ORDER
Shri G. L. Garoo, Accountant Member
1. The revenue has filed appeal against the order passed by the CIT(A) vide A. No. CIT(A)/IT/BTI/403/91-92 dated 20-3-1992 and taken following grounds in appeal :
“1. That on the facts and in the circumstances of the case the ld. CIT(A) has erred in allowing assessee claim on depreciation and interest after net profit rate has been applied in view of the decision of Hon’ble Allahabad High Court in the case of Saraya Engg. Works reported in 168-ITR-455.
2. That it is prayed that the order of the ld. CIT(A) be set aside and that of the Assessing Officer be restored.”
2. The appellant is a MES Contractor and during the assessment proceedings, the Assessing Officer enumerated various defects in maintenance of accounts and accordingly invoked proviso to section 145(1) and applied net profit rate of 10%. He also observed that he has considered the interest as well as depreciation while applying net profit rate of 10%.
3. Agitated against the order passed by the Assessing Officer the appellant filed appeal before the CIT(A). The ld. CIT(A) gave his findings in para – 5 of his order which are reproduced as follows :-
“5. I have given careful consideration to the arguments of the ld. counsel and I have also looked into the assessment orders for earlier years. For the assessment years 1986-87 to 1989-90 a rate of 10% was considered reasonable and claim on account of depreciation as well as interest was also allowed. For the year under consideration the Assessing Officer has applied a rate of 10% but claim on account of interest and depreciation has been disallowed. The Assessing Officer has also referred to the cases of M/s. Madan Lal Bansal & Co. and M/s. Megh Raj Bansal & Co. decided by the CIT(A) where rate of 12.1/2% was applied but depreciation was allowed. The facts of both the cases referred to by the Assessing Officer were entirely different and higher rate was applied in the case of M/s. Madan Lal Bansal & Co. since MES had supplied coal at reduced rate for purchasing bricks and in the case of M/s. Megh Raj Bansal & Co. the rate was upheld since the assessee had not produced muster-rolls before me in spite of specific opportunity granted. Further while applying the rate the Assessing Officer had already given a rebate of Rs. 50,000 on account of income earned from truck. In Bhatinda Range a rate of 10% has been applied in the cases of Building Contractors and in view of the past history of the case, a rate applied at 10% is considered to be fair and reasonable and is upheld. The reliance placed by the ld. counsel on the Delhi cases is of no avail since in the earlier years a rate of 10% has been applied and it was accepted by the assessee. No appeal was filed for assessment years 1986-87 to 1989-90.
As regards the claim of depreciation I have examined the CBDT Circular dated 31-8-1995, the heading of which is “Estimation of net profit and allowability of depreciation”. In para-2, the CBDT has stated that if it is considered that the net profit should be estimated, it should be estimated subject to the allowance of depreciation and depreciation should be deducted therefrom. In para-3, it has been stated that even where best judgment assessment is made the above procedure should be adopted provided the required particulars have been furnished. Only where particulars are not furnished and no claim for depreciation has been made, the ITO should estimate the income without the depreciation allowance. The plea of the ld. counsel is also correct that benevolent circulars of the Board are binding on the assessing authorities. This view has been upheld by the Bombay High Court in the case of Kirtilal Jainsingh Lal & Co. [1980] 121 ITR 279.
As regards the reliance placed on the case law-115 ITR 524 and 117 ITR 618 (supra), it may be mentioned that there is no discussion regarding allowance of depreciation oil otherwise in those cases. As regards the case reported as 168 ITR 455 the depreciation was not allowed in that case by the Assessing Officer since the assessee had not furnished full details. The case of the appellant is entirely on different footings and details of depreciation were fully furnished along with the return. Moreover, the appellant has been allowed depreciation as well as interest in earlier years and there is no new factor during the year under consideration for disallowance of depreciation claim as also in the interest. Moreover, it may be mentioned that depreciation is not an expenditure but a statutory allowance.
In view of the foregoing discussion, it is held that the assessee is entitled to the claim of depreciation and interest and Assessing Officer is accordingly directed to allow depreciation after verification of the particulars of assets. He should also allow interest after verification that the loans taken are utilised for the purpose of business.”
