THE ACIT, CIRCLE -1(1),, VISAKHAPATNAM vs. M/S KARUNA ESTATES & DEVELOPERS,, VISAKHAPATNAM

IN THE INCOME TAX APPELLATE TRIBUNAL VISAKHAPATNAM BENCH, VISAKHAPATNAM BEFORE SHRI B.R. BASKARAN, HON’BLE ACCOUNTANT MEMBER & SHRI DUVVURU R.L. REDDY, HON’BLE JUDICIAL MEMBER ITA Nos. 282, 367 & 368/VIZ/2012 (Asst. Years : 2007-08, 2006-07 & 2008-09)

ACIT, Circle-1(1), vs. M/s. Karuna Estates & Visakhapatnam. Developers, D.No. 28-5-4, Yellamathota, Visakhapatnam. PAN No. AAHFK 8180 C (Appellant) (Respondent)

C.O.No.31/VIZ/2012 (Arising out of ITA No. 282/VIZ/2012) (Asst. Year : 2007-08) And C.O.Nos.02 & 03/VIZ/2013 (Arising out of ITA Nos. 367 & 368/VIZ/2012) (Asst. Year : 2006-07 & 2008-09)

M/s. Karuna Estates & vs. ACIT, Circle-1(1), Developers, D.No. 28-5-4, Visakhapatnam. Yellamathota, Visakhapatnam. PAN No. AAHFK 8180 C (Appellant) (Respondent)

Assessee by : Shri I. Kama Sastry – CA. Department By : Shri R.S. Aravindakshan–Sr.DR

Date of hearing : 20/03/2018. Date of pronouncement : 23/03/2018.

2 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) O R D E R PER B.R. BASKARAN, ACCOUNTANT MEMBER The appeals filed by the Revenue and the Cross Objections filed by the assessee are directed against the orders passed by the ld. CIT(A), Visakhapatnam and relating to the Assessment Years 2006-07 to 2008-09. 2. The appeal relating to the Assessment Year 2007-08 is arising out of the order passed by the ld. CIT(A) against the assessment order passed under section 143(3) of the Act. The appeals of the other two years are arising out of the orders passed by the ld.CIT(A) against the assessment orders passed under section 143(3) read with section 147 of the Act. In all these three years, the revenue is aggrieved by the decision of Ld CIT(A) in cancelling the addition made by the AO by substituting “fair market value” of land acquired by the assessee firm from its partners in the place of Cost to the assessee. 3. The Assessing Officer first completed the assessment of Assessment Year 2007-08 on 30/12/2009. Based on the finding given in the assessment order of AY 2007-08, the Assessing Officer reopened the assessments of the Assessment Years 2006- 07 & 2008-09. We shall first discuss in brief facts relating to the

3 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) case as discussed by the Assessing Officer in Assessment Year 2007-08. The assessee is a partnership firm and is engaged in real estate business of developing and selling housing plots. It filed its return of income for the Assessment Year 2007-08 on 22/05/2008 declaring a loss of Rs. 60.57 lakhs. The Assessing Officer noticed that the partners of the firm have transferred the lands held by them in Antakaplli village, Binagadi Village, Gorapalli Village as their respective capital contribution and the same was taken as “trading stock” of the assessee firm. It was noticed that the partners have transferred in aggregate 100.53 acres of land to the partnership firm as their capital contribution and sum of Rs. 1490.29 lakhs was credited to the partners’ capital accounts in aggregate. Resultantly, the assessee-firm took the amount of Rs. 1490.29 lakhs as “cost of trading stock of land”. Accordingly, the assessee computed the profit arising on sale of plots. 4. The assessee had also debited development expenses as part of cost of land. The assessee had claimed development charges @ Rs.75/- per sq.yards. The Assessing Officer noticed that the assessee has estimated the aggregate development charges and included the same as part of land. Since the assessee has not shown to have actually incurred the

4 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) development expenses and since the assessee has accounted for the same on estimated basis, the Assessing Officer disallowed the entire claim of development expenditure. 5. With regard to cost of land, the Assessing Officer noticed that the value adopted for the trading stock of land was very much on higher side, which worked out to Rs. 12 lakhs per acre in respect of land located at Antakaplli village. For the lands located in other places also, the value adopted by the assessee was found to be at higher rates. Hence the Assessing Officer made enquiries with the Sub-Registrar Office (SRO) in order to find out the fair market value of the land. (a) The SRO, Sabbavaram submitted that the market value per acre of land was around Rs. 1 lakh to 1.37 lakhs. The SRO also provided a copy of sale deed No. 6181/2005 registered on 04/05/2005 at Rs. 3.53 lakhs for sale of 1.97 acres, which worked out to Rs. 1.80 lakhs per acre. The SRO also certified that prevailing market rate in Survey No. 78 to 110 of Antakaplli village for the period from 01/09/2003 to 11/12/2005 was ranging from 1.10 lakhs to 1.37 lakhs per acre.

