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TMI Blog1957 (12) TMI 25X X X X Extracts X X X X X X X X Extracts X X X X ..... first twelve months of public exhibition." We shall, therefore, confine ourselves, as far as possible, to the facts relevant to that question. 2. The Gemini Pictures Circuit Limited, Madras, the assessee, is a private limited company, incorporated on 1st April, 1946, for the purpose of taking over the business of " Gemini Pictures Circuit " owned till then by S. S. Vasan. It carries on business as producers, distributors and exhibitors of motion pictures. 3. The profit of film producers has to be ascertained on more or less lines identical to ordinary manufacturers. The entire outlay during a year on production is considered as an expense. In practice, the cost of finished films ready for release or exhibition alone need be considered for this purpose, as the outlay on films in the process of production during the year is kept in suspense and carried forward at cost as an asset of the business pending its completion. 4. It is an accepted fact that a film, from the time that it is ready for release, has a market value. Such market value, however, diminishes with its exhibition. As it is exhibited more and more, its value is less and less. 5. As the full cost of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e Brothers " (Tamil version) and " Nishan " (Hindi version) was completed at a cost of ₹ 10,13,726 and released for exhibition throughout India on 21st October, 1949. While the aforesaid full cost was charged to the trading account of the assessee, it was valued on 31st December, 1949, the end of the aforesaid " previous year ", at ₹ 4,04,925, being 40 per cent. of the aforesaid cost thereof, after an actual exhibition for only 72 days. The Income-tax Officer refused to accept this value for, inter alia, the following reasons: (i) the amortisation rates of 60 per cent., 25 per cent. and 15 per cent. for the first, second and third year respectively on a film's life, generally allowed by the Department to the film industry, are annual rates and the film in question, having been exhibited only for 72 days in the year, a pro rata amortisation alone deserves to be considered in the valuation of the film as on 31st December, 1949 ; and (ii) not being of the nature of method of accounting, consistency in the method of valuation of the stock-in-trade can be no argument for its continuation when it is found to be incorrect. 10. He consequently en ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rivate limited company, is the assessee in question and the reference is in relation to the assessment year 1950-51. The company was incorporated on 1st April, 1946, and took over the business of Gemini Pictures Circuit, a proprietary concern, owned by Shri S.S. Vasan. The company has been carrying on business as producers, distributors and exhibitors of motion pictures. The company submitted a return for the assessment year 1950-51 disclosing the net income of ₹ 28,67,771 for the previous accounting year--the calendar year 1949. In the year of account the assessee completed the production of a Tamil picture "Strange Brothers" with its Hindi version under the name "Nishan" at a total cost of ₹ 10,13,726 (Rs. 10,12,314?) and these were released for public exhibition on October 21,1949), from which date up to the end of the account year (December 31, 1949), they yielded a total collection of ₹ 9,50,189 (Rs. 9,50,192?). The cost of production was debited to the trading account and similarly the collections were credited to the same account. At the end of the account year the assessee valued the films at 40 per cent. of the total cost of production ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... represents the average, 60 per cent. depreciation was allowed for the first year, 25 per cent. for the second and 15 per cent. for the third. In other words, at the end of the first year the film was valued at 40 per cent. of its total cost of production and 15 per cent. at the end of the second year and nil at the end of the third year. That this again represented correctly by large the depreciation of an average picture is not in dispute either. This method of valuation had the sanction of departmental instructions issued by the Central Board of Revenue in D.O.R. Dis. No. 178-I.T./37 dated May 13, 1937. In the circular of the Central Board of Revenue they stated: "The Central Board of Revenue has decided that films in the hands of their producer and of their purchaser should be treated as stock-intrade. In arriving at the closing stock valuation the assessee's figure should be accepted if it appears reasonable. In this connection it should be borne in mind that since our rates are on a sliding scale and losses are not allowed to be carried forward an assessee may be tempted to manipulate this figure. As a general rule the greatest determination in the value of a film t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... priate evidence that the earning capacity of the film was extinguished much earlier than over the period presumed in the above formula. If, for example, an assessee is able to prove that the film had no real life beyond the first year and there were no receipts in respect thereof in the next year, the entire cost of the film should be allowed in the first year. It should however be carefully noted that the percentages mentioned in the standard formula are percentages to be allowed strictly on time-basis, for any other method may open the way for tax evasion. A person may purchase a film towards the end of the year and claim to be allowed 60 per cent. of the amount in that very year. With a view to safeguarding against such possibilities, the rates of 60 per cent., 25 per cent. and 15 per cent. should be treated as rates per annum. If, for example, the account year of the film producers is the year ended December 31, 1947, and a film produced during that year came to be exhibited on October, 1, 1947, the allowance for amortisation should be as follows: Accounting year Rate of amortisation 1947 15 % (1/4 of 60%). 