TaxTMI 
TaxTMI 
2017 (1) TMI 1210
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.... that the assessee being a foreign company, AS-7 is not applicable in this case, and income should be offered as per the provisions of section 145 r.w.s. 44BBB of the I.T. Act, 1961. 3. Brief facts are assessee is a foreign company incorporated under the laws of Republic of China and is engaged in the business of erection, testing and commissioning of power plants, it has opened a project office for the execution of projects assigned to it by power generating companies in India. In the impugned year assessee has been executing two projects on fixed price contract basis, one awarded by Adani Power Ltd for 5 x 660 MW Power plant at Mudra in Gujarat and the other by Jhajjar Power Ltd. for 2 x 660 MW Power project at Khurd village, Jhajjar, Haryana. The contract with Jhajjar Power Ltd was entered in the impugned year and was at initial stage; therefore, there is no revenue recognition this year. 3.1 For the year under consideration, assessee filed return of income declaring total income at Rs. 12,31,63,640/-. During the course of assessment proceedings, the ld. AO called for various information and documents, which were duly submitted. Ld. AO was of the view that method of accoun....
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.... such audit as required under section 44AB of the IT Act. (b) Admittedly, as claimed by appellant no specific books of accounts are prescribed u/s 44AA of the IT Act read with relevant IT Rules for the nature of business carried on by the appellant. It has maintained books of account and got them audited also. Besides, the appellant has submitted audit report of a chartered accountant on veracity of financial statements and audit report as per Companies (Auditor's Report), 2003 in terms of Section 227(4A) of the Companies Act. (c) So far as the applicability of the AS-7 is concerned, one of the objections of Id. AO was that the same is not applicable to the Appellant Company being a foreign company. I do not find it true, because as per Section 594 of the Companies Act, 1956 the company, which is incorporated outside India and has established place of a business in India, is required to prepare its Balance Sheet and Profit & Loss account as per the various provisions of the Companies Act, as if it is a Indian Company with the meaning of the Companies Act. Consequently, it follows that the Accounting Standard AS-7 is applicable to it. (d) Accordingly, the Appellant has ....
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....ellant further submitted detailed break-up of the estimated profit & loss account for entire project for five financial years 2007-08 to 2011-12. The Appellant further submitted to the AO that while obtaining order u/s 197 of the Act, the Appellant has been submitting the details of budgeted cost to the tax office, which have already been accepted by the department. The Appellant also placed on record the audited financial statements for F.Ys.2009-10 and 2010-11 and submitted and claimed that from the perusal of such financial statements, it is established that the Appellant has actually incurred the cost as estimated. (f) One of the objections of the AO is that the Appellant ought to have followed another method of stage of completion of the project i.e (c) completion of a physical proportion of the contract work. The AO has further observed that as per Annexure-3 of the contract entered into by the Appellant with Adani Power Ltd., the payment to the Appellant shall be released on the basis of milestones prescribed in Annexure - 3, and till the reporting date, the Appellant has raised invoices of Rs. 130,86, 91 ,429/-, which shows that physical work of the contract is completed....
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.... of payment till completion as a guarantee for the contractor being forced to complete the work. In other cases, the contractor may have capital deficiency/require heavy machinery to be purchased etc., and may bargain for upfront heavy payments at initial stages. In both these cases, recognizing revenue on completion of certain stages according to payment terms/raising of bills cannot be the best method. I do not find any wrong in the method adopted by the appellant. As observed earlier, there is no big difference in estimated cost and profit percentage declared from year to year. The expenses have been audited and no substantive defect has been discovered/pointed out. The rejection of books of accounts u/s 145(3) is not held justified in these circumstances. I have noted that the Jurisdictional Gujarat High Court decision in the case of CIT vs. Advanced Construction Co. (P) Ltd reported in 275 ITR 30, wherein it has been held that "the provision, therefore, specifically provides that the choice of method of accounting lies with the assessee, the only caveat being that it has to show that the chosen method has been regularly followed. The section is couched in mandatory terms and t....