5 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) (b) The SRO, Gopalapatnam also provided the rates of land located at Survey No. 124 to 140 of Gorapalli Village is ranging from Rs. 2 lakhs to 4 lakhs per acre. (c) The rates of land located in Pinagadi village in Survey No. 32 to 49 were reported to be in the range of Rs.77,000/- to Rs. 2.20 lakhs. The SRO also enclosed the copy of sale deed entered by Shri K. Chinnam Naidu vide document No. 125205 for purchase of 0.15 cents at a market rate of Rs. 1,050 per cent. 6. Based on the above reports, the Assessing Officer proposed to adopt “SRO value” as “fair market value” of plots acquired by the assessee from its partners. 7. The assessee contended that, as per the provisions of section 45(3) of the Act, the value recorded in the books of account of the firm shall be taken as fair market value for the purpose of computing capital gains in the hands of partners. Accordingly, it was contended that the value credited to the capital account of the partners should be considered as fair market value of the land acquired by the firm for computing profits and gains of business in the hands of the firm also. The assessee also submitted that the value determined by SRO cannot be considered

6 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) as fair market value. The assessee also furnished a sale deed executed on 12/04/2007 in respect of land located in Gorapalli Village, wherein the sale consideration was shown at Rs. 20 lakhs per acre while guideline value was around of Rs. 5.56 lakhs. 8. The Assessing Officer was not convinced with the contentions of the assessee. The Assessing Officer took the view that the Assessing Officer cannot close his eyes and accept assessee’s claim, when there is a leakage of income. The Assessing Officer took the support of the decision rendered by the Hon'ble Supreme Court in the case of Sheriffa Bibi Mohmed Ibrahim & Others vs. CIT (204 ITR 631) wherein the Hon'ble Supreme Court has laid down the guidelines one of which is whether an agriculturist would purchase the land for agricultural purposes at the price at which the land was sold. He also took the support of the decision rendered by the Hon'ble Supreme Court in the case of Mc.Dowell vs. CIT (154 ITR 144) wherein it was held that the colourable devices adopted for avoidance of tax must be looked into by the taxing authorities. Accordingly, the Assessing Officer held that the fair market value of property acquired from the partners is excessive and accordingly rejected the book value. In the absence of other documentary evidence, the Assessing Officer

7 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) proceeded to adopt SRO’s value as fair market value. Accordingly, the Assessing Officer recast the profit & loss account by substituting opening stock value and closing stock value as per the SRO’s rate and computed profit for assessment year 2007-08. The adjustments made by the AO resulted in addition of Rs. 202.18 lakhs to the total income of the assessee in AY 2007-08. 9. Based on the finding given by him in Assessment Year 2007- 08, he reopened the assessments of Assessment Years 2006-07 & 2008-09 by issuing notices under section 148 of the Act and made identical additions. 10. The assessee challenged the order passed by AO in all the three years under consideration. The decision taken by Ld CIT(A) in assessment year 2007-08 is discussed herewith. The Ld CIT(A) agreed with the contentions of the assessee that the value adopted for computing capital gain as per the provisions of sec.45(3) of the Act should not have been disturbed by the assessing officer. The Ld CIT(A) noticed that there is a difference in the language used in sec. 45(3) of the Act and sec. 45(4) of the Act. Sec. 45(3) of the Act is related to determination of sale value of capital asset, when it is transferred by a partner to the firm. Under sec. 45(3) of the Act, the amount recorded in the books of

8 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) accounts of the firm shall be deemed to be full value of consideration received as a result of the transfer of the capital asset. Sec.45(4) is related to determination of capital asset when the capital asset is transferred to partners by way of distribution of capital assets on dissolution of firm or otherwise. Under sec. 45(4) of the Act, the “fair market value” of asset on the date of such transfer shall be deemed to be full value of consideration received as a result of the transfer. By considering both the provisions, the Ld CIT(A) decided the question relating to valuation of land as under in AY 2007-08:-

