Court rules royalty assessed on accrual basis under Income-tax Act, 1961, despite cash basis accounting.

The High Court ruled against the assessee, stating that royalty amounts should be assessed on an accrual basis under Section 5(2)(b) of the Income-tax Act, 1961, even if the books were maintained on a cash basis. The court emphasized that the method of accounting should not circumvent tax liability. The decision favored the revenue, directing the assessee to pay costs and an advocate's fee.

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Issues Involved:

1. Whether the royalty amounts should be assessed on a cash basis for the assessment years 1967-68, 1968-69, and 1969-70.
2. Whether the assessee can change the method of accounting from mercantile to cash basis without the approval of the Income-tax Officer (ITO).
3. Applicability of Section 5(2)(a) and Section 5(2)(b) of the Income-tax Act, 1961, to non-resident companies.
4. Interpretation and application of Section 145(1) of the Income-tax Act, 1961.

Summary:

Issue 1: Assessment on Cash Basis
The Tribunal had directed that the royalty amounts should be assessed on a cash basis if the books and balance-sheet of the assessee were found to be maintained on a cash basis. The High Court found this direction erroneous, stating that the assessee, a non-resident company, receiving its income outside India, could be assessed to tax only u/s 5(2)(b) on an accrual basis. Section 5(2)(a) would not apply as the income would be received in England and not in India.

Issue 2: Change in Method of Accounting
The Appellate Assistant Commissioner (AAC) held that the assessee could not change the method of accounting from mercantile to cash basis without the approval of the ITO. The Tribunal remanded the matter to the ITO to determine the method of accounting. However, the High Court emphasized that the assessee's method of accounting should not defeat the charge to tax and the provisions of s. 5(2)(b).

Issue 3: Applicability of Section 5(2)(a) and Section 5(2)(b)
The High Court clarified that s. 5(2)(a) would not apply to the assessee as the income would be received outside India. The assessee could be taxed only u/s 5(2)(b) on an accrual basis. The principle from the decision in Raghava Reddi v. CIT [1962] 44 ITR 720 (SC) was not applicable as there was no direction for crediting the income by the Indian company in any particular manner to constitute "receipt in India."

Issue 4: Interpretation and Application of Section 145(1)
The High Court held that s. 145(1) is a machinery provision and cannot be used to defeat the charge to tax u/s 4 and the provisions of s. 5(2)(b). Even if the assessee maintains accounts on a cash basis, the income accrued in India to a non-resident must be taxed on an accrual basis to prevent the income from escaping taxation.

Conclusion:
The High Court answered the question in the negative, in favor of the revenue, and against the assessee. The royalty amounts should not be assessed on a cash basis even if the books and balance-sheets are maintained on a cash basis. The assessee is liable to tax on an accrual basis u/s 5(2)(b). The assessee was ordered to pay the revenue's costs, with an advocate's fee of Rs. 500.

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