Gujarat H.C : the Appellate Tribunal has substantially erred in restricting the extra consumption of raw materials at 15 per cent. as against 40 per cent. worked out by the Assessing Officer even after upholding rejection of book results for unreconciled discrepancies in consumption

High Court Of Gujarat

CIT – II vs. Leo Formulations (P.) Ltd.

Assessment Years : 2007-08 And 2008-09

Section : 69B

Akil Kureshi And Ms. Sonia Gokani, JJ.

Tax Appeal Nos. 301, 302 To 304 Of 2014

April 7, 2014

JUDGMENT

Akil Kureshi, J. – These appeals concern the assessment years 2007-08 and 2008-09 involving the same assessee. Each assessment year has given rise to two appeals since against the order of the Commissioner of Income-tax (Appeals), the Revenue as well as the assessee both had approached the Tribunal. In short, the question pertains to appropriate additions to be made in the income of the assessee after rejection of book results. We may notice that in Tax Appeal No. 301 of 2014 the Revenue has suggested the following questions :

“(A) Whether the Appellate Tribunal has substantially erred in restricting the extra consumption of raw materials at 15 per cent. as against 40 per cent. worked out by the Assessing Officer even after upholding rejection of book results for unreconciled discrepancies in consumption ?

(B)Whether the Appellate Tribunal has substantially erred in upholding the order of the Commissioner of Income-tax (Appeals) in directing to adopt the gross profit at 35 per cent. of the sales out of extra consumption as against the income at 40 per cent. of the book sales of Rs. 2,21,18,899 adopted by the Assessing Officer ?”

2. The assessee is engaged in the business of manufacture of pharmaceutical drugs. The Assessing Officer noted that the assessee had not recorded the consumption of different raw materials correctly in the books of account and had suppressed the production. He estimated that the assessee had consumed different raw materials for manufacture of the drugs excess by 46.05 per cent. which would have been utilized for manufacture and sale of unaccounted finished products. He also recorded that there was also unaccounted purchases to be considered. He, therefore, put unaccounted sales of the assessee at 40 per cent. of the turnover and resultantly added a sum of Rs. 88.47 lakhs to the income of the assessee. The assessee carried the matter before the Commissioner of Income-tax (Appeals), who, while accepting the rejection of the book results, limited the additions by applying 35 per cent. gross profit ratio on the extra consumption to be taken at 20 per cent. of the turnover. He held and observed as under :

“5.2 I have considered the rival submissions. Since the rejection of books of account has been upheld by me, the logical result would be to estimate the income of some reasonable and proper basis as held in the case of Seth Nathuram Munnalal v. CIT [1954] 25 ITR 216 (Nagpur). When admittedly, the consumption has not been correctly recorded in the books maintained by the appellant, there could be addition in respect of profit realizable from sales out of such unrecorded consumption. It was held in the case of President Industries [2002] 258 ITR 654 (Guj) and CIT v. Gurubachhan Singh J. Juneja [2008] 302 ITR 63 (Guj) and recently following the said decisions in the case of Aradhana Textile Mills I. T. A. No. 968/Ahd/2009 dated May 13, 2011 it was held that the entire sales or processing charges would not be the income of the assessee but only the net profit would be subjected to tax. Respectfully following the aforesaid decisions, the addition has to be restricted to the profit element in the sales worked out in respect of excessive consumption taken at 20 per cent. It is noticed from the gross profit chart given at page 9 of the paper book that the appellant had disclosed the gross profit at 33.28 per cent. in the immediately preceding year and the gross profit at 38.51 per cent. in the year under appeal. It has shown the gross profit at 35.10 per cent. in the succeeding year, i.e., the assessment year 2008-09. Therefore, the average gross profit at 35 per cent. would be a fair and reasonable estimation of its income. The Assessing Officer is, therefore, directed to work out the extra consumption at 20 per cent. and adopt the gross profit at 35 per cent. of such extra consumption which would be the addition upheld. In the result, this ground of appeal is partly allowed.”