“8.4 From the above, the intention of law makers becomes clear that when asset is transferred by partner to firm the concept of fair market value does not come into operation and the value of capital assets recorded in the books of firm shall be deemed to be full value of consideration. The word “shall” used in the sub-section is definitive and does not give any scope to the AO to substitute his opinion of fair market value in the place of the amount recorded in the books of account of the firm. Had the law-makers wanted to use the word fair market value they would have used the same in section 45(3) also as was used in section 45(4). Thus from the language of statute it is clear that AO does not have any authority to tinker with the value recorded in the books of account and replace it with the fair market value of the asset. In view of the clear language of the section I hold that AO is duty bound to accept the value recorded in the books of account as the full value of consideration in the hands of partners as well as firm. Therefore I hold that AO is not correct in law in substituting the value adopted by the firm with SRO value. Thus it is held that the action of AO in redrawing the trading account of the firm by reducing the

9 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) opening stock as well as closing stock of the firm’s stock in trade is incorrect and not as per law. Irrespective of the fact as to whether the firm came into existence in assessment year 2002-03 or 2005-06 the value adapted by the firm and the partners is to be accepted by AO in arriving at the trading results of the firm. Therefore AO is directed to adopt the value of opening and closing stocks of land as recorded in the books of accounts of the firm…..” It can be noticed that the provisions of sec. 45(3) do not use the word “fair market value” and hence the Ld CIT(A) held that the AO was not entitled to adopt fair market value in the hands of the assessee firm for determining its profits. The revenue is aggrieved by the above said decision of Ld CIT(A).

10 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) submitted that the AO has estimated the fair market value of land in terms of sec. 40A(2)(a) of the Act by adopting the SRO value as the fair market value of land. Accordingly he contended that the Ld CIT(A) was not correct in law in holding that the value determined in terms of deeming provisions of sec. 45(3) should be adopted in the hands of the firm. The Ld D.R relied upon the decision rendered by Mumbai bench of Tribunal in the case of Kapil Ratan Associates (2015)(55 taxmann.com 60)(69 SOT 188), wherein it was held that the revision order passed by Ld CIT u/s 263 of the Act directing the AO to apply provisions of sec. 40A(2)(b) of the Act in respect of purchase of land from partners is justified, when it was noticed that the land has been transferred by partners to the partnership firm at substantially enhanced prices. The Ld D.R, accordingly, contended that the AO was justified in holding that the purchase cost paid by the assessee herein to its partners towards purchase land was excessive and accordingly he was justified in determining fair market value of land.

11 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) 40A(2)(a) to the impugned transactions and the assessee has given a detailed reply to the AO. The assessee has submitted that the provisions of sec. 40A(2)(a) will apply only to goods, services or facilities and the same will not apply to land. It was further submitted that the partners have determined the rates of Rs.12.00 lakhs per acre after making thorough enquiries with regard to prevailing market rates. The partners have also taken into consideration the fact that the firm need not pay money to the partners towards the cost of land immediately, otherwise the firm would have incurred heavy interest burden. The assessee firm was also assured of legal title of the land also and further saved expenses towards stamp duty and registration charges. The Ld A.R further submitted that the provisions of sec. 45(3) shall apply to the transaction of transfer of capital asset by a partner to the partnership firm and the provisions of sec. 40A(2) will not override the provisions of sec. 45(3) of the Act.

12 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) consideration as per provisions of sec. 45(3) of the Act, while he does not have power to substitute the value determined in terms of se.c 45(3) of the Act.

13 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) that the AO was not justified in adopting SRO rates as fair market value. He further submitted that the assessee has furnished a sales instance to the AO, wherein the sale consideration was shown at Rs.20.00 lakhs per acre, while the SRO rate was only Rs.5.50 lakhs per acre.

14 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) 18. We have heard rival contentions and perused the record. The undisputed facts are that the partners of the assessee firm have contributed the impugned lands to the assessee firm as part of their capital contribution and hence the value of the land as determined by the partners has been credited as capital of the partners. According to AO, the value assigned to the lands was very much higher than the market rates. Hence the AO has determined the market rates by adopting SRO rates and took the same as cost of lands and accordingly computed the profits of the assessee. The contention of the revenue is that the AO was justified in determining the fair market value of land in terms of sec. 40A(2)(a) of the Act, since the land was acquired from its partners. The contention of the assessee, which was upheld by Ld CIT(A), was that the deeming provisions of sec. 45(3) provides that the value credited to the capital account of the partners towards the capital asset brought by him shall be deemed to be the full value of consideration. Since sec. 45(3) is a deeming provision and since it does not refer to “fair market value” of capital asset, the provisions of sec. 45(3) shall be strictly applied and it would override the provisions of sec. 40A(2)(a) of the Act also.

