TaxTMI 
TaxTMI 
1984 (7) TMI 409
X X X X Extracts X X X X
X X X X Extracts X X X X
.... account for the year under consideration, note 18 is relevant in which it was mentioned that last in first out method (LIFO) was adopted for computing direct cost and that on the basis of method which was used in the earlier years the cost as on 31-12-1975 was Rs. 48,659,804. It was the assessee's contention that because of the rising prices the assessee found it proper to adopt a correction method. The directors in their report in paragraph No. 10 explained to the shareholders that LIFO method was more realistic. 3. The assessee's business was that of manufacture of cutting tools, tungsten ore and tools for steel which was sort of a continuous process for 8 to 10 months and as such it was difficult to have specific identification of different consignments of new materials. (It must be clarified that the assessee was getting ore and steel from abroad and had to pay customs duty to the concerned authorities). The Commissioner (Appeals)'s observation was that identity was possible as the assessee received consignments from abroad. The assessee's stand was that the method adopted by it was more realistic and that notional profits could not be taxed. Before the Commissioner (....
X X X X Extracts X X X X
X X X X Extracts X X X X
....sentatives and the assessee's learned representative and officials, visited the factory premises of the assessee- company and saw the working procedure. The first point of the manufacturing process was that the bulk of manganese ore was poured in a very huge tank and there was some chemical process as a result of which in another tank there was acid. It must be stressed, however, that it is not the final product which has come out from the manganese ore as it contains manganese ore of nearly 80 per cent. The chemical procedure goes on and thereafter at certain stages different chemicals are poured, out of which, by further process, some different products are produced. However, the finished product comes out of the factory after a period of nearly 8 to 10 months. This is a clear indication that the chemical process of manufacture goes on for about 8 to 10 months and, therefore, it is humanely impossible to say as to what product has come out of the first manganese ore that was put in the first tank. It may be further stated that there are as many as more than 500 items and even to keep quantity-wise tanks of everything is not possible. It is no doubt true that the assessee gets man....
X X X X Extracts X X X X
X X X X Extracts X X X X
....dely used. In the case of perpetual LIFO, the rate per unit is calculated at the time of every accept. In case of periodic LIFO, the rate is calculated taking into account the average of the costs prevailing during a particular period. The company has adopted the periodic LIFO formula covering the financial year as the period, for the following reasons: (a)It is closer to the weighted annual average method previously followed by the company. (b)The average cycle time from the consumption of ore to the completion of the final product is about 10 months which is closer to the period adopted. The company has adopted the periodic LIFO method as it is more stable and the income figure is not affected by short-term fluctuations in prices of raw material." What is the precise effect of the correction in method of valuation applied by the company in 1975? The company had adopted a certain basis over the period 1970-74 for ascribing cost to stocks consumed and on hand. Let us describe it by an illustration as it will also help one to ascertain the precise correction it made at the end of 1975. Basis adopted 1970-74 Description Units C....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ow cost set off) while the higher cost actually incurred would remain unabsorbed in that very year. Let this be illustrated by another example: Basis adopted in 1975 Description Units Cost Opening stock 20 100 Purchases 30 320 50 420 Consumption Average 8.4 30 (out of purchases) 320 10 (out of opening stock) 50 370 (out of 420) Closing stock 10 50 50 420 In 1975 there had been consumption larger than purchases and, hence, the cost incurred in the year itself had been set off instead of the average cost (based on opening stock plus purchases) of 8.4 per unit, i.e., 336, and carrying forward 50 attributable to opening stock instead of 84 on average cost basis. The change made in 1975 from 1974 is, therefore, this: instead of taking the cost of stock consumed on the average of opening stock plus purchases, the cost of it is taken as its actual cos....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... of income on the basis of earlier method that was used prior to 1975 but this was by way of precaution and, therefore, we find substance in what Shri Pophale stated before us. 9. The learned departmental representative had heavily relied upon the judgment of the Privy Council in Minister of National Revenue v. Anaconda American Brass Ltd. [1956] 30 ITR 84 and urged that the assessee's case is fully covered by the decision of the Privy Council. We are unable to accept the contention of the departmental representative for the, simple reason that the decision in Anaconda American Brass Ltd.'s case (supra) is clearly distinguishable on fact and, therefore, the ratio of the judgment of the Privy Council cannot be used against the assessee. 10. We produce the following cases for basic differences-: Anaconda American Brass Ltd.'s case (supra) Assessee's case 1. Under the LIFO system, adopted by the company in 1947 for tax purposes, the company brought in inventories to account the values of 1936 to 1946, i.e., over 10 years (p. 95) In our case, while applying the correction to the valuation of inventories at the end of 1975, the unabsorbed cost of inventories relating t....
