M/S. M.N. MODES,NEW DELHI vs. DCIT, NEW DELHI

Assessee by : Ms. Sangeeta Singh, Adv Revenue by: Sh. Rajesh Kumar, Sr. DR Date of Hearing 27/09/2016 Date of pronouncement 16/12/2016 O R D E R PER PRASHANT MAHARISHI, A. M. This is an appeal filed by the assessee against the order of the ld CIT (A)- 1. XXVIII, New Delhi dated 04.12.2013 for the Assessment Year 2008-09 wherein the appeal of the assessee is dismissed. The assessee has raised the following grounds of appeal:- 2. “1 That on the facts and circumstances of the case and law on the point, the assessment order passed by the Ld. Assessing Officer raising a demand of Rs. 19,05,737 is against the principles of natural justice. 2(a). That on the facts and circumstances of the case and law on the point, the Ld. Assessing Officer has erred in rejecting the books of accounts u/s 145(3) of the Income Tax Act, 1961 and Hon'ble CIT(A) has erred in confirming the same ignoring the fact that proper books of accounts were maintained by the appellant u/s 44AA which were also audited by Chartered Accountant u/s 44AB of Income Tax Act, 1961. 2(b). That on the facts and circumstances of the case and law on the point, the Ld. Assessing Officer has erred in not understanding the basic principles of accounting that sales are booked when goods are dispatched and invoices are raised to buyer. 2(c). That on the facts and circumstances of the case and law on the point, the Ld. Assessing Officer was not justified in estimating the Page 2 of 10 Gross Profit at Rs. 36,34,306 being 12.58 % of turnover and Hon'ble CIT(A) was not justified in confirming such estimation. 3(a). That on facts & circumstances of the case and law on the point, the Ld. Assessing Officer has erred in adding back Rs. 89,32,142/- out of Rs. 1,12,11,915 u/s 40(a)(ia) of the Income Tax Act, 1961 on the pretext that appellant itself disallowed the same while filing Return of Income. 3(b). That on the facts and circumstances of the case and law on the point, Hon'ble CIT(A) has erred in confirming the addition of Rs. 89,32,1427- out of Rs. 1,12,11,915 u/s 40(a)(ia) of the Income Tax Act, 1961 on the ground that disallowance u/s 40(a)(ia) is in regard to specific infringement of provision of the Act which is over and above other sections ignoring the fact that computation of income on estimation basis is the substitution of income which is to be calculated under Section 29 and all deductions/disallowances as referred in Section 29 are deemed to have been taken into account while making such estimation.

4. That on the facts and circumstances of the case and law on the point, the Ld. Assessing Officer has erred in charging Fringe Benefit Tax on total amount of vehicle depreciation ignoring the fact that vehicle depreciation also included depreciation on scooter which is not liable to fringe benefit tax and Hon'ble CIT(A) has erred in confirming the same on the ground that motor car is general word for any vehicle provided to employees which includes scooter and other conveyance which is completely against the provisions of law.”

is general in nature against raising of demand by the ld AO against the principle of natural justice. Before us, the ld AR submitted that it is general in nature and hence no arguments were advanced. In the result, we dismiss ground No. 1 of the appeal.

4. Ground No. 2 of the appeal is divided in to three parts contesting rejection of books of account u/s 145(3) of the Income Tax Act, 1961 when the accounts are audited. It was further contested that the AO has estimated the gross profit of the appellant at Rs. 3634306/- being 12.58% of the turn over which was confirmed by the ld CIT(A).