3. Both the assessee as well as the Revenue carried this issue in appeals before the Tribunal. The Tribunal confirmed the view of the Commissioner of Income-tax (Appeals) and rejected both the appeals observing as under :

“7. Third issue of estimating of gross profit at 36 per cent. on such extra consumption, we find that the approach of the Commissioner of Income-tax (Appeals) was justified in view of the fact that the assessee has disclosed the gross profit rate of 35.10 per cent. for this year and had disclosed the gross profit at 38.51 per cent. in the immediately preceding year. The plea of the learned Departmental representative that the entire expenses on purchase of raw material have already been debited in the books of account, and, hence, 100 per cent. of the unaccounted sales should be added as income of the assessee, is unsustainable. The Commissioner of Income-tax (Appeals) has recorded a finding that the estimate of income has to be rightly rational as well as based on the material on record, and that the entire sales or processing charges cannot be treated as income chargeable to tax, unless there is any material to come to such conclusion. He has cited the decisions in the case of President Industries [2002] 258 ITR 654 (Guj) and CIT v. Gurubachhan Singh J. Juneja [2008] 302 ITR 63 (Guj) in support of the conclusion of applying the gross profit rate on the extra consumption. We are in agreement with the decision of the Commissioner of Income-tax (Appeals) in estimating the profit element out of extra consumption and not adding the entire sales as well as extra consumption as income in the hands of the assessee. We also find that there is no direct evidence of any unaccounted sales made outside the books of account. However, the addition is partly upheld on account of estimating on the basis of preponderance of probabilities, in the facts of the case of the assessee. Accordingly, the order of the Commissioner of Income-tax (Appeals) in estimate the profit element at 36 per cent. of such extra consumption is fair and reasonable, is upheld and the grounds of the appeal of the assessee are dismissed.”

4. Hence, the Revenue has filed two appeals for the each assessment year 2007-08. The facts are similar for the assessment year 2008-09. It is, therefore, not necessary to record them separately.

5. As noted above, the question of rejection of the books of account is not an issue. The Assessing Officer as well as the appellate authorities held that the book results did not reflect the correct position. Only the remaining question was, to what extent the additions were necessary. In this respect the Assessing Officer adopted the addition at the rate of 40 per cent. of the total turnover on the premise that there had been excess production and sale at the rate of 46 per cent. out of which some adjustment would have to be made for purchases which were also unaccounted.

6. The Commissioner of Income-tax (Appeals) as well as the Tribunal, however, limited such additions. In particular, the Commissioner of Income-tax (Appeals) reduced the excess sales to 20 per cent. of the turnover and, thereafter, applied the gross profit rate of 35 per cent. taking average of the three years of the gross profit rate of the assessee. In the process the Commissioner of Income-tax (Appeals) relied on the decision of this court in the case of CIT v. President Industries [2002] 258 ITR 654/124 Taxman 654 (Guj) and in the case of CIT v. Gurubachhan Singh J. Juneja [2008] 302 ITR 63/171 Taxman 406 (Guj).

7. In our opinion, such exercise undertaken by the Commissioner of Income-tax (Appeals) and the Tribunal on the basis of evidence on record gives no rise to the substantial question of law. This exercise is primarily in the nature of appreciation of evidence and would be based on the questions of facts. Learned counsel for the Revenue, however, strenuously urged that having accepted that there was a degree of unaccounted consumption of raw materials, the entire excess consumption should be added to the income since it was not shown that there was any unaccounted expenditure relatable to the production of the final goods.

8. This argument has two difficulties. Firstly, the Assessing Officer himself, as noted above, has recorded in the assessment order that there has been unaccounted purchases which needs to be considered against the unaccounted sales. Even in the decision of this court in the case of President Industries (supra) the court was conscious of this angle when it observed as under (page 655) :

“Therefore, unless there is a finding to the effect that investment by way of incurring the cost in acquiring the goods which have been sold has been made by the assessee and that has also not been disclosed. In the absence of such finding of fact the question whether the entire sum of undisclosed sale proceeds can be treated as income of the relevant assessment year answers by itself in negative. The record goes to show that there is no finding nor any material has been referred about the suppression of investment in acquiring the goods which have been found subject of undisclosed sales.”

9. Secondly and equally importantly, the Assessing Officer with somewhat confusingly equated excess consumption of raw material and unaccounted sale of the finished product. It is not as if the excess consumption of raw material would automatically result into matching the value of the excess sale of the finished product. Unaccounted consumption of raw material would be used for manufacturing raw material which process would require, depending on the nature of the product, deployment of man power and machinery, consumption of electricity and even other ingredients. Essentially, on the basis of the estimation of excess consumption of raw material the possible profit of the assessee would have to be worked out for making actual additions. In this background, we must view the observations of the Commissioner of Income-tax (Appeals), who while adopting the excess consumption of the unfinished product at 20 per cent. of the gross sale applied the gross profit rate of 35 per cent. averaging three years of the gross profit rate in the case of the assessee. Essentially, therefore, on the basis of the available material on record, the Commissioner of Income-tax (Appeals) had attempted to tax the income of the assessee arising out of the unaccounted consumption of raw material which would result into unaccounted sales of the finished product.

10. In the result, the tax appeals are dismissed.

[Citation : 363 ITR 322]