X X X X Extracts X X X X
X X X X Extracts X X X X
....T [1953] 24 ITR 506 (SC]. 11. It may be stated that in Canada the LIFO method is not appreciated. However, J. Batty, author of the book Management Accountancy, Fourth edn., has stated that LIFO method is not totally banned or discarded. The departmental representative relied upon the commentary on the Act by Sampath Iyengar in Law of Income-tax, Seventh edn., that LIFO method is not acceptable. However, this can be said to be an author's view but there is nothing in the Act that LIFO method is totally banned. J. Batty has observed as under: "Method of pricing Brief definition Base of pricing & Stores ledger Likely effect on profit Last In, First Out (LIFO) Items received last are assumed to be issued first, and therefore the latest prices paid are used. As for FIFO When prices are rising profit is not overstated. If turnover is rapid the charges to production should be near enough to current replacement prices. Acceptance by Inland Revenue Remarks Apparently not acceptable (Minister of National Revenue v. Anaconda American Brass Ltd. [1956] 30 ITR 84 (PC). It is not clear what would be de....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ited objections from the assessee, if any, but the assessee did not raise any objection. According to Shri Pophale, the ITO was rather confused and he did not know what to do and as such he sent draft order (as directed by him) to the IAC. According to Shri Pophale, before the IAC the assessee challenged the very authority, of the IAC acting as assessing authority. Further, Shri Pophale drew our attention to certain correspondence between the assessee and the income-tax authorities and the assessee wanted to know whether the IAC was allotted to do the assessment of this assessee and the date of allocation, if any. Shri Pophale made a grievance that no intimation was given by the Commissioner (Appeals) to the assessee in that regard and, therefore, the assessee did not know Whom to approach, i.e., whether the IAC was an assessing authority or the ITO who had jurisdiction to assess the assessee. 14. Shri Pophale then stressed that all the provisions in the Act will be overridden by section 144B because of the words 'notwithstanding anything contained in this Act'. According to Shri Pophale, it is obligatory on the part of the ITO to send draft to the assessee (when the income exce....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ctible under the Act on the ground that it was a business liability. However, the Commissioner (Appeals) rejected the assessee's contention by relying on the order of the Special Bench of the Tribunal in the case of Amar Dye-Chem. Ltd. v. ITO [1983] 3 SOT 384 (Bom.), wherein such a claim of an assessee was rejected. The Commissioner (Appeals) held that surtax liability was not a business expenditure which was allowable under section 37 or as a loss to be allowed under section 28 of the Act. The Commissioner (Appeals) further held that the assessee's case was covered by section 40( a)(ii) which prohibits deduction of any sum paid on account of any rate or tax levied on the profits or gains of any business/profession. The learned counsel for the assessee urged that only true profits were assessable under section 28 and, therefore, it could be. allowed as a deduction. In view of the Special Bench order in Amar Dye-Chem. Ltd.'s case (supra), we turn down the assessee's claim. 17. The assessee-company claimed deduction on account of superannuation fund contribution. The AAC (acting as assessing officer) added back contribution of Rs. 80,995 as the superannuation fund was not recognis....