4. Aggrieved against the order passed by the CIT(A) the department is in appeal before us. The ld. DR has pleaded that after applying net profit rate, the CIT(A) should have not allowed the claim of interest and depreciation because the same has resulted into abnormal situation where net profit rate at considerably lower figure was in fact, accepted by the ld. CIT(A). The ld. counsel has also relied on the decision of Saraya Engg. Works (P.) Ltd. v. CIT [1987] 168 ITR 455/31 Taxman 165 (All.). The ld. counsel of the appellant pleaded that the Assessing Officer was not justified in invoking proviso to section 145(1). We have gone through the records and have also taken note of para-2 of ld. CIT(A) order. In para-A2 of the CIT(A)’s order, the ld. CIT(A) has mentioned that the appellant has only pressed Ground No. 1 and other grounds were not pressed and the ground relates to application of net profit rate. Regarding application of net profit rate, there is no dispute whatsoever because the ld. CIT(A) is also applying net profit rate of 10% but he is allowing claim of depreciation at Rs. 4,79,677 and interest amount at Rs. 1,02,567. The ld. counsel of the appellant further pleaded that for the assessment years 1986-87 to 1989-90, the appellant has shown gross profit rate varying from 8.55% to 8.89% whereas the department has applied gross profit rate of 10%. The ld. counsel has pleaded that even though application of gross profit rate of 10% has been applied but to buy peace they have not filed appeal against the application of gross profit rate. The ld. counsel has also submitted that in case of maintenance of accounts, the CBDT has directed that the depreciation should be allowed to such cases. The ld. counsel has also relied on the cases of M/s. R. S. Builders and M/s. Babu Ram Gupta, New Delhi, where rate varying from 5.30% to 7% has been accepted by the department.
5. We have heard both the parties and we are of the opinion that the issue before us is limited only to the finding given by the CIT(A) in the impugned order regarding allowing depreciation and interest as claimed by the appellant. The ld. CIT(A) is very clear in his findings that the rate of 10% is to be applied in all the Building Contractors cases and also similar rate has been applied in the case of the appellant in earlier years.
6. We are of the opinion that the ld. CIT(A) has made two basic errors in his observation. The first error is whether on the facts and circumstances of the case the ratio of Hon’ble Allahabad High Court in the case of Saraya Engg. Works (P.) Ltd. (supra) are applicable on the facts and circumstances of the case. The second error was to allow interest and depreciation after application of net profit rate by the Assessing Officer.
7. He is in total agreement with the Assessing Officer so far as the maintenance of books of account are concerned. He is in agreement that on the facts and circumstances of the case proviso to section 145(1) is clearly applicable. After coming to the conclusion that the trading results are not prone to verification, the Assessing Officer is left with only one alternative to estimate the income of the assessee in the most appropriate and reasonable manner. In such type of cases, the net profit rate or G.P. rate can be applied or the Assessing Officer can adopt any method of estimation and work out the income from profession or business. But the method adopted must be reasonable and logical. In all civil contract cases, if accounts are not maintained or defective accounts are maintained, a net rate of 10% is applied which is admitted by the ld. CIT(A) in his order. In those cases, neither depreciation nor interest nor any other expenditure debitable to profit & loss account are separately allowed. By allowing expenditure to the tune of Rs. 4,79,667 on account of depreciation and Rs. 1,02,567 on account of interest, net profit rate of approximately 3.5% has been applied consequential to the order of the ld. CIT(A). This rate itself is absolutely abnormal. There is no evidence on record whatsoever that there were abnormal conditions prevailing with the appellant to earn such a low net profit by executing the contract.
8. The ld. DR has pleaded that in earlier years and subsequent years, net rate of 10% subject to depreciation and subject to allowing of the interest, has been adopted by the Assessing Officer. We can assume that the principle of res judicata is squarely applicable to the Income-tax proceedings but the reasons prevail with the Assessing Officer in subsequent years does not make any material change because there can be hundred and one reasons for their action. So far as, we are concerned, we have to see the correctness of the action of the Assessing Officer during the year under consideration.