5. The brief facts of the ground No. 2 are that the assessee is engaged in the business of export of cloth and garments and has filed its return of income on 23.11.2009 declared a loss of Rs. 5413339/-. During the year it has export sales of Rs. 26584648/- sample sales of Rs. 736128/- and scrap sale of Rs. 1568777/-. It has purchased fabric and finished goods of Rs. 29123578/-. After adjustment of the closing and opening stock it has shown as gross loss of Rs. 5994646/-. During the course of assessment proceedings, the assessee Page 3 of 10 produced the books of accounts and it is admitted fact that same are audited u/s 44AB of the Act. The ld AO noted that in previous year i.e. 2005- 06 gross profit of the assessee is 18.26%, for Assessment Year 2006-07 it is 11.89% and for Assessment Year 2007-08 it is 22.06% . Compared to this during the year the assessee has shown a gross loss of 20.75%. On examination by the ld AO, it was explained that there was lots of cancellation of old export orders and therefore there was sharp decrease in sales and further one Apparel New York, USA did not pay for the goods supplied and therefore there is write off of Rs. 237527/- . It was therefore stated that as the goods were not dispatched the sales were not recorded and therefore such manufactured goods were sold as scarp and hence there is a loss. The assessee further submitted the details of the buyer and the copies of emails for the cancellation of the export orders for which the goods were valued in the closing stock at scrap value or sold at that value. The ld AO did not believe this fact for the reason that the emails etc did not contain any digital signature and therefore it does not have any evidentiary value. The ld AO further compared sales of various months with the purchase with respect of months and has held that the books of account are incomplete and creditors of the assessee remains unverified, as the assessee did not supplied the address in time. The assessee did not file quantitative reconciliation of raw material and finished goods as it did not produced the stock register and the quantitative details of the orders, which were claimed to be cancelled. In that circumstances he estimated the gross profit of 12.58% on the sales of Rs. 28889553/- and estimated GP of Rs. 3634306/-. Against this, the assessee preferred an appeal before the ld first appellate authority who in turn confirmed the rejection of books of account. Before the first appellate authority it was submitted that the assessee manufactured goods is for the specific orders of overseas customers and during the year orders amounting to Rs. 1.98 crores were cancelled and same were sold as scrap for Rs. 1568777/- for this the assessee submitted the details of the purchase orders which were cancelled along with reasons for cancellation. It was also contended that some of the orders were cancelled before the goods were dispatched and hence no sales were made and such goods were valued after manufacturing but before the sales in view of the cancellation of the Page 4 of 10 orders of scrap value. The ld CIT(A) further noted that for order cancelled no compensation was received or no advance received from the buyers. He further held that the bills of scrap sales were also not produced. The ld CIT(A) further held that the assessee could have provided alternative goods to the buyer and therefore he rejected the claim of the assessee regarding cancellation of the orders of Rs. 1.98 crores. During the course of hearing, he asked for the evidences in respect of the orders for which only copies of emails could be filed by the assessee and no reply was filed as to the amount received from the bank against purchase of orders. Therefore, he upheld the orders of the ld AO for the rejection of the books of account and estimation of the gross profit and confirmed the action of the AO therefore the assessee is in appeal before us.

6. The ld Authorized Representative submitted that due to cancellation of the orders the business of the assessee was closed down and ultimately in FY 2011-12 the assessee stopped doing any business. It was submitted that the books of account of the assessee are audited and same are available on record. It was further submitted that the orders of export were cancelled is undisputed but only for the reason that the assessee could not provide digitally signed emails which was rejected. She submitted that the copies of the emails were rejected by the AO is not proper, She further submitted that there is no specific defect pointed out in the books of the assessee and merely because the stock records as desired by ld AO are not maintained the book results are rejected. She in fact took us to the quantitative records maintained by the assessee. She said that there is no cancellation of sales entries but it is cancellation of purchase orders. She further stated that cancellation entries cannot be said to be improper as sales is recognized at the time of dispatch of goods to the buyer and same is in accordance with accounting standard 9 issued by Ministry of Corporate Affairs. She further stated that the reason given by the ld CIT(A) that the assessee could not provided alternative goods is not the valid reason for upholding the addition on account of gross profit. She further stated that the assessee is filing return of income regularly and for subsequent years, also it is assessed to tax, in subsequent years, also the assessee has incurred huge loss, and for this, she relied upon the return of income filed for Assessment Year 2009-10 wherein Page 5 of 10 loss of Rs. 66 lakhs was incurred. She also submitted the return of income for Assessment Year 2010-11 wherein nil income is reported. She also took us to the letter dated 13th March 2013 at Page 136 of the Paper Book submitted before the ld CIT(A) wherein evidences have been given that orders have been cancelled after they are manufactured and after certain time even after manufacturing of the goods and certain times at inspection level. Therefore, she said that the assessee has incurred complete expenditure for manufacturing of the goods and same have become scrap. Regarding the sale of scraps she submitted that same were sold and recorded in the books of account. Therefore she submitted that without pointing out any defect in the books of account the books of account it cannot be rejected. She further stated that the presumption of the AO that only sample would have been manufactured is devoid of any merit as the export is made on the basis of lot. Regarding the cancellation of the sale entry she submitted that cancellation of the purchase orders in the system of the assessee has been treated by the AO as cancellation of sales, which is infact incorrect. She submitted that there is no cancellation of sales entry originally recorded and subsequently cancellation, which is only the cancellation of purchase orders she vehemently denied the allegation of the AO. With respect to maintenance of the stock register she submitted that merely because the stock register is not maintained as desired by ld. AO , the books of account cannot be rejected. She relied on the decision of the Hon'ble Delhi High Court in case of CIT Vs. Jakson House 39 DTR 212. On the issue of lower gross profit she submitted that loss on cancellation of purchase orders is 38.33% of the total turnover for which the ld AO considered only 5%. She further submitted that the AO did not consider the duty drawback of Rs. 27 lakhs in the turnover of the appellant while estimating the gross profit of 36.34 lakhs. She submitted that duty drawback is necessary income on account of trading and export of goods. Therefore she submitted that rejection of the books of account is improper in absence of any defect and further the computation of GP was also incorrect.

