Method of accounting can be changed if change is bona fide and permissible under law

Issue :- It was noticed by the assessing officer that the assessee Company has changed its accounting policy during the year under consideration and it was found that the Company has assessed loss of Rs.6,29,200/-. During the year under consideration as compared to last year profit of Rs.1,27,860/- and therefore, the assessing officer was ofthe opinion that the impact of change in system has resulted in reduction of revenue during the year. Assessing officer passed assessment order making addition of Rs.45,78,354/- into total income of the assessee by observing that the assessee has deviated from the accounting system and has shown less profit of Rs.45,78,354/-.

Held :- I agree with the arguments made by the Appellant that during the year under consideration the change in method of accounting was bona fide and with the compliance of the AccountingStandard – AS 9 – Revenue Recognition issued by the Institute of Chartered Accountants of India and provisions of S.5 of the Act. As per the provisions of the Act, the income is required to be accounted for or offered for taxation in the year in which it is accrued to the assessee and during the year under consideration, the Appellant has changed method of accounting to account for the income in the year in which the project is completed i.e. on the basis of accrual of income. This method of account is more accurate, scientific and as per the various statutory requirements and therefore in my opinion, the change in such method of accounting is bona fide and the same cannot be rejected and the same cannot be rejected on the ground that it has resulted into claiming more expenditure during the year under consideration. Therefore, I hold that the action of assessing officer in rejecting change in the method of accounting is incorrect and not sustainable and accordingly addition made by the assessing officer is hereby deleted.

HIGH COURT OF GUJARAT AT AHMEDABAD

TAX APPEAL NO. 902 of 2013

COMMISSIONER OF INCOME TAX II

Versus

MAPIN PUBLISHING PVT LTD.

CORAM: HONOURABLE MR.JUSTICE M.R. SHAH and

HONOURABLE MS JUSTICE SONIA GOKANI

Date : 22/10/2013

ORAL ORDER

(PER : HONOURABLE MR.JUSTICE M.R. SHAH)
Present Tax Appeal has been preferred by the appellant – revenue challenging the impugned Judgement and Order passed by the learned Income Tax Appellate Tribunal “C” Bench, Ahmedabad in ITA No.2873/Ahd/2011 dated 8/3/2013 with respect to AY 2006-07, by which the learned tribunal has dismissed the said appeal preferred by the revenue confirming the order passed by the CIT(A) in deleting expenditure of Rs.45,78,354/- after rejecting books of accounts.

Facts leading to the present Appeal, in nutshell, are as under :

The assessee Company filed its e-return of income on 27/12/2006 declaring total income of Rs.(-)6,65,163/-. The same was processed under section 143(1) of the Income Tax Act. The case was selected for scrutiny through CASS and notice under section 143(2) was issued and served on the assessee.

On verification of the return of the income and audited report, it was noticed by the assessing officer that the assessee Company has changed its accounting policy during the year under consideration and it was found that the Company has assessed loss of Rs.6,29,200/-. During the year under consideration as compared to last year profit of Rs.1,27,860/- and therefore, the assessing officer was of the opinion that the impact of change in system has resulted in reduction of revenue during the year and therefore, show cause notice was issued to the assessee Company directing to show cause as to why Rs.45,78,354/- should not be added to the total income of the assessee.

In response to the notice, the assessee submitted its reply submitting that the expenditures in question are accrued / incurred during the year in accordance with the accounting systemfollowing consistently, however, submitted that change in the amounting system is permissible under the law. It was submitted that under the old system the assessee Company was showing advance received from the sponsors as income irrespective of the project being completed or not. It was submitted that similarly expenditure incurred of referred project though not completed was also charged to profit and loss account. It was submitted that, however, during the year under consideration the said system is changed and advance and expenditure in respect of the project completed during the year only are charged in profit and loss account and advance/expenditure in respect of incomplete project are carried to the balance sheet.

That the assessing officer was not convinced with the explanation give by the assessee and the assessing officer passed assessment order making addition of Rs.45,78,354/- into total income of the assessee by observing that the assessee has deviated from the accounting system and has shown less profit of Rs.45,78,354/-.

Being aggrieved by and dissatisfied with the assessment order passed by the assessing officer dated. 29/12/2008, making addition of Rs.45,78,354/-, the assessee preferred appeal before the CIT(A) and the CIT(A) allowed the appeal preferred by the assessee deleting addition of Rs.45,78,354/- made by the assessing officer, by observing that the assessee has adopted accounting system which was permissible under the law and the assessee adopted / followed system of accounting bonafide.

