THE DEPUTY COMMISSIONER OF INCOME TAX, CIRCLE-3(1), VISAKHAPATNAM vs. M/S. K V R ESTATES, VIZIANAGARAM

आदेश /O R D E R

Per Shri D.S.Sunder Singh, Accountant Member :

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram Loss account, the assessee had included only land cost, but not included the development cost of plots in arriving at the work in progress/closing stock. Therefore, the AO reworked the value of closing stock including the development cost and made the addition of Rs.3,13,94,622/- representing the difference amount on account of undervaluation of the stock. The AO recomputed the closing stock as follows : A. 1 Land Cost (52.3 acres) Rs.5,62,26,120 2 Total Development Cost Rs.7,11,26,961 (adopted as per P&L)* 3 Total cost of developed land (1) + (2) Rs.12,73,53,081 4 Saleable area (as shown by the assessee) 1,45,716 sq.yards 5 Sold during the year 23,341 sq.yards 6 Balance saleable area (4) – (5) 1,22,375 sq.yards Value of closing stock (6 x ¾ ) Rs.10,69,53,302 B.* The total development cost worked out by the AO from the P&L account is as under : Rs. Labour charges 2,48,73,680 Development expenses 2,16,63,882 Regd& approvals 1,62,91,780 Interest on loans 7,99,278 Material 18,54,012 Surveyor charges 3,35,000 Fabrication charges 1,28,000 Interest on capital 51,23,609 Site maintenance 57,720 Total 7,11,26,961

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram C. The difference closing stock worked out by the AO is as follows : Work-in-progress - Rs.2,83,21,930/- Closing stock of finished goods - Rs.4,72,36,750 Total - Rs.7,55,58,680 Difference in closing stock- Rs.10,69,53,302 – 7,55,58,680 = Rs.3,13,94,622/- Accordingly, the AO made the addition of Rs.3,13,94,622/- to the returned income.

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram is taken as closing stock. Thus the AR argued that in the instant case, development cost was related to the developed plots. Therefore, the AR argued that it is unjustified to allot the development cost to the entire 52.30 acres instead of allocating the expenditure to the extent of developed land. The Ld.CIT(A) considered the explanation of the assessee and agreed with the submission of the assessee that there was no basis for apportionment of development cost to the entire land tracks including the unsold and undeveloped plots. Since there was no development in the unsold plots, the Ld.CIT(A) viewed that the development expenses required to be apportioned among the sold / developed plots. He further observed that the assessee has sold the plots @2500/- per sq.yard and if the AO’s method of closing stock is accepted, the cost of each plot works out to Rs.874/- per sq.yardand the profit per sq.yd works out to Rs.1676/- which works out to 60% of the sale price and the same appears to be very high in this line of business. The Ld.CIT(A) found that the assessee estimated the profit at 11% and arrived at the net cost of plots sold at Rs.2,225/- which is also less compared to the business in this line. The Ld.CIT(A) considered the estimation of profit @15% is reasonable and accordingly reworked the development cost per plot and the closing stock. On estimation of profit @15%, the closing stock worked out to Rs.3.00 crores as against the closing

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram stock worked out by the assessee at Rs.2,83,21,930/- and hence, sustained addition to the extent of Rs.22,15,032/- and allowed the relief to the extent of Rs.2,91,79,590/-, accordingly allowed the appeal of the assessee partly.

2) The Ld.CIT(A) has erred in holding that the method adopted by the Assessing Officer by apportionment of development cost to arrive at the cost of plot sold is erroneous and given absurd results, when the Assessing Officer has adopted the value of closing stock basing on the expenditure reported in the P&L a/c by the assessee for the year under consideration.

3) The Ld.CIT(A) has erred in approving the method of valuation adopted by the appellant, wherein the appellant has arrived at the total cost of saleable area by deducting net profit (at a fictitious percentage) from the average sale price (which is again fictitious), which is against the Accounting Standards governing the subject.

4) The appellant craves leave to add or delete or amend or substitute any ground of appeal before and/or at the time of hearing of appeal.

consideration, the assessee has sold the 23,341 sq.yds and the balance saleable area was 1,22,375 sq.yds. The assessee had incurred the development cost of Rs.7,11,26,961/- which ought to have been allocated on the total saleable area. Instead, the assessee has allocated the development cost only on sold plots which is incorrect as per accounting standards. Therefore, the Ld.DR submitted that the AO has rightly allocated the entire development cost to the total saleable area and allowed the expenditure proportionately to the extent of land sold during the year and the balance was taken to closing stock and the difference amount of Rs.3,13,94,622/- was added back to the income. The entire addition was made on facts and there is no case for estimation of income in this case. The Ld.DR further submitted that while recomputing the closing work in progress, the AO followed the Accounting standards, therefore, argued that the Ld.CIT(A) has grossly erred in reworking the closing stock and adopting the estimation method, which is incorrect, hence requested to set aside the order of the Ld.CIT(A) and allow the appeal of the revenue.

