ABDULRAHMAN LIYAKATHALI,ERODE vs. ACIT, CIRCLE-1,, ERODE

On verification of sales records, the AO noticed that 2,521 units were sold to M/s.Hope Leather on 29.04.2014 as per the sale invoices. However, the corresponding outflow recorded in the stock register reflected 2,921 units, resulting in a discrepancy of 400 units. In the opinion of the AO, such discrepancy either represents unaccounted sales or undervaluation of closing stock.

Further, on examination of transactions with related concerns, the AO observed that sales to such parties were made at a discounted price compared to prevailing rates. Based on the above findings, the AO concluded that the books of account did not present a true and correct picture of the assessee’s

The assessee objected to the proposal of the AO and submitted that the loss declared from business operations resulted from valuation of closing stock on the basis of net realizable value. It was contended that the assessee has consistently been following the method of valuation of closing stock at the lower of cost or net realizable value in compliance with the provisions of section 145A(a)(i) of the Act.

The assessee further submitted before the AO that the business was in the process of closure and, consequently, the finished leather had lost its marketability on account of fungal deterioration. It was stated that approximately 40% of the opening stock remained unsold and continued as closing stock. The assessee explained that during the period under consideration, saleable stock was disposed of at prevailing market prices, while damaged stock was sold at reduced rates, and the balance was valued at its net realizable value in accordance with accounting principles.

With regard to the discrepancy arising from excess recording of 400 units in the stock register, the assessee submitted that the same occurred due to a clerical error. In view thereof, the assessee agreed to an addition of Rs.5,20,800/- towards undervaluation of closing stock.

It was further contended that, considering the closure of business, valuation of closing stock at net realizable value was justified, as taxation cannot be levied on unrealized income. The assessee, therefore, submitted that the proposed adjustment by the Assessing Officer was not warranted.

The AO, however, was not satisfied with the explanation furnished by the assessee. The AO observed that although the assessee claims to maintain regular books of account, such books do not present a true and correct picture

The AO additionally recorded that sales made to related parties were effected at prices below prevailing market rates without any justification or documentary support. It was further observed that the assessee, unlike in earlier years where profits were declared, returned a substantial business loss in the year under consideration. In the opinion of the AO, the loss declared appeared to be intentional and aimed at setting off capital gains.

The AO also held that no prudent businessman would retain perishable goods for an extended duration. According to the AO, since the goods involved undergo processing to enhance durability, the possibility of such goods deteriorating in quality to the extent claimed is negated.

On the cumulative strength of the above observations, the AO rejected the books of account of the assessee and concluded that the correct profits could not be deduced therefrom. The AO thereafter proceeded to estimate the income by applying the average net profit rate of 5.48%, based on the preceding three assessment years, thereby determining the business income for the year at Rs.29,60,398/-. Consequently, the AO made an addition of Rs.29,60,398/- to the returned income by disregarding the business loss declared by the assessee. Apart, the AO has also made other additions which are not a subject matter of dispute before us. Thus, the assessment of the assessee was completed u/s.143(3) of the Act vide order dated 27.12.2017, assessing the total income at Rs.1,59,02,862/-.

Aggrieved by the assessment order wherein the AO determined the business income of the assessee at Rs.29,60,398/- on the basis of estimation,

During the course of appellate proceedings before the Ld.CIT(A), the assessee submitted that the AO had erred in determining the business income on an estimated basis, without duly considering the business loss declared by the assessee and without proper appreciation of the documentary evidence furnished during the assessment proceedings. It was contended that the business loss arose on account of revaluation of closing stock, which was adversely affected due to fungal infestation, resulting in deterioration and reduction in the realizable value thereof. The assessee further submitted that such treatment was in conformity with the Accounting Standard–2 relating to valuation of inventories and was also in accordance with the provisions of section 145A(i) of the Act. The assessee therefore argued that the rejection of books of account by the AO and consequent estimation of income was unjustified and contrary to law.

The Ld.CIT(A) vide the impugned order dated 16.05.2025, upheld the action of the AO in rejecting the books of account and in estimating the business income, and accordingly dismissed the appeal of the assessee. Being aggrieved by the aforesaid findings, the assessee has preferred the present appeal before this Tribunal.

The Ld.AR appearing on behalf of the assessee submitted that the assessee’s books of account were duly audited u/s.44AB of the Act, and no specific discrepancies or defects have been identified by the AO during the assessment proceedings, despite the assessee furnishing complete details as called for. It was contended that the loss declared by the assessee for the relevant assessment year represents a genuine business loss and is not a notional or artificial loss as alleged by the AO. The Ld.AR argued that the AO has erred in concluding that the assessee intentionally created an artificial business loss to set off capital gains. It was further submitted that the closing

In view of the above, the Ld.AR prayed that the impugned order of the Ld.CIT(A) sustaining the rejection of books and estimation of income be set aside and the appeal of the assessee be allowed.

Per contra, the ld.DR, appearing on behalf of the Revenue, submitted that the Ld.CIT(A) has correctly affirmed the action of the AO in rejecting the books of account and estimating the business income, as the books maintained by the assessee were found to be incomplete and incorrect. The Ld.DR contended that various discrepancies were noticed in the financial records, including mismatch in stock statements, undervaluation of closing stock, and sales made to related parties at prices lower than market value. It was further submitted that the assessee’s abnormal business loss during the impugned assessment year, when compared to the profit declared in preceding years, clearly indicates manipulation of accounts with the intention to artificially inflate loss and set it off against capital gains. The Ld.DR argued that the AO has reasonably and judiciously adopted the profit rate of 5.48% based on the assessee’s past financial history and business pattern. In view of these submissions, the Ld.DR prayed that the appeal filed by the assessee be dismissed and the order of the Ld.CIT(A) confirming the assessment be upheld.

We have heard the rival contentions, perused the material on record and accordingly the impugned issue is adjudicated as under.

We observe that AO rejected the books of account primarily on the basis of discrepancies in stock valuation and alleged under pricing to related parties. The assessee, however, contends that the reduction in closing stock value was on account of fungus damage and therefore the stock was valued at net

In the result, the appeal of the assessee is allowed for statistical purposes.