TaxTMI 
TaxTMI 
2020 (2) TMI 372
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....d in confirming the disallowance of the claim of provision for salary of Rs. 1,60,00,000/- on the ground that it did not accrue and the same was merely a contingent liability without appreciating the legal precedents as well the facts of the case. II. Whether the Hon'ble ITAT erred in confirming the disallowance of the claim of provision for salary of Rs. 1,60,00,000/-- without appreciating that pay revision of the employees of the Appellant being a Public Sector Enterprise is due every 10 years and with the expiry of one wage settlement or agreement, invariably, there is a time lag when another fresh wage revision agreement is negotiated and entered and this Hon'ble Court in the case of in the case of CIT v. Bharat Heavy Electricals Ltd. 352 ITR 88 (Del) while dealing with a similar provision made on account of wage revision, held, that the deduction claimed for that period cannot 'be termed as contingent because the wage and the probable revision or rates of revision would be within the fair estimation of the employer. III. Whether the Hon'ble ITAT erred in confirming the addition of Rs. 1,28,00,000/- on account of change in accounting policy of ....
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....21st December, 2018. 6. The appellant has preferred the present appeal questioning the correctness of the impugned order, inter alia on the ground that the ITAT has erred in confirming disallowance of the claim for provision of salary of Rs. 1.60 crores, and the addition of Rs. 1.28 crores on account of change in accounting policy with respect to revenue recognition for application fee, front end fees, administrative fee and processing fee of loans. QUESTION I & II: 7. The appellant claimed deduction of Rs. 1.60 crores on account of the provision for revision of pay in the books of account. The deduction was made in light of the Pay Revision Committee (hereinafter referred to as "PRC") appointed by the Government of India. The AO disallowed the claim, holding that the expenditure was purely a provision against unascertained liability and could not be claimed as expenditure for Assessment Year 2007-08. The relevant findings of the AO on this issue are as under: "'Neither, the said liability accrued nor crystallized during the year under consideration. As per the recommendations of the central Sixth Pay Commission/Ministry of Finance etc. It was decided that 60%....
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.... pay revision committee has been appointed by Govt. of India, the report of which is pending. Ad hoc provision of Rs. 1.60 crores has been made in the accounts for the financial year 2006-07. Submitted for approval please. Sd/- ACF(S) 13.10.2007" This note was finally approved on 15.10.2007. The accounts for the year under consideration are from 1.4.2006 to 31.3.2007 and are closed on 31.3.2007. That the deduction claimed is on account of creation of provision. Additionally, the "Provision" is an "an ad hoc provision". Neither the liability for revision of pay accrued during the year before 31.3.2007 nor crystallized before 31.3.2007. Additionally, no payment of the same was made before 31.3.2007. All proposals were made in the month of October 2007 after the close of the accounting year. As per the recommendations of the Central Sixth Pay Commission the assessee should have claimed such expenses of revised pay of its employees only in the assessment year 2009-10 and 2010-11. Hence, the provision rather ad hoc provision of Rs. 1,60,00,000/- is hereby disallowed". [Emphasis Supplied] 8. CIT (A) while dismissing the appeal of the assessee, held tha....
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....d the fact that the provision of salary of Rs. 1.60 crores was an 'ascertained liability' in light of the recommendation of PRC, appointed by Department of Public Enterprises (herein after referred to as "DPE") on 30th November, 2006. He submits that the effective date of commencement of the revised pay is important and not the date of signing of the agreement or its approval granted by DPE. In support of his submission, the learned counsel has relied upon the judgment of this Court in Commissioner of Income-tax vs. Bharat Heavy Electrical, Limited 352 ITR 88 (Delhi);Bharat Earth Movers vs. Commissioner of Income-tax, 245 ITR 428 (SC). Besides, the learned counsel also relied upon the DPE - guidelines relating to wage policies and related matters. 10. Mr. Zoheb Hossain, senior standing counsel for Revenue along with Mr. Deepak Anand on the other hand supported the decision of the ITAT and argued that the provision for salary was not finally ascertained and determined, and thus the appellant could not have made a deduction for the same on ad hoc basis. They relied upon the judgments in Commissioner of Income-Tax, Bombay vs. M/S Morarji Goculdas Spinning and Weaving Co. Ltd., Bomb....
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....Govt. of India, the report of which is pending. In view of this no provision for revised pay has been made in account of 2006-07. The Pay Revision of Public Sector executive was due w.e.f. 01.01.2007 and a pay revision committee has been appointed by Govt. of India, the report of which is pending. Adhoc provision of Rs. 1.60 crores has been made in accounts for the financial year 2006-07. Submitted for approval please. Sd/- ACF(S) 13.10.2007" 12. The pay revision of employees of the appellant, a PSU is due every ten years with the expiry of one wage settlement or agreement. Invariably, there is a time lag between expiry of a wage revision and negotiation of a fresh wage revision. The appellant had made provision of Rs. 1.60 crores on scientific foundation and on the basis of its past experience in its accounts for Financial Year 2006-07. The provision was made for the period 1st January, 2007 to 31st March, 2007 and deduction was claimed on the standpoint that appellant is under an obligation to pay revised pay to its employees with effect from 1st January, 2007, determination whereof, was a matter of time. The appellant, thus had a reasonable basis to make provis....
