Fertilizers and Chemicals Travancore Limited, Udyogamandal v. Commissioner of Income Tax, Cochin

**CR** # **IN THE HIGH COURT OF KERALA AT ERNAKULAM PRESENT** **THE HONOURABLE MR.JUSTICE K.VINOD CHANDRAN** **&** **THE HONOURABLE MR. JUSTICE ASHOK MENON TUESDAY ,THE 09TH DAY OF OCTOBER 2018 / 17TH ASWINA, 1940 ITA.No. 43 of 2003** **AGAINST THE ORDER/JUDGMENT IN ITA 853/1995 of I.T.A.TRIBUNAL,COCHIN BENCH DATED 31-03-2003 FOR THE YEAR** **1990-91** ## **APPELLANT/S:** **FERTILIZERS AND CHEMICALS TRAVANCORE LIMITED, UDYOGAMANDAL.** **BY ADVS.** **SRI.E.K.NANDAKUMAR (SR.) SRI.ANIL D. NAIR SMT.PRIYA MAHESH SMT.PRIYA MANJOORAN** **RESPONDENT/S:** **COMMISSIONER OF INCOME TAX, COCHIN.** **BY ADVS.** **SRI.P.K.R.MENON SR.COUNSEL FOR IT** **THIS INCOME TAX APPEAL HAVING BEEN FINALLY HEARD ON 09.10.2018, ALONG WITH ITA.1/2007, ITA.2/2007, THE COURT ON THE SAME DAY DELIVERED THE FOLLOWING:** ITA No.43/2003 ::2 :: ## **CR** **ITA Nos.43/2003, 1/2007 & 2/2007** ## **JUDGMENT** **Vinod Chandran, J** **The above appeals are considered together though slightly different issues arise. The main issue arise on the computation of profit and loss under Section 115J as it existed in the assessment years.** **The questions of law arising in ITA No.43/32003 are framed as follows:** **1. Whether the Tribunal was justified in confirming the additions made by the assessing authority under Section 115J of the Income Tax Act, 1961 by adding back the foreseeable loss, which is an ascertainable liability and is reflected in the Profit And Loss account accepted by the Registrar of Companies?** ITA No.43/2003 ::3 :: **2. Whether the Tribunal was correct in having affirmed the addition made by the Assessing Officer going by the decision of the Hon'ble Supreme Court in Apollo Tyres v. Commissioner of Income Tax [(2002) 255 ITR 273 (SC)]?** **2. The assessee through one of its divisions called FEDO enters into contracts,the profit and loss of which are ascertained, according to the learned Counsel, in accordance with the accounting procedure (AS7) as produced at Annexure G. On every stage of the work in the previous year there is a computation made of the amount to be expended for that stage of the work as per the agreement and that actually incurred. If what is actually incurred is in excess of what is due to the company as per the terms of the contract, then the said amount is treated as a foreseeable loss. The Assessing Officer added back the same on the ground that the same would not be ascertained liability.** **3. It is argued by the learned Counsel appearing for the assessee/appellant that the** ITA No.43/2003 ::4 :: **accounting procedures by AS7 specifically speaks of such computation of profit and loss at every ascertainable stage of work in accordance with the accounting principles. The same has also been accepted by the Registrar of Companies. The Profit and Loss account has also been prepared under Part II and III of Schedule VI to the Companies Act. The Hon'ble Supreme Court in** _**Apollo Tyres(supra)**_ **has categorically stated that the Assessing Officer under the Income Tax Act cannot go behind such profit and loss computed and embark upon a rowing enquiry into the various heads under which the monies have been apportioned to effectuate a reopening of the accounts of the Company, certified by the auditors, accepted at the annual general meeting of the Company as also the Registrar of Companies. Reliance also is placed on the decision of the Hon'ble Supreme Court in** _**Bharat Earth Movers v.Commissioner of Income Tax [(2000) 245 ITR 428].**_ **4. The specific contention of the assessee as** ITA No.43/2003 ::5 :: **is noticed from the order of the Tribunal is that at the finalisation of accounts, the Company was aware of the loss going to be incurred on the completion of the existing contracts in its hand and therefore such loss worked out on the basis of the technical analysis has to be provided for in the accounts by way of provision for anticipated loss. This is a permissible deduction under Schedule VI of the Companies Act, 1956. The Tribunal on facts found that the contracts having not been completed or terminated during the previous year, amounts computed by the assessee were only anticipatory loss and could be actually ascertained only on the closure of the contracts. It was hence the additions were confirmed.** **5.** _**Bharat Earth Movers**_ **(supra) does not at all aid the assessee in advancing the case put forth, for reason of it being quite distinct on facts. Therein the assessee company had been making provision for the liability for encashment of Earned Leave by the employees. The employees were entitled to maximum of** ITA No.43/2003 ::6 :: **240 days earned Leave which can be either availed or encashed periodically or at the time of superannuation. Like wise vacation leave was another eligibility with almost the same terms. Earned leave could be accumulated only up to a maximum of 240 days and vacation leave up to 126 days. The Company has a practice of making provision as ascertained liability, the amount due to each employee to the extend he or she has credit of earned or vacation leave, subject to the maximum. If an employee has maximum credit and avails 30 days leave in a particular year, then, to that extent a further provision is made on his earning further leave for accumulation in that year. However, there is no leave credited beyond the maximum provided nor any provision made in excess of the maximum provided. Hence when an employee is in service, for each year the company makes provision for encashment of leave accruing in his or her credit subject to the maximum which definitely is an ascertained liability.