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....the estimate of the cost. (ii) The works to be performed by the assessee were earmarked in form of milestones, the assessee should have determined the stage of completion on the basis of actual work performed. As per Annexure-3, of the contract, certain milestones have been defined against which invoices are raised. Thus the actual work performed had intrinsic link with milestones as well as part milestones as certified by a technical supervisor. The % of milestones completion for the project will determine the stage of completion of the project. Since the payment itself is released by the employer on the basis of milestones, this should have been the most suitable basis of determining stage of completion and hence recognizing revenue. (iii) As against invoices raised of Rs. 130,86,91,429/-, expenses have been incurred in excess i.e Rs. 2,114,121,308which comes to about 60% of work performance, but no invoices were raised. No certificate of physical verification has been produced, to see and verify as to what expenses were incurred to complete a part of work. As the contract itself rests on milestones to make payment, the expenses incurred for which no invoices was raised, sh....
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....tion as per AS-7, therefore, revenue recognized in books for the year was not acceptable. If the assessee was to follow the AS-7, it should have taken the physical work completed as a percentage of the total work to be performed as per the contract and recognizing revenue as such percentage of contract revenue. Besides in the absence of any details which capital asset WIP was referred was also not ascertainable. Assessee does not explain as to why this should not be part of project WIP of Jhajjar project i.e. Rs. 61,199,983/- as per balance sheet. Also even as per AS-7, which assessee has relied upon to maintain the account, it is required to prepare accounts for each contract. (ix) In ledger of expenses there was no narration of the nature of expenses or TDS deducted. Therefore, expenses could not be verified as against the booked amount. Assessee could not reconcile the expenses booked under subcontractor and material expenses for the month of March 2009. Assessee had submitted that unbilled contract revenue of Rs. 890,225,026/- was the difference between the physical works completed as per the milestones, and physical work completed at the end of the financial year, but not s....
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....ssessee adopted recognized method of accounting by recognizing revenue and expenses by following Accounting Standard-7 (AS-7) namely "Construction Contracts". In pursuance thereto, assessee recognized revenue and expenses by following "percentage of project completion" method as per the requirement of AS-7 which a recognized and prescribed method in this behalf. There is no dispute that assessee duly maintained books of accounts as per S.44AA(2) of the Act got them audited as per provisions of S.44AB of the Act. In view thereof assessee duly offered its taxable income in conformity with provisions of S.44BBB(2) of the Act. However ld. AO unduly presumed that the method of accounting followed by the assessee did not reflect correct profits for which no cogent and convincing reasons are ascribed. 5.2 It is contended that assessee in terms of section 594 of the Companies Act, 1956 is foreign company incorporated outside India and has established place of a business in India. It is required to prepare its Balance Sheet and Profit & Loss account as per the various provisions of the Companies Act, as if it is an Indian Company within the meaning of the Companies Act. Following are the....
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.... receipts of revenue and cost related to construction contract in the financial statements. The objective and scope of the AS-7 as laid indicted by ICAI is as under: Objective The objective of this Standard is to prescribe the accounting treatment of revenue and costs associated with construction contracts. Because of the nature of the activity undertaken in construction contracts, the date at which the contract activity is entered into and the date when the activity is completed usually fall into different accounting periods. Therefore, the primary issue in accounting for construction contracts is the allocation of contract revenue and contract costs to the accounting periods in which construction work is performed. This Standard uses the recognition criteria established in the Framework for the Preparation and Presentation of Financial Statements to determine when contract revenue and contract costs should be recognized as revenue and expenses in the statement of profit and loss. It also provides practical guidance on the application of these criteria. Scope 1. This Standard should be applied in accounting for construction contracts in the financial statements of cont....
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....early identified and measured reliably so that actual contract costs incurred can be compared with prior estimates. xxx..... 24. The recognition of revenue and expenses by reference to the stage of completion of a contract is often referred to as the percentage of completion method. Under this method, contract revenue is matched with the contract costs incurred in reaching the stage of completion, resulting in the reporting of revenue, expenses and profit which can be attributed to the proportion of work completed. This method provides useful information on the extent of contract activity and performance during a period. xxx.... 28. An enterprise is generally able to make reliable estimates after it has agreed to a contract which establishes: (a) each party's enforceable rights regarding the asset to be constructed; (b) the consideration to be exchanged; and (c) the manner and terms of settlement. It is also usually necessary for the enterprise to have an effective internal financial budgeting and reporting system. The enterprise reviews and, when necessary, revises the estimates of contract revenue and contract costs as the contract progre....