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....age agreement comes to an end and other is executed, there would be a passage of time, but the new wage agreement would come into effect from the end of the earlier wage agreement. This being so, the liability is certain in the assessee's case though the quantum of such liability is variable and it is further noticed that the assessee has categorically admitted that the provision as done is invariable short of the final agreement and the difference as ultimately emerging are always booked as expenses in the year in which the payment is made. This being so, we are of the view that the provisions made on account of wage revision is not a contingent liability and is allowable in the year of making such provisions made. In the circumstances, this issue is held in favour of the assessee and the addition on this account stands deleted." [Emphasis Supplied] 14. In Bharat Earth Movers (supra), the Supreme Court has held that it is not the date of signing of the agreement or the grant of approval by the Government, but the effective date of commencement of the wage revision under the agreement that is of relevance. The relevant portion of the said judgment reads as under: ....
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....ccrued against the assessee. In light of the facts noted above, the case laws relied upon by the appellant are squarely applicable to the facts and circumstances of the present case. 18. Per contra, the judgments relied upon by the counsels for the respondents are distinguishable on facts. In Morarji Goculdas Spinning and Weaving Co. Ltd. (Supra), the court while considering whether deduction could be claimed on account of excise duty based on show cause notices, rejected the claim of the assessee on the ground that there was no 'demand' by the Excise department and the liability of the assessee was merely contingent, which would not constitute an expenditure for taxation purposes. In Non such Estate Ltd.(Supra), the court while deciding the question of deduction on account of 'managing agency remuneration', held that the assessee is not entitled to the same until liability for the sum for which deduction is claimed has actually accrued. The court observed that the liability would not accrue unless the Central Government conveyed its approval as mandated as per Section 326 of the Companies Act. In Indian Molasses Co. (Private) Ltd (Supra), the court considered whether the paymen....
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....ber, 2006, assured the CAG that the accounting policy shall be reviewed for FY 2006-07 and, accordingly, the Board approved the change in accounting policy in its meeting held on 27th September, 2007. The revised accounting policy recognized the aforementioned fees as on the date of its realization, instead of date of signing of the loan agreement. The AO made an addition of Rs. 1.28 crores on the ground that the change had resulted in under-statement of profits and also because the change was introduced after the closing of the financial year. 21. The CIT (A) confirmed the addition holding that change in accounting policy was not in accordance with the provisions of the Act. The relevant finding of the CIT (A) on this issue is as under: "Regarding the Ground No.2 of the appeal relating to disallowance of Rs.l.28 crores on account of understatement of profit due to change in accounting policy of revenue recognition in respect of processing fees of loans etc., I find that the appellant was regularly following the accounting practice upto 31.03.2007 by which such incomes were accounted for on accrual basis. Subsequently, in view of its Board's decision in the meeting ....
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....of hearing before us, the Ld. AR of the Assessee submitted that the change in the Accounting Policy was made in order to comply with objection / observation of the Audit Party of Comptroller & Auditor General. The Ld. CIT(DR) relied on the orders of the AO and the Ld. CIT(A). (4.2) The position in law is unambiguous. U/s 145(1) of I.T. Act, it is provided that income chargeable under the head "Profits and gains of business or profession" or" Income from other sources" shall, subject to the provisions of sub-section (2), be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee. The Assessee is not permitted to follow cash system of accounting for some of the items while following mercantile system of accounting for rest of the items in computation of income chargeable under the head "Profits and gains of business or profession" or "Income from other sources" as the mixed system of accounting has lost statutory mandate w.e.f. AY 198990 in view of the amendment to Section 145 of I.T. Act. Thus, the Assessee was in clear error of law in changing the method of accounting to selectively adopt cash system of accounting for c....
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....the Ld. CIT(A) on this issue. Therefore, the second ground of appeal in the appeal filed by the Assessee in the ITA No. 5705/Del/2014 is dismissed and the impugned order of the Ld. CIT(A) on this issue, sustaining the aforesaid addition of Rs. 1,28,00,000." [Emphasis Supplied] 23. Learned counsel for the appellant has argued that the appellant follows mercantile system of accounting and under the said system of accounting, unless there is a reasonable certainty of its realization, income cannot be said to have accrued. The Tribunal erred in confirming the addition without appreciating AS-9, issued by ICAI which provides for recognition of income on accrual basis only when there is a certainty of its realization. The change in accounting policy had been duly reflected in detailed note for comparing the existing and revised policy and the financial impact due to the said change was shown in 'Schedule T' of the financial statements. It was also urged that the change is revenue neutral and there is no loss to the Department as the same has been realized in the Financial year 2008-09, and has been offered to tax in the AY 2009-10. In support of his submission, counsel has relied u....
