Net profit estimation on past history upheld; FDR interest linked to contract work treated as business income.
After rejection of books under section 145(3), income was to be estimated with reference to the assessee's past results and comparable history, and the 1% net profit rate was upheld because earlier years showed consistently low margins and the higher rate lacked adequate basis. Interest earned on fixed deposits kept as security for contract work was treated as business income because the deposits were integrally connected with business operations. Once income was estimated on a net profit basis, separate disallowances under section 40(a)(ia) and section 40A(3) were not separately sustainable, and the deletions of those additions were upheld.
Issues: (i) Whether, after rejection of books of account, the net profit rate could be estimated at 1% on the basis of past history instead of 8.5%; (ii) whether interest earned on fixed deposits kept as security for obtaining contract work was assessable as business income; (iii) whether disallowance under section 40(a)(ia) and section 40A(3) could survive after income was estimated on net profit basis.
Issue (i): Whether, after rejection of books of account, the net profit rate could be estimated at 1% on the basis of past history instead of 8.5%?
Analysis: The books were rejected under section 145(3) and income was required to be estimated with reference to the assessee's past results and comparable history. The record showed consistent low net profit rates in earlier years, and the estimate adopted by the lower authority followed the Tribunal's own orders in the assessee's earlier years, which had been upheld. The higher rate applied by the Assessing Officer was found to be without sufficient basis.
Conclusion: The estimate of net profit at 1% was upheld and the Revenue's challenge failed.
Issue (ii): Whether interest earned on fixed deposits kept as security for obtaining contract work was assessable as business income?
Analysis: The fixed deposits were made as security deposits for securing and executing contract work, and the interest arose from deposits integrally connected with the business operations. The finding followed the earlier view in the assessee's own case and the principle that such receipts retain the character of business income when the deposits are made for business necessity.
Conclusion: The interest income was rightly treated as business income.
Issue (iii): Whether disallowance under section 40(a)(ia) and section 40A(3) could survive after income was estimated on net profit basis?
Analysis: Once the books were rejected and profit was estimated, the assessment proceeded on an estimated basis that subsumed business expenditure anomalies and related disallowances. The additions under section 40(a)(ia) for JCB hire charges and under section 40A(3) for cash payments were therefore not separately sustainable, particularly where the payments were found to be business-related and genuine.
Conclusion: The deletions of the disallowances under section 40(a)(ia) and section 40A(3) were upheld.
Final Conclusion: The Revenue's appeals failed because the lower appellate authority correctly applied the assessee's past business history, treated the FDR interest as business income, and deleted the separate disallowances after estimation of income on a net profit basis.
Ratio Decidendi: Where books of account are rejected and income is estimated on a net profit basis, the estimate should ordinarily be guided by the assessee's past history, and separate disallowances based on the rejected books are not warranted; interest on security deposits made for obtaining contract work may also be taxed as business income.