TMI Blog2008 (1) TMI 646X X X X Extracts X X X X X X X X Extracts X X X X ..... estimated income is not accepted in view of ground Nos. ( i ) and ( ii ) above. 2. The appellant prays for leave to add, alter, amend or vary from the grounds of appeal at or before the time of hearing." 3. The assessee-company is incorporated under the Laws of Malaysia. It got a contract from Haryana Irrigation Department for replacement of Pathrala Dam for a sum of Rs. 18.39 crores in August, 1999. The project was to be completed in 15 months. The work started in the middle of October 1999 and it was completed on 21-8-2001. The assessee is following percentage completion method of accounting in respect of its construction activities as prescribed by Accounting Standard 7 by the Institute of Chartered Accountants of India. In the profit and loss account the assessee claimed net loss of Rs. 5.51 lakhs on receipts of Rs. 1,555.81 lakhs as against a loss of Rs. 2.66 lakhs on receipts of Rs. 413.76 lakhs in the immediate preceding year. Assessing Officer calculated the net loss percentage at Re. 0.35 for the year under consideration as against 0.64 in the immediate preceding year. Assessing Officer further noticed that in financial statements submitted by the assessee it was not ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e than one and half years of proceedings in arbitration no final outcome can be ascertained by the company. Therefore, no concrete percentage of profit can be calculated by the company and at present assessee-company is carrying forward loss of the project at a sum of Rs. 28.43 lakhs approximately. According to the Assessing Officer such contentions of the assessee were not correct as every contract when awarded has an inbuilt profit element and such profit can be calculated only as a percentage of mark up on the expenses or as a percentage on the receipts. In the circumstances Assessing Officer did not accept the losses declared in the financial statements and as according to the Assessing Officer profits could not be correctly determined, the provisions of section 145(3) were resorted to and the net profit was estimated at 10 per cent of the gross receipts which profit was determined at Rs. 1,55,58,117. An appeal was filed before CIT(A). It was submitted that the Assessing Officer has resorted to section 145(3) without giving any show-cause notice to the assessee. It was submitted that "the assessee had submitted information/details called for by the Assessing Officer but the inf ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t element and there cannot be any loss in any project is not correct. It was submitted that rejection of books of account is not justified only on the ground that there was low or no profits shown by the assessee without any other defect being found in the books of account. Reference was made to various decisions and that the Assessing Officer was not justified in rejecting the books of account and estimating the net profit at 10 per cent purely on guess basis. Ld. CIT(A) has considered these submissions of the assessee. He observed that the main reason for rejection of books by the Assessing Officer is that the assessee had not quantified the excluded profit from the project and has also not furnished the exact percentage of completion of the project as on the accounting date. Assessing Officer presumed that every contract, when awarded, has an inbuilt profit element. The ld. CIT(A) referred to the provisions of section 145 which are substituted by the Finance Act, 1995 with effect from 1-4-1997 and referring to sub-section (3) of section 145, it is observed by the ld. CIT(A) that accounts of the assessee can be rejected only on three grounds, firstly, where the Assessing Officer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... assessee had not employed AS-7 properly, without pointing put any material defects in the entries recorded in the books of account maintained by the assessee. Ld. CIT(A) perused year-wise accounts furnished by the assessee and found that the assessee had suffered loss in all these three years. Table as drawn at page 8 of the order of CIT(A) is reproduced below for the sake of convenience: Year ending 31-3-2000 31-3-2001 31-3-2002 Rs. Rs. Rs. ( a ) Turnover including escalation income 4,13,40,944.00 15,53,89,881.00 4,96,58,484.00 ( b ) Other income 35,481.00 1,91,290.16 4,71,367.00 Loss (2,65,882.76) (5,55,439.83) (18,30,432.00) 6. From the above facts it was noticed by the ld. CIT(A) that it is evidently clear that on completion of projects the assessee has incurred losses and even a particular percentage of project completed as on the accounting date under consideration is taken then there would be a loss and there is no question of computing profit on the percentage completion basis. The ld. CIT(A) also has mentioned that lo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing standard AS-7 which reads as under : "13. A claim is an amount that the contractor seeks to collect from the customer or another party as reimbursement for costs not included in the contract price. A claim may arise from, for example, customer caused delays, errors in specifications or design and disputed variations in contract work. The measurement of the amounts of revenue arising from claims is subject to a high level of uncertainty and often depends on the outcome of negotiations. Therefore, claims are only included in contract revenue when : ( a )negotiations have reached an advanced stage such that it is probable that the customer will accept the claim; and ( b )the amount that it is probable will be accepted by the customer can be measured reliably." 