9. The ld. CIT(A) and the ld. counsel in their pleadings have vehemently discussed in Saraya Engg. Works (P.) Ltd. (supra) and observed that the facts and circumstances of the case are not applicable in the case of the appellant. The Hon’ble Allahabad High Court was dealing with a issue whether the assessee a Private Ltd. Co. filed return showing profits which were low according to the Assessing Officer’s observation and consequently rate of 10% was applied. The appellant claimed depreciation on vehicles and the Assessing Officer observed that the depreciation is not allowed, because assessee has not filed full details. During the appellate proceedings, the Tribunal held that while applying net rate, the Assessing Officer has already taken into consideration the element of depreciation and once depreciation has been taken into consideration, the assessee could not get double advantage. The Hon’ble High Court has given following finding :-
“To us, it appears that if the whole of the order of the Income-tax Officer is read, a possible view to be taken is that as the depreciation had been allowed on the contract work, no claim for further amount on this head was entertainable. If the observations of the Income-tax Officer relied upon by the assessee’s counsel and extracted are read in isolation, the same would lead to an incorrect result. The ITO also rejected the claim of depreciation of the assessee on the same grounds which found favour with the Appellate Assistant Commissioner and the Tribunal. We, therefore, find no merit in this submission.
Consequently, we hold that the Tribunal was justified in rejecting the claim of depreciation on the new trucks purchased in the year under consideration.”
It is quite clear from the findings of the Hon’ble High Court that the entire order of the Assessing Officer has to be taken into account and the order of the Assessing Officer cannot be bifurcated and segregated into parts. After analysing the entire order, the holistic view requires to be taken. The Assessing Officer has categorically discussed in his order that if he will take note of the net rate shown by the appellant the same will be absolutely abnormal because the net profit rate shown by the appellant will be. 27%. He has also observed that the appellant is having its own plant and machinery and then under those circumstances, which will give more advantage to the appellant the net profit rate will be applied at 12.5%. He has also taken note that during the year, claim of depreciation is claimed on the new machinery. The appellant has claimed 50% depreciation on some items which can also be debited to profit & loss account as an expenditure. Apparently, even though nothing is on record, but apparently from the order of the Assessing Officer, it is clear that the appellant is also using transport vehicles for the execution of the contract. The ld. CIT(A) has not even taken note whether the depreciation claimed is allowable or in accordance with the rules. He has simply gone on ritualistic and in legal manner. The second aspect to be looked into is that once net rate is applied it is not open to the Assessing Officer to allow any other claim debited to profit & loss account. Depreciation and interest are definitely items which are debited in profit & loss account before the net profit is arrived at. It could have been the case of the appellant to justify the net profit rate shown as. 27% or to justify the net profit rate applied by the ld. CIT(A) at 3.5% approximately. But no such discussion is available either before the ld. CIT(A) or before us.
10. The ld. DR as well as ld. counsel of the appellant has drawn our attention to the circular of CBDT regarding claim of depreciation. The logical conclusion of the circular is that in case profits are estimated, the same should be made subject to the allowance of depreciation and the appellant should file complete details of the claim of depreciation. One has again to look into the power given by the statute to the Assessing Officer when he invoked proviso to section 145(1). The first proviso to section 145(1) gives power to the Assessing Officer to decide whether or not income can properly be deducted from the accounts maintained by the assessee, even if the accounts are correct and complete. In the case of CIT v. British Paints India Ltd. [1991] 188 ITR 44/54 Taxman 499 the Supreme Court has held that whatever may be the method of accounting adopted by the assessee he should disclose true picture of profits and gains. The Court has further held that if the assessee does not give true picture of his profit then the Assessing Officer is duty-bound to adopt any such computation as he deemed appropriate for proper determination of the true income of the assessee. It is quite clear that law settled by the Hon’ble Supreme Court is to be adopted by all judicial authorities working under the jurisdiction of Hon’ble Supreme Court. The Hon’ble Supreme Court has observed as follows :
“The question to be determined by the Assessing Officer in exercise of his power under this provision is whether net income can properly be deducted from the accounts maintained by the assessee, even if the accounts are correct and complete to the satisfaction of the officer and the income has been computed in accordance with the method of accounting regularly employed by the assessee. What is to be determined by the officer in exercise of his power is a question of fact i.e. whether or not income chargeable under the Act can property be deduced from the books of account, and he must decide the question with reference to the relevant material and in accordance with the correct principles. In the words of Viscount Haldane, “it is plain that the question of what is or is not profit or gain must primarily be one of fact, and of fact to be ascertained by the tests applied in ordinary business.” (Sun Insurance Office v. Clark [1912] AC 443, 455 (HL). Referring to section 13 of the Indian Income-tax Act, 1922 which correspond to section 145 of the Income-tax Act, 1961, this Court had stated in Chhabildas Tribhuvandas Shah v. CIT [1966] 59 ITR 733, 737).