** ITA No.43/2003 ::7 :: **6. In the present case, the company on the finalisation of accounts in a particular previous year, computes the profit and loss of each contract, up to the stage at which it has been completed. This cannot be said to be an ascertained liability especially since the contract is not completed and the loss or profit can be finally determined only on completion of the contract, at which point, definitely the assessee can claim it.** **7.** _**Apollo Tyres(supra)**_ **also would not be of any assistance since in the present case, absolutely no rowing enquiry is carried out by the Assessing Officer nor does he go behind the computation made under the Companies Act. The addition made is on the basis of the Explanation under sub-section (1A) of Section 115J. We need only extract paragraph of the decision of** _**Apollo Tyres(supra)**_ **which is as follows:** **8. Therefore, we are of the opinion, the Assessing Officer while computing the income under Section 115-J has only the power of examining whether the books of account are certified by the authorities** ITA No.43/2003 ::8 :: **under the Companies Act as having been properly maintained in accordance with the Companies Act. The Assessing Officer thereafter has the limited power of making increases and reductions as provided for in the Explanation to the said section. To put it differently, the Assessing Officer does not have the jurisdiction to go behind the net profit shown in the profit and loss account except to the extent provided in the Explanation to Section 115-J.** **It is this limited power afforded to the Assessing Officer to make increases and reductions as provided for in the Explanation;that has been resorted to in the present case. Apposite here is Section 115J(1A); in which Explanation (c) reads as under:** **c. the amount or amounts set aside to provisions made for meeting liabilities** **other than ascertained liabilities”** **8. Arguments also have been addressed with reference to the accounting principles as produced at Annexure G.,from which the specific clause 13 relied on** **is extracted herein below:** - **“13. Provision for Foreseeable Losses** **13.1 When current estimates of total** ITA No.43/2003 ::9 :: **contract costs and revenues indicate a loss, provision is made for the entire loss on the contract irrespective of the amount of work done and the method of accounting followed. In some circumstances, the foreseeable losses may exceed the costs of work done to date. Provision is nevertheless made for the entire loss on the contract.** **13.2 When a contract is of such magnitude that it can be expected to absorb a considerable part of the capacity of the enterprise for a substantial period, indirect costs to be incurred during the period of the completion of the contract are sometimes considered to be directly attributable to the contract and included in the calculation of the provision for loss on the contract.** **13.3 If a provision for loss is required, the amount of such provision is usually determined irrespective of:** **(I) whether or not work has commenced on the contract; and** **(ii)the stage of completion of contract activity; and** **(iii) the amount of profits expected to arise on other unrelated contracts.** **13.4 The determination of a future loss** ITA No.43/2003 ::10 :: **on a contract may be subject to a high degree of uncertainty. In some of these cases, it is possible to provide for the future loss and in other cases only the existence of a contingent loss is disclosed.”** **9. Even the statement and standards of accounting as issued by the Chartered Accountants of India would indicate that there is a high degree of uncertainty in determining the foreseeable loss in a contract which is not completed. In the case of the assessee it is submitted that in certain assessment years there was a remand by the Tribunal, differing from the view taken here and the Assessing Officer had computed the ascertainable loss and allowed it in certain cases. The actions of the Assessing Officer would not deter us or fetter the process of answering questions of law framed under Section 260A of the Act.** **10. We are of the opinion that the losses can be determined only at the completion of the contract and even as per the accounting standards, there is a high degree of uncertainty in determining the future** ITA No.43/2003 ::11 :: **loss of a running contract. Clause (c) of Section 115J(1A) permits the Assessing Officer to add back the provisions made so as to reflect the correct profits and to determine the income as per Section 115J as has been noticed in** _**Apollo Tyres(supra).