X X X X Extracts X X X X
X X X X Extracts X X X X
....f ex-employee. He, therefore, deleted Rs. 1,250 out of Rs. 2,250. 20. It was contended before us that Rs. 94,500 was business expenditure and should be allowed in full and even if the revenue's contention regarding applicability of section 40A(5) was accepted, then deduction of Rs. 60,000 should be allowed as against Rs. 31,250 allowed by the lower authorities. Accordingly, we accept this contention of the assessee and further give reduction of Rs. 28,750. The alternative contention of the assessee's counsel is not acceptable to us. 21. In the result, the assessee's appeal is partly allowed. Per Shri Rajendra, Accountant Member - The order of my learned brother (Judicial Member) dated 25-11-1980 has been placed before me on my return from leave on 12-1-1981. I have given it very careful consideration. I, however, find myself unable to agree with my learned brother. I, accordingly, proceed to write a dissenting order. 2. The assessee-company manufactures various tungsten carbide products such as tips, dyes, nibs, drill steels, cutters, scrappers, etc: It follows previous year ending 31st December. 3. The company's first grievance is against the addition of Rs. 58,46,5....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ong, with some refinement in 1970. The assessing officer thereafter in his order gave break up of Rs. 58.47 lakhs by giving valuation of different items by LIFO and FIFO methods. He observed that in tungsten ore, there was no continuous spiral in prices except in December 1974 and that the change-over by the assessee was motivated by desire to understate profits for tax purposes and the Privy Council in Anaconda American Brass Ltd.'s case (supra) had observed that LIFO had never been recognised as an acceptable method in Canada and the same was the position in India and the assessee's case was comparable inasmuch as while in Anaconda American Brass Ltd.'s case (supra) 1936 values were proposed for 1947 values, in the assessee's case 1974 values would be substituted for the values of stock prevailing many years later. He, therefore, made an addition of Rs. 58,46,535. 5. The Commissioner (Appeals) upheld the addition after noting that the board of directors of the assessee-company in paragraph No. 10 of their report dated 25-6-1976 had opted for change in method of valuation from LIFO to FIFO and that even on 15-12-1975 company appeared to have estimated its income at Rs. 4.75 cro....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ting them. 7. The learned departmental representative drew our attention to pages 38 and 39 of the assessee's paper book I and page 4 of the departmental representative's paper book where the valuation of stock on the basis of old and new methods was illustrated. He submitted that LIFO method assumed that part of the opening stock was not consumed and that the last receipts of stock had been consumed. His submission was that in case of inability to identify raw material which has gone into production, proper method is to estimate closing stock in proportion to raw material consumed and that the normal course of things was that stocks/purchases which came first would be used first, but as no material to show the contrary practice had been furnished by the assessee, average basis was the only proper basis which the assessee had been following in earlier years and in the absence of supporting material, any other method would not give correct picture of profits. He stated that the average basis was the proper method and in LIFO assumptions have to be made, which if not made on facts would not give correct picture. 8. The learned departmental representative relied on the observati....
X X X X Extracts X X X X
X X X X Extracts X X X X
....representative questions the assessee's proposition that the department wanted to assess unrealised profits. He urged that the assessee having made sales had already realised the profits and by adopting LIFO method, the assessee wanted to convert the realised profits into secret reserves, e.g., one unit in stock may be valued at Rs. 5 for 10 years when the cost or market price of the said unit may have gone up to say Rs. 50 in the said span of time the departmental representative ques- tioned the necessity of change-over by the assessee to LIFO method in year under consideration (1975). He drew our attention to the assessee's justification for the change-over (as per page 2 of paper book II) as also to pages 50-51 of the assessee's paper book I. It was shown that while there was a jump in 1974 in the price of tungsten ore (per kg.), e.g., when in December 1974 it jumped to Rs. 83.76 from Rs. 36.74 as in June 1974, there was a downward trend in 1975 (year under consideration) where from Rs. 98.22 in February 1975, the prices had shown a down- ward trend and stood at Rs. 93.65 in December 1975. Similarly, the prices of drill steel bars did not show much fluctuation, as the prices inc....
X X X X Extracts X X X X
X X X X Extracts X X X X
....y that there should be uniformity in law. Reliance was placed on CIT v. Balkrishna Malhotra [1971] 81 ITR 759 (SC) and on CIT v. Smt. Godavaridevi Saraf [1978] 113 ITR 589 (Bom.). 12. It was claimed that the test for ascertainment whether the assessee was entitled to change method of valuation was whether the true profits can be deduced after the change in method of valuation and if the true profits cannot be ascertained, then the new method should be rejected. It was emphasised that the assessee during the year under consideration (calendar year 1975) had itself followed the old method of valuation as was clear from the advance tax estimate dated 15-12-1975 of Rs. 4.75 crores and the payment of advance tax instalments accordingly and that it was only in the next year (May 1976) that the directors decided to change the method of valuation. Therefore, the said decision of 1976 should not govern and upset the method of valuation followed by the assessee in 1975. Our attention was also drawn to the fact that the assessee's principal competitor WIDIA (India) Ltd. did not change the method of valuation nor did the assessee's holding company Sandvik AB, Sweden. There was no evidence t....
