TMI Blog1993 (11) TMI 87X X X X Extracts X X X X X X X X Extracts X X X X ..... essment year involved is 1989-90 for which the accounting year ended on 31-3-89. It appears that the previous year consisted from 1-11-1987 to 31-3-1989. It filed the return on 17-12-1989 declaring NIL income. The Assessing Officer computed the total income as per the provisions of the Income-tax Act, 1961, at Rs. 9,71,40,348 and after setting off carry-forward loss and depreciation loss of earlier years, determined the taxable income at NIL. He has also computed the book profit of the company at Rs. 2,76,96,351 and in view of the fact that the total income as per the Act was NIL, he has adopted 30 per cent of the book profits as taxable income in terms of section 115J of the Income-tax Act, 1961, at Rs. 83,08,905. While computing the book profits in terms of section 115J, the Assessing Officer noticed from the audited accounts, the assessee has claimed arrears of depreciation due on the basis of written down value method of depreciation in respect of the past years which amounted to Rs. 6,41,44,000 besides the depreciation relating to current year which worked out to Rs. 3,10,90,000. When enquired about this aspect, the assessee explained that the depreciation in respect of origin ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... o defeat the provisions of section 115J. He pointed out that despite the changing over to written down method of depreciation which was continued till the assessment year 1990-91, it was given up in the assessment year 1991-92 when the provisions of section 115J was deleted and the assessee reverted back to the old method of providing depreciation on Straight Line method. Therefore, the change now made was not bona fide. For all these reasons, he rejected the claim of adjustment of arrears of depreciation made by the assessee. 5. Thereupon, the Assessing Officer proceeded to make adjustment to the book profits as contemplated in clause (iv) of Explanation to section 115J. Tabulating the year-wise position of loss vis-a-vis, the depreciation provided therefor during the assessment years 1978-79 to 1988-89, the Assessing Officer worked out the amount of loss or depreciation required to be set of against the profits of the previous year at Rs. 585.83 lakhs as against Rs. 613.56 lakhs claimed by the assessee inclusive of loss after depreciation for the assessment year 1986-87 at Rs. 7.26 lakhs and loss for the assessment year 1987-88 at Rs. 20.47 lakhs respectively. 6. On appeal, t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bservation of their Lordship of the Supreme Court in the case of Garden Silk Wvg. Factory v. CIT [1991] 189 ITR 512 for the proposition that the words "depreciation" emanates/originates from the genus described as a "loss" which arises only after debiting the profit loss account with the amount of depreciation. The opinion of the learned author Sri Latta was also relied upon by the appellant in this connection. The opinion of the Expert Committee of ICAI regarding the interpretation and meaning of the word 'loss' is that the terms profit loss used in the Companies Act, denote profit after depreciation and tax and "loss after depreciation". On consideration of the various contentions raised by the appellant, the CIT(A) observed that the Assessing Officer had not made any incorrect interpretation of law and he has rightly concluded that a change of method of depreciation which was not bona fide could not be said to be anything but a design to avoid lawful payment of tax. He was inclined to observe that it was quite obvious that a fraudulent change has no legal sanctity. The decision of the Tribunal in the case of Apollo Tyres Ltd. was distinguishable on facts. The CIT(A) also wen ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... terms of 2(11) of the Companies Act, the statement is fair and true. The change in the method of providing depreciation was effected in the background of the fact the plant and machinery was over 50 years old and they have not worked during the lockout period of about 14 months and the plant and machinery was obsolete and the present cost of replacement of the plant is Rs. 350 crores. A note to the Chairman and Vice-chairman was given on 2nd May 1989 by technical experts and the extract of the Minutes of the meeting of the Board of Directors dated 26th June 1989 approved the change in the process of providing depreciation. The ICAI in 'Guidance Note on Accounting for Depreciation in Companies' has clarified that in the year of change the additional depreciation, provision for earlier years is a necessary charge on the profits for the year in which the change is effected. In Accounting Standard (AS 6) on 'Depreciation Accounting' the ICAI has reiterated that short provision for depreciation in earlier years pursuant to change in the method of providing depreciation has to be debited against the profits in the year of change. Even in Accounting Standard 5, relating to prior period a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ofits for distribution of dividends, in order to meet the long-standing demand of the shareholders of the company and when the present changeover was effected, it had not planned or anticipated to switch back to the old system of providing depreciation nor the present changeover was effected so as to avoid tax liability under section 115J. In view of the above, it was contended by the learned counsel for the assessee, the arrears of depreciation charged to the profit and loss account was a necessary charge on the profits of the relevant previous year and cannot be excluded while calculating the book profit under section 115J of the Income-tax Act. 7. The assessee has filed an additional ground through letter dated 8-5-1993 in which it was stated that the CIT(A) erred on facts and in law in upholding the action of the Assessing Officer fit allowing set off of Rs. 585.83 lacs, being lower of loss excluding depreciation and that of depreciation while calculating book profits under section 115J of the Act, as against the appellant's claim for set off of Rs. 613.56 lacs. As this ground raises purely a legal issue, it is admitted. 