7. Per contra, the Ld.Counsel for the assessee submitted that the land cost pertained to the plots which were already developed and ready for CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram sale. He further submitted that no development cost was incurred on unsold plots. The assessee has developed the land and incurred the development cost on stage by stage basis, since it is not possible to develop the entire stretch of 52.30 acres at one go. Therefore, the assessee has developed the land in parts and the remaining area was plotted as per the lay out and remained undeveloped. The assessee further submitted that in subsequent years, the assessee has developed the remaining tracks of land and declared the resultant income in the return of income filed subsequently. Since the development cost does not pertain to the plots remained unsold, the assessee argued that it is unjustified to allocate the development cost to the remaining plots and argued that only the land cost to be taken to unsold plots representing the closing stock. Therefore, submitted that the assessee has worked out the closing stock in conformity with the accounting standards, hence, there is no requirement of disturbing the method adopted by the assessee for arriving at the closing stock, hence requested to uphold the order of the Ld.CIT(A) and dismiss the appeal of the revenue.

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram acres and developed some parts of the land and the development expenses was debited to Profit & Loss account. The unsold area according to the assessee was not developed and hence the development cost should not be apportioned among the unsold area of 1,22,375 sq.yds. The development cost was related to sold plots and ready for sale but not related to the entire tracks of land. Therefore submitted that allocation of development cost to the entire saleable area and arriving at the closing stock is unjustified. The assessee has correctly valued the closing stock and profit rate worked out to 11%. However, the Ld.CIT(A) estimated the profit @15% which is acceptable and hence no interference is called for in the order of the Ld.CIT(A). The Ld.AR further submitted that the department did not bring any evidence to show that the assessee has developed the entire land including the plots remained unsold and understated the work in progress. The Ld.AR also submitted that the Ld.CIT(A) has considered the issue in great detail and held that closing work in progress required to be worked out estimating the net profit @15%. For the sake of clarity and convenience, we extract para No.6.2 to 6.3 of the order of the Ld.CIT(A) which reads as under : “6.2. Ground No.2 : Value of Work in progress : The appellant is into the business of purchase of land and development of the same into house plots by incurring expenditure towards development of land, roads, drains, parks etc. During the year, the appellant commenced it’s business by purchase of 52.30 acres of land at a cost

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram of Rs.5,62,26,120/-. Till 31st March, 2016, the appellant incurred development expenditure of Rs.7,11,26,961/-. As per the layout plan, the total saleable area of the plots is 1,45,716 sq.yards and the appellant sold 23,341 sq.yards during the year. The unsold area of the plots as on 31st March, 2016 was 1,22,375 sq.yards. The dispute revolves around valuation of closing work in progress. The assessing officer applied simple average method while arriving at the value of closing stock. The contention of the appellant is that method adopted by the assessing officer can be applied only when the entire cost is already incurred and known. Since major part of the development expenditure will be incurred after 31st March, 2016, application of simple average method results in apportionment of only partial cost to the sold plots. 6.2.1. I have carefully considered the assessment Order and the submissions of the appellant. I find that there is no dispute about the basic details relating to the cost of the land purchased, saleable area of plots, unsold area of plots and also the development cost incurred, Further, I find that there is no dispute in value of cost of land apportioned to the unsold area of plots. The only point in dispute is the apportionment of development cost incurred over the sold plots and the unsold plots. The assessing officer divided the total cost of Rs.7,11,26,961/- by the total saleable area of land (I45716 sq.yards) and multiplied the same by the unsold area of land (1,22,375 sq.yards) to arrive at the value of closing stock. The assessing officer adopted the same method even for the cost of land. The contention of the appellant is that the purchase of land had already been completed and as such the actual/complete cost of land is known and is not going to change. Therefore apportionment of the said cost equally over the sold and unsold plots by applying simple average method is fully justified. However, as regards the development cost the expenditure incurred up to 31st March, 2016 is only a small part of the total development cost. Major portion of the development expenditure will be incurred in the subsequent years. Therefore, the appellant contended that if the complete portion of the development cost is apportioned equally by applying the simple average method, the cost apportioned to the sold plot and the unsold plot would be the same. 6.2.2. I find merit in the contention of the appellant. When the appellant is selling the plots, the customer would be paying the price on the basis of fully developed plot. There is a time lag between the sale of plot and incurring of actual cost development of the plot. The complete cost of development of the layout will be known only after the completion of the development works. From the details of the land purchased, it is noticed that the purchase of land took place during the period from 29.05.2015 to 29.07.2015. The development of the layouts commenced only during the financial year 2015-16 relevant to the impugned assessment year. Therefore, the development cost incurred till 31 March, 2016 certainly represents only a part of the development cost to be incurred by the appellant. The method adopted by the assessing officer by apportionment of this part