Being aggrieved by and dissatisfied with the order passed by the CIT(A) deleting addition of Rs.45,78,354/- made by the assessing officer, the revenue preferred an appeal before the ITAT and the ITAT by the impugned judgement and order has dismissed the said appeal preferred by the revenue.

Being aggrieved by and dissatisfied with the impugned judgement and order passed by the ITAT, the revenue has preferred the present Tax Appeal.

Ms.Mona Bhatt, learned counsel appearing on behalf of the appellant – revenue has vehemently submitted that the tribunal has failed to appreciate the fact that due to change ofaccounting system during the year under consideration, the assessee adopted expenditure of Rs.45,78,354/- which was pertaining to the completed project of earlier years and because of the said treatment, there is a loss during the year under consideration, which has resulted into less showing of profit. It is submitted that in the present case, Chartered Accountant in his audit report has also noted that profit of the year has been affected by change of system of accounting from cash system to mercantile system in the year under consideration at least to the extent of Rs.8,29,296/-. It is submitted that therefore, the learned tribunal has materially erred in deleting addition Rs.45,78,354/- made by the assessing officer. It is further submitted by Ms.Bhatt, learned counsel appearing on behalf of the appellant – revenue that the learned tribunal has materially erred in holding that the revenue having not raised a ground on the rejection of books of accounts under section 145(3) of the Act before them, addition / disallowance made on such rejection of books of accounts cannot be sustained. By making above submissions, it is requested to admit / allow the present appeal.

Heard Ms.Bhatt, learned counsel appearing on behalf of the appellant – revenue and perused the assessment order as well as the order passed by the CIT(A) as well as the impugned order passed by the tribunal.

At the outset, it is required to be noted that the assessee changed the accounting systemand started following mercantile accounting system. Under the old accounting system, the assessee company was showing advance received from the sponsors as income irrespective of the project being completed or not. Similarly, expenditure incurred of deferred project though not completed, was also charged to profit and loss account. However, during the year under consideration, the assessee changed the said accounting system and advances and expenditure in respect of the project completed during the year only were charged to profit and loss account and the advance expenditure in respect of incomplete project were carried out to the balancesheet. Accordingly, expenses on incomplete project were shown as work-in-progress under inventories ….. Rs.13,05,200/- and advance received against the same shown as advance from sponsors under current liabilities …. Rs.21,34,496/- resulting into Rs.8,29,296 carried to the balancesheet. The assessing officer held that by adopting new accounting system, profit has been reduced to the extent of Rs.45,78,354 and directed to make addition of Rs.45,78,354/- into total income of the assessee. On appeal, the learned CIT(A) has deleted the said addition by observing in para 3.4 to 3.9 as under :-

I have considered the facts of the case, assessment order and the Appellant’s submission. The Appellant submitted that earlier the Appellant Company was following method of accounting whereby advances received from the sponsors were treated as income irrespective of the facts whether the project is completed or not and the expenditure incurred on the same project whether completed or not was accounted for as expenditure in the profit and loss account. However, during the year under consideration, the method of accounting was changed whereby the advances received and expenditure incurred in respect of the project completed during the year under consideration were accounted for in the profit & loss account and the advances received and expenditure incurred for incomplete projects was carried forward to the Balance Sheet under the head Advances and Work-in-progress respectively. The Appellant argued that the change in the method of accounting was bona fide and for the compliance of the statutory requirements of Accounting Standard – AS 9 – Revenue Recognition issued by the Institute of Chartered Accountants of India and as per the provisions of S.5 of the Income Tax Act. The Appellant further argued that the method of accounting adopted now during the year under consideration is more accurate, scientific and in compliance of various statutory requirements, and therefore, bona fide change of method of accounting cannot be rejected for the reason that it would result in bringing into account in one year the losses of several years.

The Appellant further argued that so far as the claim of expenditure is concerned, earlier also, the Appellant was claiming the expenditure when it is incurred and during the year also the same is claimed on its incurrence only. The only different is that earlier the expenditure was claimed irrespective of completion of the project whereas during the year under consideration, the expenditure has been claimed in the Profit and Loss account only on respect of completed project and the expenditure incurred in respect of unclaimed project has been carried forward to Balance Sheet under the head work-in-progress. Accordingly, the Appellant argued that claim of expenditure amounting to Rs.45,78,354/- is in any case not the impact of change in method of accounting and this expenditure has incurred during the under consideration only in respect of completed project and therefore the same is allowable to Appellant.