8. While computing the book profits in terms of cla ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rpose of adjustment is exclusive of depreciation element and it would represent pure cash loss only. This stand is opposed to the stand of the assessee that loss is inclusive of depreciation element, inasmuch depreciation loss is "specie of large genus called loss". In the view of the Assessing Officer in whichever year there were book profits and after granting depreciation of the relevant year, there profit, the adjustment of loss or depreciation whichever is less was not called for, for specific adjustment in terms of clause (iv) of the said Explanation. Accordingly, for the assessment year 1986-87, the loss of Rs. 6.26 lakhs claimed by assessee was not allowed for adjustment because the profits were Rs. 235.43 lakhs net exclusive of depreciation and for the assessment year 1987-88 the loss of Rs. 20.47 lakhs claimed was not allowed because the profit of Rs. 209.14 lakhs was net exclusive of depreciation but in both these years, profits before depreciation were higher than the corresponding provision of depreciation with the result there were net profits for those years and hence did not call for any adjustment. Thus, the difference in the claim of adjustment lies in the differe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dgment of the Supreme Court in the case reported in Challapalli Sugars Ltd. v. CIT [1975] 98 ITR 167 for the proposition that except where statutory definition of cost is there, one can go by the accounting practice of Chartered Accountants Institute. Further reliance was placed on the decision of the Special Bench of the Tribunal in the case of Surana Steels (P.) Ltd. v. Dy. CIT [1993] 45 ITD 1 (Hyd.) wherein it has been held that loss for purpose of clause (iv) of Explanation to section 115J had to be taken to be loss including depreciation. 10. At the outset, the learned Departmental Representative referring to section 115J providing for tax on book profits of company stated that there is no room for intendment or there is no place for equity while interpreting taxing statutes for which the decision in CIT v. Veeraswami Nainar [1965] 55 ITR 35 (Mad.) was relied upon. He has also stated that the Finance Minister's speech cannot be taken as aid for the interpretation of statute. He further stated that the Auditor's report or certificate on accounts is not sacrosanct and book profits are nothing but commercial profits and what should be reflected from the books. The Assessing Off ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on these facts, he vehemently contended that the assessee had no reasonable ground to change over to written down value method for the assessment year 1989-90 under consideration. It is the action of the assessee noticed in the assessment year 1991-92 provided material information to the Assessing Officer to take a proper perspective in rejecting the arrears of depreciation claimed by the assessee, and therefore he was justified with the action of the Assessing Officer. Further, in respect of the additional ground moved by the assessee regarding the actual quantum of adjustment of loss of depreciation against the book profits required to be done in clause (iv) of Explanation to section 115J, the learned Departmental Representative vehemently supported the findings of the authorities that loss was cash loss only and did not include depreciation and it should be compared with unabsorbed depreciation. In reply, the learned counsel for the assessee submitted that there is no dispute regarding the fact that there is no room for intendment and no place for equity while interpreting statutes. He has stated that he has relied on the Finance Minister's speech for the limited purpose that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... viding depreciation should be prospective, he brought our attention to the fact that the IASI in the Preface to the Statements of Accounting Standards has clarified in para 2.2 that the Institute is one of the Members of the International Accounting Standards Committee (IASC) and has agreed to support the objective of IASC. While formulating the Accounting Standards, ASB will give due consideration to the International Accounting Standards, issued by IASC and try to integrate them, to the extent possible in the light of the conditions and practices prevailing in India. In this view of the matter, the learned counsel for the assessee submitted that the Indian Accounting Standard and Guidance Notes would prevail over the International Accounting Standard even if it be assumed that the two are in conflict with each other, although in his respectful submission, there is no such conflict. Referring to the proposition of the learned D.R. that the change in the policy of providing depreciation was based on technical consideration and not financial implication and the policy was given up for the assessment year 1991-92, and such action should be taken into account to consider the bona fide ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nies contained in pp. 26 to 35 of the paper compilation, the learned counsel for the assessee drew our attention to para-6 contained at p. 28 for the proposition when a change in the method of depreciation is made, depreciation should be recalculated in accordance with the new method from the date of the asset coming into use. The deficiency or surplus arising from the retrospective recomputing of depreciation in accordance with the new method would be adjusted in the accounts in the year in which the method of depreciation is changed. In case the change in the method results in deficiency in depreciation of past years, the deficiency should be charged to the profit and loss account. It was also clarified that the relevant portion of the Accounting Standard (AS-6) on 'Depreciation Accounting' is being revised to bring it in line with the recommendation of the Guidance Note. He has also referred to the distinction made out by the learned D.R. in respect of the decision of the Cochin Bench in the case of Apollo Tyres Ltd.'s. He relied on the decision of the Cochin Bench at para 25 at pg. 488 of the decision and also para 26 of the decision to support his contention that arrears of de ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... y