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....Schedule - 11 of Significant Accounting Policies and Notes to the Accounts. Copy of financial statement for F.Y.2008-09 detailing as under: Note (s) "Shandong Tiejun Electric Power Eng Co. Ltd is following the "Percentage of Completion Method" of accounting for the project as per Accounting Standard 7 (Revised) Construction Contracts. Accordingly Project Revenue is recognized as under: The company has fixed price construction contract with Adani Power Limited and Jhajjar Power Limited. The company started recognizing revenue in the financial year 2007-2008 as the outcome of the contract can be estimated reliably. Contract Revenue and expenses are recognized as revenue and expenses are recognized as revenue and expenses up to the stage of completion as on 31.03.2009. The management has estimated cost for the entire contract and worked out percentage of completion for each year on the basis of cost incurred as per audited accounts. Accordingly, revenue is recognized on the basis of corresponding percentage to cost estimates given by the management for the entire project period till date i.e. 31.03.2009 as per audited accounts. Determination of Revenues under the percentag....
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....h an additional contract of Rs. 139,27,21,200/-. 5.13 A perusal of the above table reveals that the cost estimated for the entire project is nearly similar to actual cost incurred for the entire project. Thus the estimated cost is backed by the actual cost for which auditors also have not given any qualification thus objectively the estimated cost and recognition of revenue as per AS-7 stands fully substantiated by assessee by creditable evidence. Ld. AO has further erroneously observed that there is a change in the cost estimated each year and it was not possible to verify the correctness of the claim of stage of completion as offered. It was explained to ld. AO that details of revenue recognized given for F.Ys. 2008-09 and 2009-10 mentioned in the table were in respect of only one project i.e 5 X 660 MW Power Plant for a consideration of Rs. 1762,60,00,000/-; whereas, for F.Y.2010-11, figures were for both the projects resulting into higher contract cost at Rs. 18,17,07,19,496/- and income at Rs. 1901,87,21,200/- (Rs.1762,60,00,000/-+ Rs. 139,27,21,200/-). Thus there is no change in the estimated cost for both project, ld. AO ignored this simple arithmetic. The actual cost and....
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....Power Ltd. prescribes only milestones as a modicum to raise invoices and not determinative of profits. This is clear from following relevant para of contract: Contract Price: Payment for the Works shall be made on the basis of the bills submitted by the contractor from time to time in accordance with the Milestone and Payment Schedule. Therefore, going by this stipulation, assessee was required to raise invoices on the basis of milestones prescribed in Annexure - 3 to the contract, the factum of payment by Adani's depended on their satisfaction about relevant conditionality's. Besides assessee also had engaged subcontractors with whom no corresponding milestones were stipulated. Thus with sub contractors which were essential for timely execution of project the payments were to be based not looking at mile stones but predominantly on the basis of physical work certified by techno-commercial employees i.e engineers, project head and finance department. These facts and contentions have neither been disputed nor controverted by ld. AO. 5.16 Thus the revenue recognition in terms of para 29 of AS-7 was perfectly justified and the Adani milestone were only for the limited purp....
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.... Profit Element (Contract Revenue of Rs. 219,89,16,454/- Minus Contract Cost of Rs. 211,41,21,309/- 8,47,95,147/- E Total (C + D) 89,02,25,026/- 5.19 Besides the profit element of Rs. 8,47,95,147/- is further adjusted with the opening and closing WIP cost of Mudra Project, Net Project WIP of the Jhajjar Project and other income. The declared profit of Rs. 6,16,93,392/- was also reconciled as under : S.N Particulars Amount in Rs. A Profit Element (Contract Revenue of Rs. 219,89,16,454/- Minus Contract Cost of Rs. 211,41,21,309/- 8,47,95,147/- B Less: Project WIP of Mudra project for FY 2007-08 2,72,52,413/- C Add: Cost of Mudra Project incurred in FY 2007-08 3,60,60,007/- D Less : Net Project WIP of Jhajjar Project 6,13,75,443/- E Profit derived at from the project (AB+C-D) 3,22,27,928/- F Other Income 2,94,66,096/- G Net Profit before Taxation 6,16,93,392/- 5.20 These tables demonstrate that there is no merit in AO's allegation that the unbilled revenue account is not reconciled. Therefore, in a these facts, circumstances and details neither the books of accounts can be ....
