2025 (5) TMI 205 - AT - Income Tax

Estimation of profit after rejecting the books of accounts - estimating @ 25% GP - As argued AO without pointing out any defect and lacuna in the audited books of account documentary evidence proceeded to reject the books of account and estimated the profit in arbitrary manner. HELD THAT - While the assessee did not file a return of income within the prescribed time and failed to maintain or submit certain evidentiary documentation it is also observed that a significant portion of transactions approximately 72% were conducted through banking channels. Additionally the assessee s business was previously run by his late father under the trade name Mohammed Ameen Contractor which continues to be used justifying the documents presented in that name. We find merit in the contention that estimating a 25% GP is disproportionate and inconsistent profit margins in past years and the fact that increased turnover does not necessarily correlate with increased profit percentage particularly in labour-intensive contracts. The assessee had declared a net profit of around 6.21% which though on the lower side is not entirely unsubstantiated considering the nature of the business and economic realities. It is also pertinent to mentioned similar GP and NP ratio has been declared by the assessee in the previous years also. Therefore find it reasonable and in the interest of justice to partly allow the appeal on merits by directing that the net profit be estimated at 9% of the gross receipts which represents a fair and reasonable based on the facts and surrounding circumstances. Appeal of the assessee is partly allowed.

1. ISSUES PRESENTED and CONSIDERED

The core legal questions considered by the Tribunal were:

(a) Whether the rejection of the assessee's books of accounts under section 145(3) of the Income Tax Act was justified in the absence of essential documentation and incomplete financial records.

(b) Whether the estimation of gross profit at 25% by the Assessing Officer (AO) was reasonable and justified, given the nature of the assessee's business and historical profit margins.

(c) Whether the rental income of Rs. 3,92,217/- received from ACC Limited, reflected in Form 26AS and subject to TDS under section 194I, should be treated as income from other sources or included in the business turnover.

(d) Whether the levy of interest under sections 234A, 234B, and 234C of the Act required separate adjudication.

(e) Whether the validity of the notice issued under section 148 of the Act and the consequential assessment order required adjudication, given the assessee's challenge.

2. ISSUE-WISE DETAILED ANALYSIS

(a) Rejection of Books of Accounts under Section 145(3)

The legal framework under section 145(3) permits the AO to reject the books of account if they are not maintained properly or do not disclose the true income. The AO found that the assessee failed to furnish essential documents such as agreements for labour supply, ledger accounts, invoices for material purchases, detailed payment records to labourers with PAN details, reconciliation statements, and a bank book with narration. The cash book and other documents were in the name of the late father's trade name, "Mohammed Ameen Contractor," which the assessee claimed was continued post his father's demise.

The AO thus rejected the books due to incomplete and inadequate records, late filing of audit reports, and absence of proper documentary evidence. The assessee contended that the trade name continuity justified the documents and that majority of transactions were through banking channels. The Tribunal acknowledged the nature of the business, which involved cash transactions and payments to uneducated labourers without PANs, and accepted the trade name explanation. However, the Tribunal did not find sufficient grounds to wholly restore the books but considered the nature of records in assessing profit estimation.

(b) Estimation of Profit at 25% Gross Profit Rate

The AO estimated gross profit at 25%, significantly higher than the declared 11.67%, based on the increase in turnover by 150% and the nature of the business. The AO's approach was to estimate profits arbitrarily due to rejection of books.

The assessee argued that the AO's estimation was arbitrary and without basis, emphasizing that profit margins historically declared were lower and consistent, and that increased turnover does not necessarily lead to higher profit percentages in labour-intensive contracts.

The CIT(A) found the AO's estimation arbitrary and unreasonable, noting that the appellant had never recorded such a high gross profit rate in the past. The CIT(A) directed the AO to adopt a net profit rate of 12.5% instead of 25% gross profit, considering the service-based nature of the business and partial evidence.

The Tribunal further refined this approach, holding that a 25% gross profit was disproportionate and inconsistent with past profit margins and business realities. It noted that the declared net profit of approximately 6.21% was plausible and that a fair and reasonable net profit rate of 9% on gross receipts should be adopted. This approach balanced the absence of complete records with the need to avoid arbitrary estimation.

(c) Treatment of Rental Income of Rs. 3,92,217/-

The AO treated the rental income received from ACC Limited as income from other sources, as it was not declared separately by the assessee despite being reflected in Form 26AS and subject to TDS under section 194I.

The assessee contended that the hire charges for the tractor used in contract execution were included in the total turnover and should not be treated as separate income from other sources.

The CIT(A) accepted the assessee's contention, holding that the hire charges formed part of the business turnover and should not be treated as income from other sources. The Tribunal concurred with this view, directing deletion of the addition made on this account.

(d) Levy of Interest under Sections 234A, 234B, and 234C

The assessee raised grounds challenging the levy of interest under sections 234A, 234B, and 234C. However, the Tribunal noted these were consequential to the assessment and did not require separate adjudication. Hence, these grounds were dismissed as infructuous.

(e) Validity of Notice under Section 148 and Consequential Assessment Order

The assessee challenged the validity of the notice issued under the unamended provisions of section 148 and the consequential assessment order. However, the Tribunal observed that the assessee did not press these grounds seriously and did not object to proceeding on merits. Therefore, the Tribunal declined to adjudicate on these legal grounds.

3. SIGNIFICANT HOLDINGS

The Tribunal established the following key principles and determinations:

"The AO's estimation of 25% gross profit was arbitrary and unreasonable, especially considering the nature of the appellant's business, which is primarily service-based involving labour contracts and machinery hire."

"In the absence of complete evidence and return filing for the relevant assessment year, adopting a reasonable net profit percentage would serve the ends of justice."

"It is reasonable and in the interest of justice to partly allow the appeal on merits by directing that the net profit be estimated at 9% of the gross receipts, which represents a fair and reasonable basis on the facts and surrounding circumstances."

"The hire charges of Rs. 3,92,217/- formed part of the total turnover and should not be treated as income from other sources."

"The grounds relating to levy of interest under sections 234A, 234B, and 234C, being consequential, do not require separate adjudication."

"The legal grounds challenging the validity of the notice under section 148 and consequential assessment order were not pressed and hence do not require adjudication."

In conclusion, the Tribunal partly allowed the appeal by directing a net profit estimation at 9% of gross receipts, deleted the addition relating to rental income, and dismissed other grounds as infructuous or not requiring adjudication. This approach balanced the need to uphold tax compliance with fairness given the nature of the business and evidentiary limitations.

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