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....ipt of income, even though an entry to that effect might, in certain circumstances, have been made in the books of account." 18. "The above passage was cited with approval in Morvi Industries Ltd. v. CIT (Central), [1971] 82 ITR 835 (SC) in which this Court also considered the dictionary meaning of the word "accrue" and held that income can be said to accrue when it becomes due. It was then observed that: "...........the date of payment ............ does not affect the accrual of income. The moment the income accrues, the assessee get vested with the right to claim that amount even though it may not be immediately." 19. "This court further held, and in our opinion more importantly, that income accrues when there 'arises a corresponding liability of the other party from whom the income becomes due to pay that amount." 20. "It follows from these decisions that income accrues when it becomes due but it must also be accompanied by a corresponding liability of the other party to pay the amount. Only then can it be said that for the purposes of taxability that the income is not hypothetical and it has really accrued to the assessee." 21."In so....
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....icer passed the assessment order. XXXX In the instant case, learned counsel for the Revenue is not in a position to demonstrate or satisfy us that due to the change of accounting method adopted by the respondent/assessee, which is permissible in law as per the ratio laid down in (i) CIT v. Matchwell Electricals (I.) Ltd.[2003] 263 ITR 227 (Bom.) and (ii) Hela Holdings (P.) Ltd. v. CIT[2003] 263 ITR 129 (Cal.),the Revenue suffered any loss or such a change of methodology attracts tax evasion. Concededly, there is no finding to that effect in the assessment order or in the order of the Commissioner of Income-tax (Appeals). The change of method of accounting of overdue charges from the mercantile basis to cash system, method of accounting, as followed by an assessee, does not create any income; but the method of accounting only recognizes income. Therefore, either to apply the accrual system or cash system, recognition of income is a paramount factor. In the present case, the disputed amount is the overdue charges receivable by the assessee from various parties on the basis of hire-purchase and lease agreements. As per the terms of the agreements, overdue charges are....
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.... and is in fact, incorporated in the ICAI's Accounting Standards on Disclosure of Accounting Policies being accounting standards which is a kind of guidelines for accounting periods starting from 1-4-1991. It is a cardinal principle of law that the difference between capital recovery and interest or finance income is essential for accounting for such a transaction with reference to its substance. If the same was not carried out, the respondent would be assessed for income tax not merely on revenue receipts but also on non-revenue items which is completely contrary to the principles of the IT Act and to its scheme and spirit. XXXX 18. Without a doubt, in a catena of cases, this Court has discussed the relevancy of the Guidance Note. While dealing with one of such matters, this Court, in CIT v. Punjab Stainless Steel Industries [CIT v. Punjab Stainless Steel Industries, (2014) 15 SCC 129] held as under: (SCC p. 134, para 17) "17. So as to be more accurate about the word "turnover", one can either refer to dictionaries or to material which are published by bodies of accountants. The Institute of Chartered Accountants of India (hereinafter referred to as ....
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....n of such accounting standards." [Emphasis Supplied] 29. The Supreme Court has held that accounting process is to ensure the real income from the transactions in the form of revenue receipts is accounted for the purpose of income tax. The application of accounting standard is to show fair and real income which is liable to tax under the Act. The accounting standards of ICAI lays down that when uncertainties exist regarding determination of the amount in its collectability, the revenue shall not be treated as accrued and shall not be recognized until collection. It would be apposite to extract the relevant portion of the AS-9, issued by ICAI with regards to the effect of uncertainties on revenue recognition. The same reads as under: "9.1 Recognition of revenue requires that revenue is measurable and that at the time of sale or the rendering of the service it would not be unreasonable to expect ultimate collection. 9.2 Where the ability to assess the ultimate collection with reasonable certainty is lacking at the time of raising any claim, e.g., for escalation of price, export incentives, interest etc., revenue recognition is postponed to the extent of u....
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.... resulted on account of change in accounting policy by recognizing the realised revenue, instead of the assumed revenue on the date of signing of loan agreement. The tax authorities fell in error by laying emphasis on the impressibility of change in accounting in the context of section 145 of the Act. The conspectus of the case law cited by both parties is that, even for an income to be recognized under mercantile law, it is necessary that income should have accrued with certainty. It is trite law that there can be no liability to pay Income Tax on hypothetical income. The regular method of accounting determines only the mode of computing the taxable income and the particular stage at which the tax liability arises. If there is no income, then merely because the assessee had followed the mercantile system of accounting and has in his books of account reflected certain receipt or credits or debits in a particular way, it cannot be said that income has accrued. The position of law on "accrual of income" is well settled. Income accrues only when there is a right to receive such income, regardless of the fact if it is actually received or not. To decide this crucial question, one would....