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.... respect of lease rental which was recognized in terms of ICAI guidelines. Delhi High Court held that ICAI is recognized as body vested with authority to recommend ASs for endorsement by Central Government in consultation with National Advisory Committee of Accounting Standards, for presentation of financial statements. This being so the assessing officer cannot disregard the method of accounting followed by the assessee on the basis of guidelines provided by the ICAI and cannot reject books of accounts of the assessee. Relevant extract of which is reproduced hereunder : 8. Having heard the learned counsels for the parties and perused the record, what emerges is as follows: However, before we proceed further, we may indicate that, we would be answering the questions of law framed; in the reverse order, in as much as, the second question would be answered first and then, we would take up the other question of law. 8.1. The foremost aspect which, thus arises for consideration in this case is: whether the method of accounting employed by the assessee to determine the real income evidently derived from lease of assets, could be given a go-by. In determining its income and its pre....
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....e Note issued by the ICAI in that behalf, was disregarded, on what we would term as, a disjointed reading of the provisions of the said Guidance Note. Both the assessing officer as well as the CIT(A) have adverted to paragraph 2 of the Guidance Note to come to, what we consider an erroneous conclusion in as much as they have held that in determining as to whether deduction on account of lease equalization charges ought to be allowed or not, what has to be borne in mind is ultimately the provisions of the IT Act. In our view, such an observation in paragraph 2 of the Guidance Note is really saying the obvious. Therefore, even if this Guidance Note was silent on this aspect the provisions of the I.T. Act would undoubtedly still apply. Thus, as to what is the impact of provision of para 2 of the Guidance Note will be considered by us as we progress further with our judgment. 9.1 However, what is important at this stage is to first address ourselves to the aspect as to whether the assessing officer could have disregarded the method of accounting followed by the assessee in respect of lease rentals. In our view, the assessing officer could not have do so, as the method of accounting ....
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....Y 1996-97. In our view, as long as there was a disclosure of the factum of change in the accounting policy and its effect, in the accounts, no fault could be found with the change in accounting policy merely on account of the fact that it was employed for the first time in AY 1996-97. The change in accounting policy, as noticed by us above, had the imprimatur of a duly recognized professional body, i.e., the ICAI. Therefore, notwithstanding the fact that the opinion of the ICAI was expressed in a Guidance Note which had not attained a mandatory status, would not, in our view, provide a basis to the assessing officer to disregard the books of accounts of the assessee and in effect method of accounting for leases, followed by the assessee. 5.24 Further reliance is placed upon the following judicial precedents emphasizing that percentage of completion method prescribed in AS-7 is an appropriate and recognized method for construction contract spread over several years. The AO cannot disregard the said method of accounting to reject books of accounts. * MKB (Asia) (P) Ltd. vs. CIT 294 ITR 655 (Gau.) * CIT vs. Woodward Governor India (P) Ltd. 294 ITR 451 (Delhi) confirmed by the....
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....in this behalf 67[***], a sum equal to ten per cent of the amount paid or payable (whether in or out of India) to the said assessee or to any person on his behalf on account of such civil construction, erection, testing or commissioning shall be deemed to be the profits and gains of such business chargeable to tax under the head "Profits and gains of business or profession".] [(2) Notwithstanding anything contained in sub-section (1), an assessee may claim lower profits and gains than the profits and gains specified in that subsection, if he keeps and maintains such books of account and other documents as required under sub-section (2) of section 44AA and gets his accounts audited and furnishes a report of such audit as required under section 44AB, and thereupon the Assessing Officer shall proceed to make an assessment of the total income or loss of the assessee under sub-section (3) of section 143and determine the sum payable by, or refundable to, the assessee.] 5.27 A perusal of the provisions of sub-section (2) of S.44BBB of the Act, makes it clear that if the assessee maintains books of account and other documents under sub-section (2) of S.44AA of the Act and gets his th....
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....tains such books of account and other documents as required under sub-section (2) of section 44AA and gets his accounts audited and furnishes a report of such audit as required under section 44AB. The Assessing Officer shall then make an assessment of the total income or loss of the assessee under sub-section (3) of section 143. 5.29 Thus when assessee has maintained proper books of accounts audited u/s 44AA and 44AB of the Act, as the assessee has a statutory recognition of account based lower amount of profits the rejection of books may lead to a reasonable estimation of profits. It does not give any leverage to ld. AO to automatically resort to presumptive tax, which by way of promissory estoppels is applicable to no account based foreign companies. S.44BBB provides deeming fiction to tax income @ 10% civil construction receipts. However, courts have held that this deeming fiction is not an absolute proposition and cannot override sections 28 to 43A as also provisions contained in section 4. A harmonious construction and reading of sections 2(45), 4, 5, 44AA, 44AB and 44BBB of the Act lay down a clear scheme of the Act to tax foreign companies. Section 44BBB of the Act is not....