15 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) 19. The Ld A.R also pointed out that the assessing officer has observed in the assessment order that he is substituting the fair market value in the place of value adopted by the assessee and the same is treated as transfer consideration in terms of sec. 45(3) of the Act. Accordingly he contended that the AO has invoked the provisions of sec. 45(3) only and the same has to be interpreted strictly. Accordingly it was contended that the AO was not empowered to breach the mandatory conditions prescribed in sec. 45(3) of the Act. 20. We are unable to agree with the contentions of the assessee. Sec. 45(3) of the Act provides the methodology to determine the sale consideration in the hands of a partner, when he brings a capital asset as his contribution towards the capital of the partnership firm, i.e., the amount credited to the capital of the partner towards the value of capital asset shall be deemed to be “full value of consideration” in respect of that capital asset. If the partnership firm keeps the same as Capital asset, then there is a possibility that, subject to the wisdom of the AO, the same value may be taken as the value of capital asset for the purposes of depreciation. However, in the instant case, the capital asset of the partner has been converted the status of the asset into

16 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) “trading asset” by the firm. Thus the character of the asset has changed in the hands of the firm. 21. The contention of the revenue is that when the assessee is treating the same as trading asset, then the profit arising on sale of the trading asset is required to be determined in terms of sec. 28 to sec. 43A of the Act. We agree with the said contentions of the revenue. In our view, the deeming provision enshrined in sec. 45(3) of the Act will have binding effect while computing Capital gains in the hands of partners. This view gets support from the decision rendered by Mumbai bench of ITAT in the case of Kapil Ratan Associates (supra). In the above said case also, the assessee was a partnership firm and it had purchased lands from erstwhile partners of the firm. The firm was reconstituted and at that point of time, the purchase consideration of land was substantially enhanced and as a result payments made to erstwhile partners were found to be in excess of prevalent market rates. Since the AO did not examine these aspects while passing assessment order, the Ld CIT revised the assessment order u/s 263 of the Act. The assessee challenged the revision order passed by Ld CIT. The Mumbai bench examined the provisions of sec. 40A(2)(a) of the Act and observed as under:-

17 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) “8. A perusal of the above said provisions reveals that the expenditure in respect of which payment “has been made” or “is to be made” to any person referred to in clause (b), if, the same is in the opinion of the AO, is excessive or unreasonable having regard to the market value of the goods, services etc., for which the payment is made, then such an expenditure is hit by the provisions of section 40A. Now in this case as we have discussed above, the expenditure had been agreed to be incurred for the purchase of land by the assessee firm before the reconstitution of the firm. Even cheques/bankers cheques were drawn prior to the date of reconstitution of the firm. The sale consideration had been increased five times from that agreed at vide agreement dated 02-06-06. All these facts are enough for forming an opinion by the Ld CIT that certain expenditure has been made which is hit by the provisions of section 40A and hence, the opinion of the Ld CIT cannot be said to be wrong to the effect that the assessment order was erroneous and prejudicial to the interests of the Revenue since the AO has not considered this aspect of the matter.” 22. In the instant case also, the payment for purchase of land was made to the partners by way of crediting the value of land to the capital account of partners. The partners are persons covered by the provisions of sec. 40A(2)(b) of the Act. The assessee firm has claimed the purchase cost of land as expenditure. Provisions of sec. 40A(2)(a) shall apply, if in the opinion of the AO, the expenditure in respect of which payment is made to persons specified in sec. 40A(2)(b) is excessive or unreasonable. Accordingly, we are of the view that all the conditions prescribed in sec. 40A(2)(a) of the Act would apply to the impugned transaction of purchase of land. The Ld A.R contended that the

18 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) AO has referred to the provisions of sec. 45(3) of the Act in the assessment order and has mentioned that he is substituting the value. We have noticed that the provisions of sec. 45(3) have application only in the hands of partners only for the purpose of computation of capital gain. Sec. 45(3) would not apply to the partnership firm. The value credited to the capital account of partners may constitute the cost for the land in the hands of the assessee firm. When payment for purchase of land (which is “goods” in the hands of firm) to the partners, in our view, the AO was entitled to examine the payments in terms of the provisions of sec. 40A(2)(a) of the Act. It only mandates that the portion of the payments so made, which is considered to be excessive or unreasonable having regard to the fair market value of the goods, services or facilities for which the payment is made or the legitimate needs of the business or profession etc., is liable to be disallowed. Since the assessee is dealing in land, as stated earlier, it constitutes “goods” in its hands and since the payments have been made to partners (who are covered by sec. 40A(2)(b)), we are of the view that the AO was very much entitled to examine the payments made vis-a-vis the fair market value of the goods (land) in terms of sec. 40A(2)(a) of the Act. Hence, as per the