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram cost to arrive at the cost of plot sold is erroneous and gives absurd results. As rightly contended by the appellant, as per the method adopted by the Assessing Officer the profit per sq.yard of plot of land sold worked out to Rs.1676 as against sale price of Rs.2500. When translated to per centage of profit this works out to 65% of the sale price which is extremely high in this line of business. Therefore, I am of the considered opinion that the method adopted by the assessing officer is not a proper method for valuation of work in progress/closing stock. 6.2.3) Having said that, now I proceed to examine whether the method adopted by the appellant results in a fair valuation of the closing stock or not. The appellant deducted net profit estimated @11% from the average sale price and arrived at the net cost of plot sold at Rs.2,225 per sq.yard. From this, the appellant deducted the cost of land per sq.yard which works out to Rs.386 per sq.yard and the resultant figure of Rs.1839 was treated as the proportionate cost of development. In fact the correct method would be to estimate the balance cost to be incurred on development of layout and adding the same to the cost already incurred the total cost has to be arrived. From such total cost (cost incurred plus estimated cost) the cost per sq.yard of saleable area has to be worked out. However, when the appellant is developing multiple layouts and each of the layout is in a different stage of completion it would be difficult to even estimate the balance cost to be incurred for completion of the layout. Therefore, in principle I approve the method of valuation adopted by the appellant. In this method adopted by the appellant, the only variable element is the rate or profit estimated. I find that the rate of profit estimated by the appellant @11% is very low. The normal rate of profit in this line of business is around 15%. Therefore. I prefer to adopt this rate of 15%. 6.2.4. By substituting 15% in the place of 11% the value of work in progress would be as under :

Total number of plots in the 838 plots layout Total saleable area of plots 1,45,716 sq.yards Total area of plots sold 23,341 sq.yards Total amount of sale price Rs.5,83,85,500 Average sale price per sq.yard Rs.2,500 Less : Net profit estimated Rs.375 @15% Net cost of plot including the Rs.2125 expenditure to be incurred) Less : Cost of land per sq.yard Rs.386

CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram

Development cost per plot Rs.1739 Development cost for plot sold Rs.4,05,89,999 (23341*1739) Total development cost incurred Rs.7,11,26,961 Development cost carried forward as closing work in profress Rs.3,05,36,962

6.3. The appellant valued the development cost of work in progress at Rs.2,83,21,930 as against the value arrived by me at Rs.3,05,36,962/-. The difference of Rs.22,15,032 is sustained out of total addition of Rs.3,13,94,622 made by the assessing officer. The appeallant gets relief of Rs.2,91,79,590. The ground of appeal in No.(2) is partly allowed.” 8.1. We have gone through the order of the Ld.CIT(A). The assessee has incurred the development cost of Rs.7,11,26,961/-. It has purchased 52.30 acres and developed certain parts of the land and the balance remained undeveloped. There is no finding given by the AO that the entire land was developed and the assessee had understated the work in progress. In the absence of any positive finding by the AO with regard to development of entire 52.30 acres of land, it is unjustified to allocate the development cost on entire land and the same gives absurd results. The department did not controvert the submissions of the assessee with the tangible evidence that the assessee has included the expenditure related to unsold plots in the sales. Further the Ld.AR submitted that the remaining land was developed in the subsequent year and declared the income. If the CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram development cost is apportioned among the entire land, cost of plot works out to Rs.874/- as against the sale price of Rs.2,500/- per sq.yd and the Net profit works out to Rs.1,626/- which appears to be unreasonable in this line of business as observed by the Ld.CIT(A). Though the assessee stated that the entire development cost pertained to the plots sold and ready for sale, the assessee had incurred the expenditure for development of roads, levelling of the land, drainage, water tank, street lights, parks etc., for laying the plots, hence the assessee cannot argue that no expenditure was incurred for unsold plots. In the absence of the details with regard to the actual expenditure incurred on sold plots and unsold plots, there is no option except to resort for estimation of income and arrive at the value of closing stock. We, find from the order of the AO and the Ld.CIT(A), against the sale price of Rs.2,500/-, the AO worked out the profit of Rs.1,676/- per plot which is unreasonable. Since, the assessee did not produce the details of the tracks of the land developed and undeveloped out of the total area we are also unable to accept the contention of the assessee that the expenditure was exclusively laid out for the sold plots. Therefore we hold that the Ld.CIT(A) has CO No.150/Viz/2019, A.Y.2016-17 M/s KVR Estates, Vizianagaram rightly resorted for estimation of the profit.- The department did not bring any other case establishing that the profit of 15% estimated by the Ld.CIT(A) is less in this line of business. Therefore, we are of the view, that no interference is called for in the order of the Ld.CIT(A) and the same is upheld. The appeal of the revenue is dismissed.

Order pronounced on 5th June, 2020.