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.... cannot be overlooked that though the section outlines a statutory basis of assessment, what is being assessed at the statutory rate is the "profits of the business", an expression which, as is well-settled, has to be understood in a commercial sense. The opening words of the section make no difference to this concept. In the first place, it is well-settled that in the computation of profits, all proper, outgoings have to be allowed as a deduction, irrespective of whether the statute contains a specific provision in this regard or not [ seeCITv. Chitnavis [1932] 2 Comp. Cas. 464 ; [1932] 6 ITC 453 (PC)]. Salaries paid to employees-and indeed all revenue expenditure incurred- for running a business will have to be taken into account in determining its profits, irrespective of the provisions of sections 28 to 43A. Secondly, the provisions in sections 30 to 43A are primarily intended to restrict or qualify the extent of deduction in regard to certain categories of expenses that would have been normally allowable in the computation. This is indeed clear from the omnibus nature of deductions permissible under section 37. Hence, in a commercial sense, the concept of profits determined un....
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....nything to the contrary contained in sections 28 to 43A, where an assessee is a non-resident, no allowance shall be made in computing the income chargeable under the head "Business income", in respect of head office expenditure to the extent it is in excess of 5 per cent of adjusted total income or the amount of expenditure in the nature of head office expenditure incurred by the assessee as is attributable to the business of assessee in India, whichever is less. Though section 44C contains anon obstente clause and over rides the provisions contained in sections 28 to 43A regarding computation of income, yet various courts have held that where entire business operation is carried out in India, entire head office expenditure incurred is allowable while computing income from India. The limit contained in section 44C will not apply in such a situation. This is so held in the case of Rupenjuli Tea Co. Ltd. v. CIT [1990] 186 ITR 3011 (Cal.) and by Bombay High Court in the case of CIT v. Emirates Commercial Bank Ltd. [2003] 262 ITR 55. Extending the analogy it can be said that where there is no income by way of business income, section 44BBA cannot bring to charge 5 per cent of the speci....
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....Companies (Auditor's Report), 2003 in terms of Section 227(4A) of the Companies Act. Besides no other specific books of accounts are prescribed u/s 44AA. Thus assessee's books, audit, financial statements, balance Sheet, P&L A/c etc. are fully compliant to relevant provisions of Income Tax and companies Acts. ii. Ld. AO held that AS7 is not applicable to the assessee company ignoring the vital legal propositions of section 594 of the Companies Act, 1956 laying down a statutory mandate that a company, which is incorporated outside India and has established place of a business in India, is required to prepare its Balance Sheet and Profit & Loss account as per the various provisions of the Companies Act, as if it is a Indian Company with the meaning of the Companies Act. Consequently, ld. CIT(A) rightly held that the Accounting Standard AS-7 is applicable to it. We find no infirmity in this aspect of his order. Following AS 7, assessee has recognized revenue and cost following the percentage completion method on the basis of proportion of contract costs incurred for work performed till the reporting date to the estimated total contract costs. Undisputedly in the notes to the fi....
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....ing date, the Appellant has raised invoices of Rs. 130,86, 91 ,429/-, which indicated physical work of the contract was completed to that extent only, therefore, method (c) i.e. completion a physical proportion of the contract work as prescribed in para 29 of AS-7 was applicable. Ld. AO has failed to appreciate that method followed by assessee was correct and could not be disturbed on his perception. Besides it has not be controverted that AOs proposition would have lead to lesser revenue being recognized during the impugned year. Thus even the reason of loss of revenue is not ascribable to assessee's method of accounting. In view of these facts and circumstances we see no inconsistency in the order of ld. CIT(A) which is justified and within the parameters of law. v. No worthwhile defect has been pointed out by ld. AO qua the books of accounts, audit and P & L A/c. It has been demonstrated that estimated cost and profit percentage declared from year to year nearly match, consequently we see no reason to suspect that the figures of estimated cost were distorted. The project has been completed in 2012 itself and it is not the case that it is a long drawn project where undue defer....