19 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) provisions of sec. 45(3), the assessee firm might have made payments to the partners towards the cost of land, but the same does not bar application of sec. 40A(2)(a) of the Act. 23. The Ld A.R relied upon the decisions rendered by Hon’ble Supreme Court in the case of Sunil Siddarth Bai (supra). But the provisions of sec. 45(3) have been brought into the statute to overcome the said decision. In view of our discussion above, we are of the view that the same would not come to the support of the assessee. The Ld A.R also referred to the decision rendered by Hon’ble Rajasthan High Court in the case of Marudhar Hotel (P) Ltd (supra) to contend that the amount credited to the account of the partner does not represent the correct and true value of consideration. We notice that the decision in the case of Marudhar Hotel (P) Ltd (supra) has been rendered in the context of Gift tax Act. Further the observations made by Hon’ble High Court refer to “correct and true value”. However, under the provisions of sec. 40A(2)(a) of the Act, the “fair market value” of the goods or services is required to be determined. There is difference between “fair market value” and “correct and true value”. Hence the decision rendered in the case of Marudhar Hotel (P) Ltd would not also support the case of the assessee.

20 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) 24. We have noticed that the Ld CIT(A) has upheld the view of the assessee by observing that the provisions of sec. 45(3) does not use the expression “fair market value”. Accordingly he has taken the view that the AO was not entitled to disturb the value recorded in the books of accounts. In our view, if any payment is made to any of the persons covered by sec. 40A(2)(b) of the Act, the AO is entitled to examine as to whether the said payment is excessive or unreasonable u/s 40A(2)(a) of the Act. Under the provisions of sec. 45(3), the value credited to the capital account of partners as cost of capital asset is deemed to be full value of consideration. We have noticed that the provisions of sec. 45(3) are applicable in the hands of partners. The objective behind provisions of sec. 45(3) and sec. 40A(2)(a) is different. Hence, in our view, sec. 45(3) cannot override provisions of sec. 40A(2)(a) of the Act. 25. In view of the foregoing discussions, we hold that the assessing officer is entitled to examine as to whether the payments made to partners towards goods or services are excessive or unreasonable in terms of sec. 40A(2)(a) of the Act. 26. We have noticed that the AO has taken “SRO rates” as fair market value. The Ld A.R, by drawing support from the guidelines

21 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) issued by CBDT, has demonstrated that the expressions “fair market value”, “market value” and “SRO rates” are different. Accordingly the Ld A.R submitted that the assessing officer was not justified in adopting “SRO rates” as fair market value. We agree with the contentions of Ld A.R. We notice that both the assessee and the AO have cited certain sales instances also. The factors like geographical location, advantages attached to the location etc., usually determine the fair market value of land. We notice that the assessee, in its written submissions, has mentioned about certain locational advantages. It is noticed that the assessee has also started selling plots also. Accordingly we are of the view that the issue of determination of “fair market value” requires fresh examination. Accordingly we restore the same to the file of the AO. 27. Accordingly we set aside the order passed by Ld CIT(A) on this issue and hold that the assessing officer is entitled to examine the quantum and reasonableness of the payments made to partners for acquiring goods from them in terms of sec. 40A(2)(a) of the Act. 28. We shall now take up the Cross Objections filed by the assessee for the Assessment Year 2007-08, wherein the assessee

22 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) is aggrieved by the decision of the ld. CIT(A) in upholding the view taken by the Assessing Officer that the partnership firm came into existence only during the Financial Year 2005-06 and not during the Financial Year 2002-03, as claimed by the assessee. 29. The facts relating to this issue are discussed in brief. Before the Assessing Officer, the assessee claimed that the partnership firm came into existence on 01/11/2002 and the same is evidenced by an affidavit filed by the assessee. However, the Assessing Officer noticed that the Partnership deed was executed only on 31/05/2005, wherein it was stated that the partnership firm is deemed to have commenced from 19/05/2005 and further the first year accounts shall be closed on 31/03/2006. The Assessing Officer further noticed that the lands stood in the name of individual partners and the layout approval was also obtained in the name of individual partners, earlier to the preparation of Partnership Deed. Accordingly, the AO took the view that the Partnership firm came into existence only from 19/05/2005. 30. The ld. CIT(A), upon going through the documents relating to the plan approval, Partnership deed etc., came to the conclusion that the partners have applied for a common layout in 2002-03 in their personal names and no further action has been taken up to