X X X X Extracts X X X X
X X X X Extracts X X X X
....d decision had stood the test of time for 25 years, I am inclined to follow the said judgment. Even otherwise, the observations of the Privy Council in that case commend themselves to me. In the said case, the company who was carrying on business of purchasing metals and manu-facturing them into sheets, rods and tubes had shifted to LIFO method in 1947 on the ground that there were large increases in the prices of the metals purchased by the company. Thus, the company attributed higher cost to the metals processed and lower cost to those retained in the stock. The Privy Council rejected this method and held that FIFO method must be adopted, i.e., metal first purchased was the metal first used by it on the assumption that metal used in the year were those which had been longest in the inventory. The company had urged that as per modern accounting practice, the replacement cost and not the actual cost of metal used should be regarded as expenditure incurred in manufacturing the products sold in the year. LIFO was, thus, an estimate of replacement of cost of the metals and the closing stock under this method represented the unabsor- bed residue of cost. The result of adopting LIFO was....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... the Act, the revenue was not concerned with the year 1948 or 1949. The Privy Council noted that LIFO method which originated in the USA was permitted to be adopted for tax purposes in 1938 and that in 1939 amendments were made and the method was now permitted subject to statutory conditions. They observed that new theories of accountancy, though they may be accepted and put into practice by businessmen, did not finally determine a trading company's income for tax purposes and referred with approval to observations of Brandeis, J. while dealing with 'base stock method' which, according to their Lordships, applied equally to LIFO method, viz., that by this method income was understated and reserves were created. 16. In view of the very lucid and convincing reasons given by the Privy Council for rejecting the LIFO method while computing the taxable income of the assessee, I hold that the assessee is not entitled to change-over to LIFO method and the lower authorities were right in rejecting the assessee's claim. I am not impressed by the distinctions sought to be made by the assessee before us with Anaconda American Brass Ltd.'s case (supra). The said distinctions, I may say, are ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ment by the IAC. The relevant facts are that the ITO was holding jurisdiction over the assessee's case and by his letter dated 18-6-1977 to the assessee, he mentioned that as the variation between the income returned by the assessee and the income proposed to be assessed by the ITO, Was more than Rs. 1 lakh, therefore, under section 144B(1) he was forwarding to the assessee the draft of the proposed order of assessment. The assessee by its letter dated 21-6-1977 acknowledged receipt of the draft assessment order and stated that the contents of the same had been noted and 'this is without prejudice to our rights under the Income-tax Act, 1961'. The ITO, therefore, by his letter dated 5-7-1977 forwarded, to the IAC the draft assessment order and the assessee's objections for action under section 144B(4), under which provision the IAC is to issue directions for the guidance of the ITO to enable him to complete the assessment. Thereafter, the IAC on 7-7-1977 wrote to the ITO that he proposed to issue notice under section 144A to the assessee and, therefore, the ITO should not pass the assessment order and await further instructions. The IAC on 13-7-1977 wrote to the assessee regarding ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....ssessee's objections by his letter dated 5-7-1977 and, therefore, the assessee was incorrect in claiming that the assessment should be completed on the basis of the draft assessment order. Our attention was also drawn to the language of the assessee's letter dated 21-6-1977 in which the assessee only claimed that the contents of the ITO's draft assessment order had been noted and that this was without prejudice to the assessee's rights under the Act. It was urged that if the assessee had accepted the draft order, then there was nothing easier than the assessee to say so in clear terms and the fact that the assessee was reserving its rights under the Act unmistakably showed that the assessee proposed to go in appeal and this was confirmed by the assessee's action in agitating in appeal the additions sought to be made by the ITO in the draft order in respect of surtax liability as well as superannuation fund. It was, therefore, claimed that the assessment was open, as the assessee had not accepted the draft assessment order and at this stage the IAC was legally competent to take action under section 144A by calling for and examining the records of any proceeding of which the assessme....