The Appellant also argued that change in accounting policy has an impact of Rs.8,29,296/- on the profit of the current year and not Rs.45,78,354/-. It was explained that expenses of Rs.13,05,200/- on incomplete projects was shown as Work-in-progress under inventories and advances receipt of Rs.21,34,496/- against the same were shown as Advances from customer under the head Current Liabilities, resulting into Net Rs.8,29,296/- carried to Balance Sheet. If the method of accounting was not changed than the sum of Rs.13,05,200/- could have been debited and Rs.21,34,496/- could have credited to the Profit & Loss account and the profit for the year would have been higher by a sum of Rs.8,29,296/-. In support thereof, the Appellant – also furnished certificate of Chartered Accountant M/s.Sorab S. Engineers, copy of which is enclosed herewith at paper book page no.70.

In view of the above discussion, I agree with the arguments made by the Appellant that during the year under consideration the change in method of accounting was bona fide and with the compliance of the Accounting Standard – AS 9 – Revenue Recognition issued by the Institute of Chartered Accountants of India and provisions of S.5 of the Act. As per the provisions of the Act, the income is required to be accounted for or offered for taxation in the year in which it is accrued to the assessee and during the year under consideration, the Appellant has changed method of accounting to account for the income in the year in which the project is completed i.e. on the basis of accrual of income. This method of account is more accurate, scientific and as per the various statutory requirements and therefore in my opinion, the change in such method of accounting is bona fide and the same cannot be rejected and the same cannot be rejected on the ground that it has resulted into claiming more expenditure during the year under consideration. Therefore, I hold that the action of assessing officer in rejecting change in the method of accounting is incorrect and not sustainable and accordingly addition made by the assessing officer is hereby deleted.

In any case, as submitted by the Appellant, I agree that claim of expenditure amounting to Rs.45,78,354/- is not the impact of change in method of accounting and the same has been incurred during the year under consideration and therefore, the same is legitimately allowable to the Appellant. I agree with the Appellant that in the earlier years, the expenditure incurred was debited to profit & loss account irrespective of the completion of the project whereas during the year under consideration expenditure incurred only in respect of completed project has been claimed. The difference is only of the stage of the completion of the project. I also find the expenditure in question is incurred during the year under consideration and that too for the project which are completed during the year. Therefore, whichever way, whether on the basis of incurring of the expenditure which was the old method of accounting followed by the appellant or project completion method which is the new method of accounting, this expenditure is allowable. Therefore, the expenditure amounting to Rs.45,78,354/-, is legitimately allowable to the Appellant.

Now, so far as the rejection of books of accounts is concerned, the Appellant vehemently argued that the assessing officer has not pin-pointed out any defects in the books of accounts of the Appellant or the assessing officer has not established that profit cannot be deduced because of method of accounting adopted by the appellant. The Appellant has further placed reliance on number of decisions. In this regard, I am of the opinion that the assessing officer has not pointed out any specific defect in the books of account nor has established that on account of method accounting adopted by the Appellant, profit cannot be deduced. Therefore, I hold that the action of assessing officer in rejecting books of accounts is not correct. Accordingly, I allow this ground of the appeal.”

On an appeal by the revenue, the ITAT has confirmed the aforesaid finding and has confirmed the order passed by the CIT(A) deleting addition of Rs.45,78,354/-. We are in complete agreement with the finding recorded by the CIT(A) confirmed by the tribunal. It is required to be noted that the new accounting system followed by the assessee is permissible under the law. It is not the case on behalf of the revenue that new accounting system adopted by the assessee during the year under consideration is not permissible. Under the circumstances, when the assessee changed the accounting system and started following the new accounting system which is permissible under the law, the assessing officer was not justified in rejecting the same and consequently making addition of Rs.45,78,354/- by disallowing expenditure claimed by the assessee. It is required to be noted that the learned CIT(A) as well as ITAT have found that the assessee has bonafide changed the accounting system and has started following the same, which is permissible under the law.

Under the circumstances, we see no reason to interfere with the impugned Judgement and Order passed by the ITAT. No question of law much less substantial question of law arise in the present Tax Appeal. Under the circumstances, present appeal deserves to be dismissed and is accordingly dismissed.