23 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) 2005-06. Thereafter, for the first time, the Partnership deed was executed on 31/05/2005 with retrospective effect from 19/05/2005. Accordingly, the ld. CIT(A) held that the Partnership firm came into existence only on 19/05/2005, as recorded in the registered partnership deed. The assessee is aggrieved by the decision so rendered by Ld CIT(A). 31. We heard the parties on this issue. 32. From the perusal of the orders passed by the Ld CIT(A) and AO, we noticed that the tax authorities have given proper reasoning to come to the conclusion that the partnership firm came into existence only on 19/05/2005 as per the registered partnership deed executed on 31/05/2005. Hence we do not find any reason to interfere with the order passed by the ld. CIT(A) on this issue. 33. The revenue has raised one more issue relating to the relief granted in respect of development expenditure claimed by the assessee. As noticed earlier, the assessee had obtained estimated from an engineer with regard to the development expenses that are required to be incurred and provided for the same by passing a journal entry. The assessee included the development expenses also as part of cost of land. The AO disallowed the same by

24 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) holding that the assessee did not incur any expenses towards development of land. The Ld CIT(A), however, allowed the claim of the assessee and hence the revenue is contesting his decision. The operative portion of the order passed by Ld CIT(A) is extracted below:-

“9.2 Against this disallowance it is argued by the assessee that expenditure is claimed on the basis of matching principal in accordance with the ratio laid down by the Hon'ble Supreme Court in the case of Calcutta Co. Ltd 37 ITR 1. It is argued that the Hon'ble Apex court had dealt with a similar situation of real estate project development and held that the provision for pro-rata expenses to be incurred has to be allowed as a deduction 'in the year in which income from sale of plots is recognized as revenue. Assessee further relied on the Hon'ble jurisdictional High Court decision in the case of B.V.Hanumantha Rao Vs. CIT 45 ITR 464 wherein the Hon'ble High Court held a similar view by following the Hon'ble High Court decision in the case of Calcutta Co. Ltd. Reliance in this regard is also placed on the Supreme Court's decision in the case of Rotork Controls India Pvt. Ltd Vs. CII 314 ITR 62. Assessee put forward an alternate argument that even if the disallowance is made it should be restricted only to the amount pertaining to the plots sold during the year which is Rs.40,22,987/- (Rs.75.57 x 53235 sq.yrds which is the extent of land sold during the year under consideration). Further it is argued that even out of this amount, an amount of Rs.28,22,577/-, which is actually spent during the year, should be allowed. With regard to the remaining expenditure it is stated that the same becomes only a contra-entry because the value of the same with reference to the unsold plots is any way reflected in the closing stock. If the AO disallows the entire amount it is contended that the actual expenditure made during the year should be allowed; arid relevant reduction should be mad dosing stock pertaining to the

25 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) unsold plots. 9.3 I have considered the arguments of the assessee. The method being by the assessee is that it debited the entire expenditure on an estimated basis. Such debit gets added to the cost of the land and is duly reflected as closing stock unsold plots are concerned. Thus with regard to the unsold plots this ii accounting is revenue neutral. With regard to the plots sold, assessee is debiting the expenditure to be incurred in future on the basis of estimation made by the architect. Assessee however is recognizing the entire revenue with regard to the plots sold though it will have to develop the plots subsequently. Thus assessee is under obligation to develop the plots sold and hence there is a liability on the assessee to it expenditure as soon as the plot is sold. Therefore, assessee has to incur the expenditure in discharging a liability it had already undertaken under the terms of sale deed. Therefore, I am of the considered opinion that assessee’s case is squarely covered by the Hon'ble Supreme Court decision in the case of Calcutta Co. Ltd. wherein the Hon'ble Supreme Court held that the estimated expenditure which had to be incurred by the assessee in discharging a liability which it had already undertaken was an accrued liability which according to mercantile system of accounting assessee was entitled to debit in its books of accounts for the accounting year as against the receipts which represented the sale proceeds of said lands. Thus respectfully following the Hon'ble Supreme Court decision I hold that the assessee has rightly debited the expenditure which is an allowable expenditure in this hands. Thus AO is directed not to make any addition on this count.

