams of gold valued at Rs. 1,89,181. During the year, purchases of gold weighing 5770 grams were made for Rs. 5,82,583. 4369 grams of gold were left in the closing stock. The gold sold during the year was 5617 grams. The assessee says that from its books, it could not be said as to how much of gold sold during the year came out of the opening stock and as to how much came out of the purchases made during the year. The assessee has, hence, for the determination of its profits for the year, proceeded on the basis that the gold that was sold had come out of the purchases of the year. According to the assessee, the opening stock was not utilised and this was still intact at the end of the year. On this basis, the value of the closing stock was taken by the assessee at Rs. 2,02,914. In this manner, what the assessee charged against the receipts was the stock of the gold jewellery purchased during the year. The cost of purchase during the year was much higher than the cost of the gold of the opening stock. The average purchase rate during the year was Rs. 100.98 per gram whereas the cost per gram of gold of opening stock was only Rs. 44.86. It is obvious that if it was to be assumed that the gold of the opening stock had been sold during the year, then the expenditure to be charged would have been much less. The question which is to be examined is whether the assessee was justified to make the assumption that the sales of gold jewellery were out of the purchases of the year and that the opening stock was still left intact at the end of the year. If this LIPO assumption, which has been made by the assessee, is to be accepted, then, even after 30 years, it would be open to the assessee to say that this stock is still intact.'To us it appears that this will be a travesty of truth. According to us, this LIFO assumption is not justified. Normally, one will not make fresh purchases, unless the existing inventory is about to be exhausted. To make purchases, funds are needed and funds will become available on the sale of stock at hand.Hence, if an assumption need be made, it should be that the stock, which was already at hand, was sold before the new purchases were made. Therefore, the assumption should rather be that whatever is left in stock at the end of the year has come out of the purchases of the year and what was sold during the year had come out of the opening stock. It is the FIFO-first in first out-assumption which is more likely to give a true picture of the profit earned by the assessee during the year. The consideration is not whether the assessee has been consistenly following any particular method of valuation of stock, the consideration is as to which assumption, the LIFO assumption or the FIFO assumption, is likely to give a true picture of the profit earned by the assessee for the year.
9. In absence of records to indicate as to whether the sales were out of the jewellery of the opening stock or out of the purchases made during the year, an estimate of the cost of gold, which may be charged as an expense in arriving at the profits for tax purposes, has got to be made. The question is whether these expenses should be determined on the basis of LIFO assumption, as made by the assessee, or FIFO assumption. We are of the view that FIFO assumption approximates more closely to the reality. The CIT has pointed out a very pertinent fact. The accounting year of the assessee started on 1-4-1979. The opening stock of gold was of 4217 grams. Within the first few days, certain sales had been made and the stock of gold was reduced to 4170 grams, as on 3-4-1979. There were no purchases till then. It is thus obvious that it would be erroneous to assume that the entire gold of the opening stock was still intact at the end of the year. If we persist with this LIFO assumption, then, as rightly pointed out by the CIT, fiction will take the place of reality. When profit and gains of the business cannot be determined with certainty, an estimate has got to be made. But the method of estimate should be such which brings us closer to and it does not remove us away from the truth. We cannot Relieve that the assessee could not maintain details of the jewellery in a manner which could indicate whether it was the jewellery of the opening stock which had been sold or whether it was the jewellery purchased during the year which had been sold. It appears that the assessee deliberately avoided maintenance of such details, only in order to put forward the plea that the closing stock be valued on the basis of LIFO method. Hence, it appears that the assessee is only interested in making it a device to suppress its true profits for the year on which it should pay tax. The theoretical LIFO assumption, as made by the assessee, will not give the true profits of the year. The assessee has the choice of the method of accounting. But if by that method true income cannot be arrived at, then it would be the duty of the ITO to discard that method and to adopt a method of his own which will help in the determination of true profits. Hence, we do not see any force in the contention of the assessee that there was no error in the order of assessment as made by the ITO which could confer jurisdiction on the CIT under Section 263. The order of the ITO was erroneous and prejudicial to Revenue. We will draw attention to what has been stated in Kanga and Palkhivala's 'The Law and Practice of Income-tax', Seventh Edition, Volume 1. It has been stated as under at page 879 :-
Even if the method of valuation adopted by the assessee is a well-recognized method of accounting for the corporate purposes of a trading company-e.g., the LIFO or last-in-first-out method or the 'base stock system',-it could still be rejected by the ITO if it does not afford a true picture of the profits in any one year of charge.
10. The Departmental Representative had also contended that the past records of assessment revealed that the assessee had been valuing its stock in an arbitrary manner. It was pointed out by the Departmental Representative that the claim of the assessee that it had been valuing its stock on the basis of LIFO assumption was not correct. Since we have already held that the order of the ITO made on the basis of valuation of stock, as shown by the assessee, was erroneous and, as such, CIT was justified to revise that order under Section 263, we do not consider it necessary to go into this question whether the assessee had claimed rightly that it had been consistently valuing its stock in the past on LIFO assumption.
11. The assessee has raised another objection to the order passed by the CIT under Section 263. It was contended by the authorised representative of the assessee that since the ITO had passed the order of assessment in consequence of a direction given by the IAC under Section 144A of the Income-tax Act, the CIT had no power to cancel such an order under Section 263. It was stated that the language of Section 263 only speaks of. the revision of the order of the ITO. The ITO had referred the matter of valuation of the closing stock to the IAC for his direction under Section 144. The IAC had given a direction on the matter of the valuation of the closing stock under Section 144A. The assessment was completed by the ITO on the basis of this direction.
12. We see no force in the contention of the assessee that the CIT did not have the power to revise the impugned order. The CIT had passed the order under Section 263 on 3Q-3-1985. The following Explanation to Section 263 was introduced by the Taxation Laws (Amendment) Act, 1984 with effect from 1-10-1984 :-
Explanation : For the removal of doubts, it is hereby declared that, for the purposes of this Sub-section, an order passed by the Income-tax Officer shall include-
(a) an order of assessment made on the basis of directions issued by the Inspecting Assistant Commissioner under Section 144A or Section 144B ; and
(b) an order made by the Inspecting Assistant Commissioner in exercise of the powers or in performance of the functions of an Income-tax Officer conferred on, or assigned to, him under Clause (a) of Sub-section (1) of Section 125 or under Sub-section (1) of Section 125A.
As per this Explanation, it becomes quite clear that the CIT had the power to revise the impugned order. The CIT had passed order under Section 263 on 30-3-1985 which was after the Explanation had been inserted. Hence, we reject this contention of the assessee that the CIT did not have the power to pass an order under Section 263. We hence uphold the order of the CIT passed under Section 263.
13. The appeal of the assessee is dismissed.