1948 45 % (3/4 of 60%) plus 6% (1/4 of 25%) Accounting year R ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n which the same was released for public exhibition, the Income-tax authorities are entitled to change the said methods and value the firm at costs reduced by a sum calculated on time basis at the rate of 60 per cent. for the first twelve months of public exhibition." Section 13 of the Income-tax Act enacts: "13. Method of accounting.--Income, profits and gains shall be computed, for the purposes of sections 10 and 12, in accordance with the method of accounting regularly employed by the assessee: Provided that, if no method of accounting has been regularly employed, or if the method employed is such that, in the opinion of the Income-tax Officer, the income, profits and gains cannot properly be deduced therefrom, then the computation shall be made upon such basis and in such manner as the Income-tax Officer may determine." The contentions urged before us by learned counsel for the assessee were two-fold. (1) There was a statutory obligation upon the Income- tax Officer to accept the method of accounting regularly employed by the assessee under the first paragraph of section 13. The assessee in this case had certainly adopted "a method and that was regularl ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ee was continuously in business producing a number of films in each year and that during a period of years any errors in the computation of the assessable income for any particular year would get rectified and that therefore such a method could not be said to fail to reflect correctly the income, profits or gains so as to attract the proviso to section 13. He pointed out, that the closing stock value for one year became the value of the opening stock for the next year and therefore any diminution in the computed income for one year would be made up by a corresponding increase in the income of the succeeding year by reason of the diminished opening stock value for that year. With reference to this point, learned counsel invited our attention to the following passage in the judgment of Lord Buckmaster in Commissioner of Income-tax, Bombay v. Ahmedabad New Cotton Mills Co. Ltd.: "The method of introducing stock into each side of a profit and loss account for the purpose of determining the annual profits is a method well understood in commercial circles and does not necessarily depend upon exact trade valuations being given to each article of stock that is so introduced. The one ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ess in the opinion of the Income-tax Officer, the income, profits and gains cannot properly be deduced therefrom.....It is the duty of the Income-tax Officer, where the is such a method of accounting to consider whether income, profits and gains can properly be deduced therefrom, and to proceed according to his judgment on this question." We do not see how this passage helps learned counsel because the ground upon which the method of accounting adopted by the assessee was disregarded was that such a method did not disclose the true profits of the business. Learned counsel also referred us to other decisions containing a discussion of the circumstances in which Income- tax Officers might apply the proviso. But we are not referring to them, since we do not consider that they help us in answering the question to be determined in this case. The crucial point to be considered therefore is whether the method of accounting employed by the assessee, namely, to treat the year for the purpose of calculating depreciation or the rate of amortisation of a film, as any period of whatever duration ending with its accounting year, is one which reflects the true income or profits from the bu ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... to apply the terms of the proviso. We are clearly of the opinion that this submission should be rejected. In the first place, learned counsel is not right in assuming that the Income-tax Officer did not exercise his discretion in the present case to reject the accounts of the assessee. It is true that this officer rejected the accounts on the ground that the system of valuing the stock by taking credit of a particular percentage of depreciation was not a method of accounting but this reasoning though erroneous did amount to a rejection of the accounts of the assessee and an invoking of the power under the proviso, to compute the profits by a different method. This apart, we are also inclined to hold that the power vested by the proviso to reject a method of accounting on the ground that it did not reflect the true profits was one