X X X X Extracts X X X X
X X X X Extracts X X X X
....IAC. It was claimed that proviso to section 144B(4) envisaged the widening of the controversy insofar as the IAC could travel outside the points raised in the draft order and the only limitation on the IAC's power was of hearing the assessee. Reliance was placed on Balkrishna Malhotra's case (supra) to claim that the assessment was not completed, by merely computing the income, but for the assessment to be completed, it was necessary to determine the tax payable by the assessee, and, therefore, the draft assessment order could not be equated with completion of assessment. It was urged that sections 144A and 144B were introduced by the Taxation Laws (Amendment) Act, 1975, and they were not mutually exclusive and it was a common practice that both the said sections were resorted to simultaneously and as both these sections had been introduced by the same Amendment Act, the Legislature, if it intended that section 144A should not be operative where section 144B was in operation, could have said so. It was urged that both the sections should be harmoniously construed and interpretation which conferred jurisdiction should be preferred. (Legislation and Interpretation by Jagdish Swarup, ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... Mahavir Prasad. (Dealt in paragraph Nos. 16 to 20 of the Judicial Member's order). 24. In the result, the appeal is partly allowed. ORDER Per Shri B.L. Shelar, Judicial Member - As we have differed on the following points, the case may be referred to the President under section 255(4) of the Act to nominate a Third Member to decide this appeal: "1. Whether, on the facts and in the circumstances of the case, the LIFO method adopted by the assessee is justified? 2. Whether, on the facts and in the circumstances of the case, the IAC had jurisdiction to make an assessment on the assessee as an assessing officer?" THIRD MEMBER ORDER Per Shri V. Balasubramanian, Vice President, - The assessee-company manufactures various tungsten carbide products like tips, dyes, nibs, drill steels, cutters, etc. The company followed the previous year ended on 31st December. It also followed the practice of valuing inventories at the lower of direct cost or net realisable value from year to year. The direct cost was worked out on the basis of actual cost or weighted annual average cost. During the year relevant to the assessment year under appeal, the company changed its method of v....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the year. He took into account the assessee's claim that the inflation and the accompanying pride fluctuations necessitated a change-over to the, new method of stock valuation which was bona fide adopted by the assessee. Not, accepting the claim of the assessee, however, he added the sum of Rs. 58,46,535 to the total income. 3. The Commissioner (Appeals) upheld the addition; He noted the fluctuation in price of raw materials and also found that the assessee- company had also been increasing its sale price from 1973. to 1974. According to him, the period taken for production did not justify the change-over. Neither the parent company in Sweden nor the other Indian competitors had made any change in the method of valuation if that was absolutely necessary for the particular manufacture. The assessee did not show even the inflation in drill steel prices was worldwide. The assessee appealed to the Tribunal against the order of the Commissioner (Appeals). 4. Hearing the appeal the learned judicial Member and the Accountant Member passed differing orders the learned' Judicial Member' holding that the addition of Rs. 58,46,535 was not justified. He held that the changed method could....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... "1. Whether, on the facts and in the circumstances of the case, the addition of Rs. 58,46,535 made by the IAC in determining the assessee's income by rejecting the LIFO method as adopted by the assessee in valuing its closing stock is correctly made? 2. Whether, on the facts and in the circumstances of the case, the IAC while making the assessment on the assessee as an assessing officer, had jurisdiction to make addition or alteration to the total income proposed by the ITO in the draft order?" 7. The learned counsel for the assessee has pointed out that the assessee was following a consistent system of valuing closing stock for the purpose of arriving at its profit from year to year. The important raw material involved in the manufacture being imported and subject to the world fluctuation in prices the uncontrolled inflation substantially affected the assessee's business and profit structure. The increase in the price of the raw material was as much as 3 times in 1973, double in 1974 and substantially higher during the year under appeal. In order to take into account the correct profit of the business, the assessee had, therefore, no alternative but to follow a more logic....