**_ **The provision was introduced to bring to tax companies who adjust their accounts in such a manner resulting in zero tax phenomenon. The attempt of such a computation, as made by the legislature, is to ensure payment of a minimum corporate tax on the profits as declared in its own accounts. The Explanation permits additions to be made so that the actual profits derived is taxed. What is not reflected for reasons only of provisions made with respect to contingent liabilities, are also brought to tax.** **11. In this context we garner support from** _**Bharat Earth Movers(supra)**_ **and the following paragraph.** **4. The law is settled: if a business liability has definitely arisen in the accounting year, the deduction should be allowed although the liability** ITA No.43/2003 ::12 :: **may have to be quantified and discharged at a future date. What should be certain is the incurring of the liability. It should also be capable of being estimated with reasonable certainty though the actual quantification may not be possible. If these requirements are satisfied the liability is not a contingent one. The liability is in praesenti though it will be discharged at a future date. It does not make any difference if the future date on which the liability shall have to be discharged is not certain.** **We hence answer the questions of law in favour of the Revenue and against the assessee.ITA No.43/2003 would stand rejected.** **12.In ITA 1/2007, one of the questions raised is the same as in ITA 43/2003. On the issue of foreseeable losses being added back for the purpose of determining the income under Section 115J we have already answered the question in favour of the Revenue and against the assessee and we follow the same in the present case also.** **13. One other question raised is the provision** ITA No.43/2003 ::13 :: **for gratuity. The same is an ascertained liability insofar as the employees are concerned; which though not payable in the previous year would be an ascertained liability insofar as the provision being made with respect to each of the employees for gratuity earned in that particular previous year. Gratuity is a component of superannuation benefits of an employee relateable to each year of service, on completion of which it accrues to the employee for which a valid provision could be made which could only be treated as an ascertained liability falling outside Clause (c) of Explanation to Section 115J(1A). We hence answer the question of law in favour of the assessee and against the Revenue and we direct the Assessing Officer to determine the income under Section 115J without making addition of the provision for gratuity.** **14. The question arising in ITA 2/2007 is with respect to whether the provision for bad and doubtful debts could be added back for the purpose of determining the income under Section 115JA. Admittedly** ITA No.43/2003 ::14 :: **the provision was made, subsequently as clause (g) which read as under:** **“(g) The amount or amounts set aside as provision for diminution in the value of any asset”** **15. The issue is covered by the judgment of the Hon'ble Supreme Court in** _**[(2008) 305 ITR 409 (SC)] Commissioner of Income Tax v. HCL Comnet Systems and Services Ltd**_ **In fact we had followed the aforesaid judgment and held against the revenue in an appeal filed by the Revenue against the very same assessee/appellant herein for the year 1988-89 and 1998-99 wherein Section 115J and 115JA were respectively applicable. In such circumstance, the question arising has to be answered in favour of the assessee and against the Revenue. The order of the lower authorities are set aside. The Assessing Officer is directed not to make any addition with respect to the provision for bad and doubtful debts, insofar as the computation of income under Section 115JA of the Income Tax Act for the subject year.** ITA No.43/2003 ::15 :: **I.T.A No.43/2003 is rejected. I.T.A 1/2007 is partly allowed and I.T.A No.2/2007 is allowed. There is no order as to costs.** **K.VINOD CHANDRAN** **JUDGE** **ASHOK MENON** **JUDGE** **jma** ITA No.43/2003 ::16 :: ## **APPENDIX** ## **PETITIONER'S/S EXHIBITS:** ## **ANNEXURE A** **TRUE COPY OF THE ASSESSMENT ORDER ISSUED BY THE DEPUTY COMMISSIONER OF INCOME TAX (ASSMT) FOR 1990-91 ISSUED TO THE APPELLANT DATED 29.12.1994** **ANNEXURE B TRUE COPY OF THE ORDER OF THE COMMISSIONER OF INCOME TAX (APPEALS) ISSUED TO THE APPELLANT DATED 13.10.1995 ANNEXURE C TRUE COPY OF THE ORDER OF THE INCOME TAX APPELLATE TRIBUNAL ISSUED TO THE APPELLANT DATED 19.3.2002 ANNEXURE D TRUE COPY OF THE JUDGMENT IN ITA NO.212 OF THE 2002 ISSUED TO THE APPELLANT DATED 5TH OCTOBER, 2002** **ANNEXURE E TRUE COPY OF THE ORDER ISSUED BY THE INCOME TAX APPELLATE TRIBUNAL TO THE APPELLANT DATED 31.3.2003** **ANNEXURE F TRUE COPY OF THE ORIGINAL RETURN FILED BY THE APPELLANT FOR THE ASSESSMENT YEAR 1990-91** **ANNEXURE G TRUE COPY OF THE ACCOUNTING STANDARD 7**