9. Referring to these paras it is observed by the ld. CIT(A) that no amount could be measured reliable which will be probably accepted by the Irrigation Department. Hence it was not possible to recognize any revenue regarding the claim made by the assessee pending before Arbitral Tribunal. He found that even the award given by Arbitral Tribunal was challenged in the court and the matter was pending and the asse ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Mohammed Meerakhan v. CIT [1969] 73 ITR 735 to contend that income-tax authorities have power to estimate profits by treating unsold stock in trade and value it according to normal accountancy practice. The ld. DR referred to page 13 of the order of CIT(A) wherein ld. CIT(A) has observed that the assessee was justified in recognizing the loss in the year under consideration on the work performed under the contract till the end of the year under consideration and the Assessing Officer did not bring any legitimate material on record from where reasonable inference could be drawn that the assessee had earned profit during the year. He contended that accounts were not prepared by the assessee on the basis of recognized system of accounting. Therefore, ld. CIT(A) was wrong in observing that the assessee was justified in recognizing loss in the year under consideration. The system adopted by the assessee did not lead to correct computation of income, therefore, Assessing Officer was right in estimating net profit rate at 10 per cent by applying the provisions of section 145(3). Regarding quantification of net profit rate at 10 per cent ld. DR submitted that it was the rate estimated ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... erring to these figures it was pleaded that the assessee has never earned profit out of such contract and there was no basis for the Assessing Officer to take the net profit of 10 per cent. The ld. AR referred to the decision of Kerala High Court in the case of Koyammankutty v. Fourth Addl. ITO [1965] 58 ITR 871 to contend that before rejection of books of account and before making flat rate the assessee must be given an opportunity to state his case. He referred to the decision of Hon ble Supreme Court in the case of Brij Bhushan Lal Parduman Kumar v. CIT [1978] 115 ITR 524 to contend that the authority making a best judgment assessment must make an honest and fair estimate of income of the assessee and though arbitrariness cannot be avoided in such estimate the same must not be capricious but should have a reasonable nexus to the available material and the circumstances of the case. Thus the ld. AR pleaded that there was no basis for the Assessing Officer to adopt 10 per cent net profit rate as no profit whatsoever was earned by the assessee from the contract. 12. In rejoinder the ld. DR pleaded that both the case laws relied upon by the ld. AR are not applicable to t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... stablished law the estimate made must be honest and fair. There must be existence reasonable nexus between the available material and the estimate. Thus the only question which would survive for determination is whether there existed some material on the basis of which it can be said that application of net profit rate of 10 per cent was appropriate. It has already been pointed out that according to the accounts maintained by the assessee there was huge loss in the contract. The fact that assessee has incurred loss in the contract was not only placed before Assessing Officer but before CIT(A) also. All the facts were available with the Assessing Officer regarding the work contract performed by the assessee. It has been the contention of the assessee that it had incurred losses while performing the contract. No material has been brought on record by the Assessing Officer that such contention of the assessee was contrary to the facts. Addition has been made without indicating any material or basis on which it could be decided that application of net profit rate of 10 per cent was appropriate. On the contrary, material is on the record to show that the assessee has incurred loss in pe ..... X X X X Extracts X X X X X X X X Extracts X X X X
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