We may point out that we are not concerned with the correctness of the conclusion and we are only concern with the question whether there is any material in support of the finding of the Appellate Tribunal. In cases involving, the applicability of the proviso to section 13, the question to be determined by the ITO is a question of fact, namely, whether the income profits and gains can or cannot be properly deduced from the method of accounting regularly adopted by the assessee. There is nothing special about this question of fact, and generally the only question of law that can possible arise is whether there is any material for the finding.
It is only the right but the duty of the Assessing Officer to consider whether or not the books disclose the true state of accounts and the correct income can be deduced therefrom. It is incorrect to say, as contended on behalf of the assessee, that the officer is bound to accept the system of accounting regularly employed by the assessee the correctness of which had not been questioned in the past. There is no estoppel in these matters and the officer is not bound by the method followed in the earlier years.
Section 145 of the Income-tax Act, 1961, confers sufficient powers upon the officer – may it imposes a duty upon him – to make such computation in such manner as he determines for deducing the correct profits and gains. This means that where accounts are prepared without disclosing the real cost of the stock-in-trade, albeit on sound expert advice in the interest of efficient administration of the company, it is the duty of the ITO to determine the taxable income by making such computation as he thinks fit.
Any system of accounting which excludes, for the valuation of the stock-in-trade, all costs other than the cost of raw materials of the goods-in-process and finished products, is likely to result in a distorted picture of the true state of the business for the purpose of computing the chargeable income. Such a system may produce a comparatively lower valuation of the opening stock and the closing stock thus showing a comparatively low difference between the two. In a period of rising turnover and rising prices, the system adopted by the assessee, as found by the Tribunal, is apt to diminish the assessment of the taxable profit of a year. The profit of one year is likely to be shifted to another year which is an incorrect method of computing profits and gains for the purpose of assessment. Each year being a self-contained unit, and the taxes of a particular year being payable with reference to the income of that year, as computed in terms of the Act, the method adopted by the assessee has been found to be such that income cannot properly be deduced therefrom. It is, therefore, not only the right but the duty of the Assessing Officer to act in exercise of his statutory power, as he has done in the instant case, for determining what, in his opinion, is the correct taxable income.”
11. Keeping in view the law laid done by the Hon’ble Supreme Court in the case of British Paints India Ltd. (supra) it is quite clear that the Assessing Officer has to adopt rationale and reasonable method in arriving at the estimate of income, after he gives findings that the accounts maintained by the appellant are neither prone to verification nor reliable. He can use his own method but his method should be rationale and reasonable. In the case of the appellant, we are of the opinion that he has used rationale and reasonable method. It is settled law by the decisions given by the various High Courts and Hon’ble Supreme Court in Brij Mohan’s case that in case accounts of the contractor are not maintained in a manner that true profits can be worked out the application of flat net profit rate, is logical and reasonable method of estimating true profits. The application of net rate is directly dependent on the net rate shown by other cases in the line of the business. Other cases of contractors are being applied net rate of profit without giving them advantage of depreciation as discussed already and some contractors debit various items which relate to profit & loss or trading account expenditure and claimed 100% of depreciation. This method creates an abnormal situation in the net profit. The Assessing Officer had, therefore, taken a proper course by ignoring depreciation and the interest and applied net rate of 10%. The second positive feature in the assessment of the ITO relates to the observation that the net profit rate of the person who uses heavy machinery is going to be more than the net profit of a person who is not using the mechanical aid for execution of Civil Work.
12. We, therefore, find no infirmity in the method adopted by the Assessing Officer. The order of the CIT(A) is reversed and the order of the Assessing Officer is maintained.
13. In the result the appeal of the revenue is accepted.