26 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) whether incurred or not as per the principle laid down by by Hon’ble Supreme Court in the case of Calcutta Co. Ltd (37 ITR 1). Since the assessee has included the estimated development expenses in the cost of land, the cost pertaining to unsold plots is revenue neutral, since the cost of land pertaining to unsold plots shall be included both in the opening stock and closing stock. With regard to the plots already sold by the assessee, the Ld CIT(A) accepted the contentions of the assessee that the liability to develop the plots always lies upon the shoulders of the assessee and hence, under mercantile system of accounting, the assessee is required to recognise the relevant costs. Accordingly, the Ld CIT(A) held that there is no requirement of disallowing the development expenses claimed by the assessee. 35. On a careful consideration of the order passed by Ld CIT(A) on this issue, we do not find any infirmity in his order. We notice that the claim of the assessee fits into two accounting principles, i.e., mercantile system of accounting and Revenue-cost matching principle. However, at the time of hearing, we requested the Ld A.R to furnish a statement comparing actual expenditure incurred on development with the Estimated made by the assessee. The Ld A.R submitted that the actual expenditure would exceed the

27 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) estimate made by the assessee during initial years. In that view of the matter also, no disallowance of development expenses claimed by the assessee is called for. The Ld A.R furnished a statement regarding development expenses. A perusal of the same would show that the assessee has provided a sum of Rs.279 lakhs in aggregate in FY 2005-06 and 2008-09. The actual expenditure incurred towards development expenses till FY 2012- 17 is shown at Rs.235.37 lakhs. A sum of Rs.43.63 lakhs are yet to be incurred. In any case, the unspent amount out of provision created by the assessee is required to be offered as income in the year of completion of project. The AO may monitor the same and bring into tax the unspent amount, if any, after completion of project. The assessee is also directed to furnish a copy of the statement to the AO for his examination. In any case, no disallowance is called for out of Development expenses in view of the accounting principles discussed above. 36. Now we shall take up the appeals and Cross Objections filed for the Assessment Years 2006-07 & 2008-09. As noticed earlier, the Assessing Officer reopened the assessments of Assessment Years 2006-07 & 2008-09 after completion of the assessment of the Assessment Year 2007-08. In the reopened assessments, the

28 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) Assessing Officer made an identical addition that was made in the Assessment Year 2007-08 i.e. the Assessing Officer substituted the opening stock/cost of land and closing stock of land as recorded in the books of account with SRO value and accordingly recomputed the profits of the business of the assessee. The Ld CIT(A) granted relief to the assessee on merits by following his order passed for AY 2007-08. Before him, the assessee raised various legal grounds, but all of them were rejected. 37. Aggrieved by the orders passed by Ld CIT(A), the revenue has filed the appeals for AY 2006-07 and 2008-09. The assessee has filed Cross objections for these two years raising various legal issues. 38. In the Cross Objections filed in Assessment Years 2006-07 & 2008-09, the assessee has, inter alia, challenged the validity of assessment orders on the ground that reasons for reopening of the assessments were recorded only subsequent to the issue of notice under section 148 of the Act, in contravention of the mandatory requirements of sec. 148(2) of the Act. 39. The facts relating to the above said legal issue are discussed in brief. The Assessing Officer issued notices under section 148 for the Assessment Years 2006-07 & 2008-09 and both notices are

29 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) dated 02/06/2010. Copies of notices are placed in page No. 4 & 6 of the paper book filed by the assessee. The assessee has also obtained a copy of reasons recorded by the Assessing Officer for both the years and they are placed in page No. 5 & 7 of the paper book. A perusal of the reasons recorded by the AO would show that the reasons for reopening have been recorded by the AO on 04/06/2010. We have already noticed that the notices under section 148 of the Act are dated 02/06/2010. Hence, there is merit in the contention of the assessee that the reasons for reopening of the assessments have been recorded subsequent to the issue of notice under section 148 of the Act. 40. We noticed that the ld. CIT(A) has taken a view that it may be a case of typographical mistake and the Ld D.R also supported the orders so passed by Ld CIT(A). However, as rightly pointed out by the ld. Authorized Representative of the assessee, we noticed that the Assessing Officer himself has observed in the assessment orders that notice under section 148 was issued on 02/06/2010 and the reasons were recorded as per order sheet noting on 04/06/2010. It is also pertinent to note that the reasons for reopening have been recorded by the Assessing Officer named, Shri Biswanath Chakravarthi in both the years and the