open to the Appellate Assistant Commissioner at the stage of an appeal under section 31 of the Act. The next question for consideration is whether the method of accounting actually adopted by the departmental authorities and confirmed by the Tribunal was one calculated to reflect the true profits of the business. It is not the law and it was not contended ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ed in computing the income, truly reflect the profits of the year. We shall next proceed to consider the material that was before the departmental authorities and the Tribunal on the basis of which the computation could be made. We have already referred to two postulates which were vital in this connection, viz., (1) that the normal life of an average film was three years the instant one being no exception to the rule and (2) the rate of depreciation for the years during this three-year period would normally be 60 per cent., 25 per cent. and 15 per cent. and here again the film concerned conformed to this norm. These varying rates of depreciation for the several years which comprise the "life" of the film would themselves indicate that the rate of the ebbing of the life is not constant but is progressively decreasing. In this connection it has to be borne in mind that the expression "the life" of a film is merely a mode of describing the period during which the film is income-producing, while the "rate of depreciation" indicates the rapidity with which its income-producing character progressively diminishes until it reaches the vanishing point when fi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... n as the normal "life" of a film, itself indicates that it is not so. Take for instance the first 365 days for which a depreciation of 60 per cent. is allowed under the rule. A strict application of the "time-rule" would be based on the assumption that the rate of depreciation for each day of the year was constant and identical and that it was the same on, say, the first day of the year as on the last. Then we will have a strange spectacle that on the last day of the first year the depreciation suffered by the film would be 1/365 of 60 per cent. of the cost, while on the next day it would be 1/365 of 25 per cent. of that cost. We are saying this to show that if expressed in a graph the rate of depreciation even during each year would not be a straight line, parallel to the axis but rather one sharply inclined to it. The amount of depreciation during the first days of the year would be larger and more extensive than towards the end of any given period, and it is only the average for the entire period which for the purpose of convenience is taken as a twelve months period that is represented by the 60 per cent. allowance. This would apply equally to the next two t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as 60% x 36 1/3 lakhs, i.e., about 22 lakhs. Out of this 9 1/2 lakhs has been collected in the accounting period which would work out roughly to 47 per cent. of the 60 per cent. or about 26 per cent. of the whole. If so, the amortisation would be 26 per cent. and the closing stock would be valued at 74 per cent. of the cost. (4) Take the total receipts from the film for the three year period as reflecting the quantum of its life and calculate the depreciation during any period on the basis of the collections in that period. Thus in the case of the assessee before us the total collections for the three year period came roughly to ₹ 36 1/3 lakhs while the collections during the year of assessment were about 9? lakhs. The latter was therefore 26 per cent. of the total, i.e., which expresses the exhaustion during the relevant period. (5) Alternatives 3 and 4 have proceeded on the basis that the total collection for the three year period is known and this would be possible only if the assessment for the first year is being completed after the end of the three year period. There should however be no difficulty in applying the formula even if the first year' collections only ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... as we have shown earlier it is nearly as illogical as the method of accounting employed by the assessee in that it does not take into account the fact that the rate of depreciation becomes progressively low and is not to be conceived of as three consecutive bands of uniform but different widths but as a single strip of triangular shape gradually diminishing in width tapering to a point. The methods we have suggested earlier of taking into account the earnings from the film and computing the depreciation for the different periods on that basis affords in our opinion a more just, reasonable and proper method of amortisation than an unqualified mechanical time-rule adopted in the present case purporting to follow the departmental instructions. The instructions themselves make this rule flexible and vest a large amount of discretion in the Income-tax authorities to have regard to several individual factors which of course include the figure of collections over the period and its distribution during the different period of time but Revenue having these figures before them ignored them as irrelevant and their method of computation has received the approval of the Tribunal. As Lord Radcli ..... X X X X Extracts X X X X X X X X Extracts X X X X
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