Guidance Note on Accounting for depreciation in companies issued recently which is contained at pg. 26 to 35 of the paper compilation. Section 205 of the Companies Act governs the provisions regarding charging of depreciation for the purpose of payment of dividends. As per the Guidance Note, which came into force on or after 1-4-1989, Para-6 of the Guidance Note is relevant and is extracted below :-- "6. The depreciation method selected should be applied consistently from period to period. A change from one method of providing depreciation to another should be made only if the adoption of the new method is required by statute or for compliance with an accounting standard or if it is considered that the change would result in a more appropriate preparation or presentation of the financial statements of the enterprise. When a change in the method of depreciation is made, depreciation should be recalculated in accordance with the new method from the date of the asset coming into use. The deficiency or surplus arising from retrospective recomputation of depreciation in accordance with the new method would be adjusted in the accounts in the year in which the method of depreciation i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ouch section 205 which pertains to declaration of dividends by the company. The statement on changes in the mode of charging depreciation in the Accounts is contained in Appendix IV. In para 2.1, it is stated that there is no bar either from the legal or from the accounting point of view to a company changing its method of providing depreciation. If the company proposes to pay dividends, the statutory auditor must satisfy himself that the new method of providing depreciation conforms to the requirements of section 205 of the Companies Act, 1956. In this connection, it is relevant to point out that the requirements of section 350 and that of section 205 are different, so far as provision of depreciation is concerned. Inasmuch as in respect of section 205, the company can choose any of the methods provided under sub-section (2) of section 205, and as a consequence based on the Guidance Note as well as the Statement on Changes in the mode of charging Depreciation contained in Appendix IV. Arrears of depreciation can also be adjusted subject to condition that such disclosure is mandatory in the accounts of the year in which the change has taken place. Para 2.4 of the Statement shows ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for that year arrived at after providing for depreciation in accordance with the provisions of sub-section (2). Sub-section (2) provides option to adopt written down value method specified in section 350 or Straight Line Method or any other method approved by the Government. Whatever be the method adopted, no dividend shall be declared or paid by the company without providing for depreciation in accordance with the provisions of sub-section (2). Therefore, in the context of the assessee being called upon to pay dividend which could normally be out of commercial profits and not hypothetical profits as held by the Supreme Court in the case of CIT v. Gangadhar Banerjee Co. (P.) Ltd. [1965] 57 ITR 176, it was only proper to provide for the correct amount of depreciation including the arrears of depreciation in the year in which the dividends are declared. Even the International Standard of Accounting-4 requires adjustment of depreciation rates for the current year. Further the rejoinder given by the learned counsel for the assessee to the various propositions made out by the learned Departmental Representative, all go to clinch the issue in favour of the assessee changing the method ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... with Part II Part III of the VIth Schedule of the Companies Act. In a case where the profit loss account was prepared in accordance with the provisions of Part II Part III of the Schedule VI to the Companies Act, the Assessing Officer will have no power to disturb the book profits except as stated in section 115J. In the case of Apollo Tyres Ltd., the assessee provided for normal depreciation year after year but in the assessment year 1988-89, decided to work out depreciation including extra shift allowance with the result an amount of Rs. 1,366.39 lakhs being additional depreciation for earlier years had been debited to the profit loss account. On a reference, the Department of Company Affairs, confirmed that as a consequence of providing arrears of depreciation in terms of section 205(2)(b), the company's net profit was in accordance with Parts II III of Schedule VI to the Companies Act. It is clear from the aforesaid confirmation given by the Deptt. of Co. Affairs, provision of arrears of depreciation relating to earlier years is also by inference in accordance with section 205(2)(b), read with Parts II III of' Schedule VI to the Companies. Act. In that case, the Tr ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ilation and which has been reproduced above. The stand taken by the Revenue and which has been very strongly supported by the learned D.R. is that the element of loss contemplated in clause (iv) of Explanation to section 115J refers to cash loss exclusive of depreciation while the stand taken by the assessee which is diametrically opposite is that the loss is inclusive of depreciation and depreciation loss is a specie of the large genus "loss". In this connection, it is relevant to extract clause (iv) which is as under :-- "Explanation : [to section 115J(1A) (iv) the amount of the loss or the amount of depreciation which would be required to be set off against the profit of the relevant previous year as if the provisions of clause (b) of the first proviso to sub-section (1) of section 205 of the Companies Act, 1956 are applicable." The aforesaid clause (iv) refers to the provisions of clause (b) of the first proviso to sub-section (1) of section 205 of the Companies Act, 1956, and therefore it is also considered to extract it below : "Section 205(1) ................................................................................................. Proviso ... (a)... ..... X X X X Extracts X X X X X X X X Extracts X X X X
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