X X X X Extracts X X X X
X X X X Extracts X X X X
....'t earning anything simply by holding his own." (p. 282) and paragraph No. 26 from International Accounting Standards (IAS 2) on valuation and presentation of inventories in the context of the historical cost system: "The LIFO or base stock formulas may be used provided that there is disclosure of the difference between the amount of the inventories as shown in the balance sheet and either (a) the lower of the amount arrived at in accordance with paragraph 24 and net realisable value or (b) the lower of current costs at the balance sheet date and net realisable value." Nearer at home Accounting Standard 2 on valuation of inventories issued by the Institute of Chartered Accountants of India in June, 1881 also refers to LIFO method as a normal and standard method of valuation of stock at paragraph No. 26.1: "The historical cost of inventories should normally be determined by using 'FIFO', 'average cost, or 'LIFO' formulae." 8. On the strength of these and other authorities the learned counsel has emphasised that the LIFO method is not only a well recognised scientific method for valuing closing stock but, in his view, would be the most fitted to adopt in circumstances ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... according to the assessee, would indicate the extent to which non-adoption of this more scientific method would affect its profit. With mathematical illustrations, the learned counsel has pointed out how this system brings out the real profit for tax purposes. The extra liability by way of cost of raw materials already having been incurred during the year, certainly there is no inequity in considering it in working out the profit. The LIFO method, therefore, is more realistic. It is also emphasised that over the period the correct profit being the same, whatever be the method followed there cannot be any loss to the revenue. It is an important principle both of accountancy as well as income-tax that unrealised appreciation in the value of inventories should not be brought to charge. This principle applies both to the manufacturing as well as trading concerns. 12. Referring to the decision in Anaconda American Brass Ltd.'s case (supra), on which reliance has been placed by the department and which has been referred to in the two orders of the Tribunal, the learned counsel has pointed out that an application of this decision to the Indian circumstances was prima facie not justifi....
X X X X Extracts X X X X
X X X X Extracts X X X X
....Fourth edn., paragraph Nos. 0532, 0533 and 0535. Stress is also laid on certain observations in Batly's Management Accountancy, Fourth edn., at p. 678 and the Works on Income-tax Whiteman and Whitcroft Income-tax, Second edn., pp. 444 to 447 and Sampath Iyengar's Law of Income-tax, Fifth edn., Vol. III, p. 1711 and Sixth edn., Vol. II, p. 1519. According to the learned counsel, even in UK the adoption of the LIFO method has been put on the basis of a special position. All these clearly go to show that the LIFO method has not acquired any acceptability as a scientific method of valuation. 16. Apart from the above, the learned counsel has pointed out that essentially the assessee who has been following one method of accounting has suddenly changed its method which distorts the entire profit picture. Even if over a long period the overall profit given up for taxation could be the same, the profit for the current year cannot be said to have been correctly computed when the methods of valuation of the opening and the closing stock are different. Valuation of stock as such, according to the learned counsel, does not by itself specify a method of accounting. Mere adoption of a form of ....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... up a method of accounting. Thus, even under the mercantile system of accounting both accountancy and law have prescribed different modes of valuing closing stock. A stock may be valued at cost, at market price, at market or cost, whichever is lower, at an average cost or in variation of or from these. 18. Extracts from the income-tax books of Kanga and Palkhivala, Sampath Iyengar and other authorities on Managerial Economics, Studies in Accounting Theory, International Accounting Standards, Reports of the Institute of Chartered Accountants of India, etc., have been referred to before me by the parties. The assessee trying to support its case for adopting the LIFO method and the department challenging the efficiency and validity of this method. It is neither, necessary nor possible to say with any amount of finality whether a method like the LIFO for stock valuation is the best one or a perfect one. As regards the methods, these varies and each school subscribes to one method or other, but ultimately all are intellectual approaches against the background of the best available facts to ascertain the profit. Often the theory embedded in any method is absolutely unsupported by the ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....the opening stock is valued at cost, the closing stock also should be valued at cost to give the correct profit for the year. If the opening stock is valued at market price, the closing stock also should be valued at the market price. If the opening stock is valued at a cost or market price, whichever is lower the closing stock also should be valued at cost or market price, whichever is lower. If the methods of valuation of the opening stock and the closing stock are not the same, it would not be possible to find out the correct profit of the year. In other words the consistent method of following the same principle of valuing stock from year to year is that for every year both the opening and the closing stock are valued on the same method. If there is a change in the method of valuing the stock, for instance, cost being adopted for the opening stock and market for the closing stock, the correct profit of the year cannot be ascertained. 21. Another equally valid principle in arriving at the profit is that no tradesman should take into account the unrealised profit embedded in his stock. Under the mercantile and other allied systems of accountancy the profit of the year is accou....