30 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) assessment order has been passed by another assessing officer named, Shri Suman Malik. Had it been typographical mistake, the same would have been rectified by the Assessing Officer at the some point of time. So, under these set of facts, we find merit in the contentions of the assessee that the reasons for reopening of assessment has been recorded only after receiving notices under section 148 of the Act. 41. The assessee has placed reliance on the following case laws in order to contend that the impugned assessment orders passed for Assessment Years 2006-07 & 2008-09 are liable to be quashed as the reasons for reopening have been recorded subsequent to the issue of notice under section 148 of the Act. a) CIT vs. Shiv Ratan Soni [(2005) 279 ITR 261) (Rajasthan - HC] b) Rajoo Engineers Ltd. vs. DCIT [(2008) 218 CTR 53] c) CIT vs. K.G. Madan [(2005) 275 ITR 294) (Punjab & Haryana - HC] In all the above said cases, it has been held that as per the provisions of section 148(2) of the Act, the Assessing Officer shall record his reasons for reopening the assessment before issuing notice under section 148. It has been held that it is a mandatory requirement specified in section 148(2) of the Act and if it has not

31 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) been complied with, the notice under section 148 of the Act issued by the Assessing Officer is liable to be quashed as the same would result in lack of jurisdiction. Accordingly, in the absence of proper assumption of jurisdiction, the assessment order passed by the Assessing Officer is liable to be quashed. 42. The facts available in these two years are clear that the notices under section 148 of the Act have been issued prior to recording of reasons, meaning thereby, there was no reason available for the AO at the time when the notices u/s 148 of the Act were issued. Thus, there is violation of mandatory requirement prescribed by section 148(2) of the Act as per the above said decisions relied upon by Ld A.R. Accordingly, by following the above said decisions, we hold that the jurisdiction assumed by the Assessing Officer for Assessment Years 2006-07 & 2008-09 was not valid and hence, the assessment orders passed by him in both the years are liable to be quashed. Accordingly, we quash the orders passed by the tax authorities for Assessment Years 2006- 07 & 2008-09. 43. The assessee has also raised one more legal ground in both the years, i.e., the assessment orders are barred by limitation as per the provisions of sec. 153(2) of the Act. At the time of

32 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) hearing, the Ld A.R did not press the same and accordingly this legal ground urged in AY 2006-07 and 2008-09 are dismissed as not pressed. 44. The assessee has also raised following additional grounds in AY 2008-09, which is also legal in nature:- “1.The entire assessment is bad in law for the reason that even though time was available for issue of notice under section 143(2), notice under section 148 was issued thereby artificially extending the period of limitation. 2. The AO has not exercised his discretion/satisfaction independently but has obtained the approval of the Addl. CIT which makes assumption of jurisdiction by AO bad in law and consequently the order passed under section 147 is null and void.” 45. At the time of hearing, the Ld A.R placed his reliance on various case laws in support of Additional ground No.1. However, we find it not necessary to deal with these additional grounds, since, in the previous paragraphs; we have quashed the assessment orders on the basis of legal ground relating to recording of reasons. For the same reason, we decline to adjudicate the second additional ground also. 46. While adjudicating the appeal of the revenue for assessment year 2007-08, we have restored the issue of determination of fair market value of the lands to the file of the AO. We notice that the lands were brought into the books of the assessee in the financial

33 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) year relevant to the assessment year 2006-07. Consequently, those lands would constitute opening stock in AY 2007-08. The closing stock of AY 2006-07 is being brought forward as opening stock in AY 2007-08. Consequently the question that arises is whether opening stock can be modified without modifying the closing stock of the earlier year and whether the AO can examine the cost of goods acquired in an earlier year? We leave this question open to the wisdom of the AO in the set aside proceedings. 47. In the result, the Appeals of the revenue for AY 2007-08 is treated as allowed. The appeals of the revenue for assessment years 2006-07 and 2008-09 are dismissed. The cross objection of the assessee for AY 2007-08 is dismissed. The cross objections filed by the assessee for AY 2006-07 and 2008-09 are treated as allowed. Order Pronounced in open Court on this 23rd day of March, 2018.

Sd/- sd/- (DUVVURU R.L. REDDY) (B.R. BASKARAN) Judicial Member Accountant Member Dated : 23rd March, 2018. vr/-

34 ITA Nos. 282, 367 & 368/VIZ/2012 C.O.No. 31/VIZ/2012 C.O.No.02 & 03/VIZ/2013 (M/s. Karuna Estates & Developers) Copy to: 1. The Assessee - M/s. Karuna Estates & Developers, D.No. 28-5-4, Yellamathota, Visakhapatnam. 2. The Revenue – ACIT, Circle-1(1), Visakhapatnam. 3. The CIT-1, Visakhapatnam. 4. The CIT(A), Visakhapatnam. 5. The D.R., Visakhapatnam. 6. Guard file. By order

(VUKKEM RAMBABU) Sr. Private Secretary, ITAT, Visakhapatnam.