2012 (4) TMI 652 - AT - Income Tax

Tribunal deletes work-in-progress addition for appellant citing consistent valuation method

The Tribunal allowed the appeal of the assessee and directed the Assessing Officer to delete the addition on account of work-in-progress for the ... - ISSUES PRESENTED AND CONSIDERED 1. Whether an assessing officer may estimate and add value for work-in-progress (WIP) in the case of an assessee carrying out dyeing/printing of cloth on job-work basis where the assessee consistently does not recognise WIP and values closing stocks of consumables only. 2. Whether Accounting Standard(s) and accepted accounting principles preclude recognition of WIP by a job-worker who does not own the principal goods and where revenue is recognised on completion of the job. ISSUE-WISE DETAILED ANALYSIS Issue 1 - Legality of AO's estimation and addition for WIP in job-work dyeing/printing operations Legal framework: The matter engages principles of inventory valuation and recognition of revenue under accepted accounting principles (notably the treatment of work-in-progress and the completed contract method), as applied in income-tax assessments. The assessment provision challenged is the addition made by the assessing officer to taxable income by estimating WIP at year-end. Precedent treatment: Coordinate benches of the Tribunal have addressed identical factual scenarios and held that when an assessee performs dyeing/printing as a job-worker (processing goods belonging to customers) and recognizes revenue on completion of job, an assessing officer cannot make an estimated addition for WIP; earlier Tribunal decisions cited include ones that (a) held AS-2 revised scopes out 'work-in-progress' arising in ordinary course of service provider business from inventory valuation applicable to goods held for sale or in production for sale, and (b) deleted AO's estimated additions for WIP where the accounting policy was consistently followed. Interpretation and reasoning: The Court analysed the true nature of the business - a job-worker processing customers' cloth. The fabric remains customer's property and the job-worker has no entitlement to interim payments until completion. Consumables (colour, chemicals, wages, power, fuel) lose identity on application and cannot be treated as stock in process representing value recoverable from the customer. Given that the assessee follows the completed contract method for revenue recognition and consistently does not show opening/closing WIP, an AO's unilateral estimate of WIP without altering opening stock or applying the same method symmetrically is unsustainable. The Tribunal relied on accounting reasoning: AS-2 definitions distinguish between inventories held for sale or in production for sale and materials consumed in rendering services; such consumed materials must be shown as stock of consumables, not WIP of customers' goods. Ratio vs. Obiter: Ratio - Where an entity solely renders processing services on goods belonging to others, applies completed contract method, and consistently treats only consumables as stock, the assessing officer cannot make an estimated addition for WIP of the principal goods at year-end; AS-2 and accounting principles support exclusion of such WIP from inventory valuation for the job-worker. Obiter - Observations on the practical impossibility of realising job charges before completion and on the inapplicability of interim payments are explanatory but align with the binding reasoning. Conclusion: The addition made by the AO for WIP was not justified and must be deleted; the Tribunal allowed the appeal following consistent coordinate bench decisions and directed deletion of the WIP addition. Issue 2 - Applicability of Accounting Standards and consistency of accounting policy as a defence to reassessment of WIP Legal framework: Application of Accounting Standard (AS-2 as revised) and broader accepted accounting principles relating to valuation of inventories and recognition of revenue; principle that consistent application of an accepted accounting method is a relevant factor in tax assessments. Precedent treatment: Decisions of coordinate benches were followed that emphasise (i) AS-2's scope excludes 'work-in-progress' of a service provider rendering processing services on principal's goods from inventory valuation for sale/production purposes, and (ii) long-continued, consistent accounting practices based on accepted principles are not to be disturbed absent justification; tribunals have deleted AO's additions where the changed method would have no material impact or where opening/closing stock treatment was not consistently modified. Interpretation and reasoning: The Tribunal accepted that the assessee consistently followed a method of valuing closing stock at cost or market value (as applicable) and recognised revenue on completion of jobs (completed contract method). The Tribunal reasoned that AS-2 definitions place processed goods of customers outside the inventories of the processor; materials and consumables consumed in rendering the service are properly accounted for as consumable stock. The Tribunal also noted that changing the method unilaterally by the AO, without addressing opening stock or consistently applying a new valuation basis, cannot be justified especially when the method is grounded in accepted accounting principles and does not produce distortion in taxable income when applied consistently. Ratio vs. Obiter: Ratio - Accepted accounting standards and consistent accounting policy shield a job-worker from AO's ad hoc WIP estimation where the business model and revenue recognition employed exclude WIP of principal goods from the assessee's inventories. Obiter - Remarks on res judicata and inapplicability to income tax proceedings are contextual and explanatory, not determinative of the specific tax issue. Conclusion: Accounting standards and consistency of accounting policy support deleting the assessed addition; the Tribunal followed coordinate bench rulings and directed the assessing officer to delete the WIP addition. Cross-References and Outcome 1. The Tribunal expressly followed prior coordinate-bench decisions dealing with identical facts and accounting reasoning; those precedents were treated as directly applicable and were followed rather than distinguished or overruled. 2. Final disposition: The Tribunal allowed the appeal and directed deletion of the AO's WIP addition in the assessment for the year under consideration.