X X X X Extracts X X X X
X X X X Extracts X X X X
.... method of accounting. Section 145 gives this choice to the assessee. Only in a case where the method of accounting adopted by it does not give correct profit can the ITO reject the books of account and recompute the income. This principle takes into account two aspects of the matter, viz., ( 1) the choice of the method of accounting, and (2) the determination of the profit. There may be a case where the choice of the method, of accounting is scientific and correct and has been bona fide made but even so the method cannot give the correct figure of profit. This would arise where one or other components of the method of accounting distorts the computation of profit. For instance, even in the case where a person regularly maintaining accounts on the same basis from year to year, disturbs any one of the components like closing stock valuation he could upset the computation of profit and it would be open to the ITO to reject the book results even without rejecting the method of accounting. 24. I have detailed above some of the well known principles of accountancy and income-tax, because both in the orders of the authorities below and the learned Members, whose difference of opinion ....
X X X X Extracts X X X X
X X X X Extracts X X X X
....difference between the closing stock valuations involved in the change of method. 25. For the year under appeal, the opening stock was valued by follow- ing a particular method. The closing stock has to be valued on the same method if the correct profit of the year has to be worked out. If that is not done, to that extent the profit of the year goes down or up. In the present case, the ITO has found, relying on note 18 of the auditors that the change in method of closing stock valuation has reduced the profit for the year by Rs. 58,46,535. The assessee, it is true, has followed the same method for the subsequent years. The profit from year to year, therefore, in these subsequent years would be indicated by the book valuation. That would not, however, show the correct profit for the year under appeal as made out by the assessee's books. It is in this context that the principle regarding the consistency in the method followed has to be seen. When the assessee followed the same method of valuation of closing stock till the year of appeal, its profit was computed in a particular manner. The change in the method of valuation has altered the closing stock for the current year while re....
X X X X Extracts X X X X
X X X X Extracts X X X X
....here the market price is lower than the cost. If the assessee's contentions were accepted, the assessee having the right to value the stock, and also follow a method of accounting of his choice, he can bona fide change the method almost every year if it suits him. If on all these occasions some income escapes assessment on account, of the change in method, no objection to that could be tolerated. Certainly this cannot be regarded as a proper much less equitable rule. The principle of choosing a method of accounting carries with it the subsidiary principle of following it from year to year. Even it a bona fide change is necessary, the, change can be made but should not by itself result in some taxable income not getting taxed altogether. 27. One question which would arise is whether this addition should be treated as a closing stock valuation and on that score the opening stock of the next year increased to this extent with the result that the profit of the next year goes down. If in a continuing account the stock valuation were to be disturbed for one year and the necessary adjustment is not made in every subsequent year, the profit in every succeeding year cannot be properly co....
X X X X Extracts X X X X
X X X X Extracts X X X X
....eceipt of the order and noted the contents but 'without prejudice to our rights under the Income-tax Act, 1961'. The ITO forwarded the draft assessment order to-the IAC on 5-7-1977. On 7-7-1977 the IAC wrote to the ITO that, he proposed to issue a notice under section 144A to the assessee. On 13-7-1977 the IAC wrote to the assessee to state its objections against the modifications in the valuation of stock he proposed to make. On 22-7-1977 the assessee appeared before the IAC and filed a detailed reply. With effect from 1-8-1977 under section 125A(1) the concurrent jurisdiction over the assessee's case along with that of the ITO was vested in the IAC. On 24-10-1977 the assessee claimed that the assessment proceedings having been terminated with the issue o f the draft assessment order by the ITO, the IAC was to issue the necessary instructions only in conformity to which the assessment had to be completed. On the basis of the above facts the jurisdiction of the IAC to make the addition of Rs. 58,46,535 in pursuance of the alleged action he took under section 144A(1) was challenged. This point having been decided in favour of the revenue, the matter came before the Tribunal on furth....