Page 6 of 10 8. We have carefully considered the rival contentions and also perused the orders of the lower authorities. Admittedly the assessee has not maintained the stock register for its business operation. According to the tax audit report as per column 28A shows that since the nature of business is such that quantitative details stock register is not maintained. Further it was put to our attention that the assessee is maintaining quantitative details of the raw material showing inward, outward and balance such details are available at Page 140 to 146 of the PB submitted before us. It was also part of the submission made by the assessee before the ld CIT(A) on 13th March 2013. It further shows the opening balance and closing balance in every month. With respect to finished goods it also shows the inward production and sale of the goods for each month, the details are available at Page 147 to 149 of the Paper Book. In view of this it is not proper that the assessee has not maintained quantitative details of raw material consumed and finished goods produced vis a vis sales. . According to us the assessee has submitted month wise stock summaries for the whole year where the details of each entry showing party wise information of purchase and sale are given. Secondly during the year the assessee has shown scrap sales of Rs. 15.68 lakhs , such sales account is furnished at page 206 of the Paper Book. In view of this we are not in agreement with the lower authorities that the books of account of the assessee are not proper as it is audited and also backed by quantitative details. The assessee has produced the copies of email communication with the various buyers for cancellation of orders , which has not been accepted by the lower authorities for flimsy reasons such as they are not digitally signed and they are merely computer print outs. The emails are valid communication and digitally signature only comes for non- repudiation against the sender. Therefore the rejection of the evidence available with the assessee is also not proper. On reading of the assessment order we do not find that ld AO could find any patent, latent or glaring defect in the books of account. The cancellation of purchase order has also been appreciated by ld AO in the incorrect manner as cancellation of sales entry. Infact its cancellation of the purchase order and there is no sales entry, which has been cancelled. The assessee has categorically stated that sales have been accounted in the books of account at the time of dispatch of Page 7 of 10 goods. We also do not find any defect in this method of accounting of sales as risk and revenue of the goods passed to be buyers at time of dispatch of goods unless otherwise agreed by the parties. Further merely comparing sales of purchase of each month of fabric is not proper criteria when quantitative details are available with the authorities. Coming to the decision of the Hon'ble Delhi High Court in case of CIT Vs. Jakson House ( supra) we are of the view that assessee’s books of account could not be rejected without there is specific defect in the books of account maintained by the assessee following a regular method of accounting and quantitative details are also maintained though not in the form accepted by the AO. In view of this we reject the application of provision of section 145(3) in the case of the assessee. Furthermore, it was also the case of the ld AO that creditors of the assessee remains unverified as the assessee has submitted the address very late. Further the ld AO has granted reduction of only 5% from the average GP rate compared to earlier orders on account of cancellation of the order. In fact the assessee has given complete details of the orders, which are cancelled. It is repeatedly stated by the assessee that such orders are to the extent of Rs. 1.98 crores which is almost 75% of the export sales of the assessee. The exact loss incurred by the assessee may also be calculated rationally by reducing Rs. 15.77 lakhs from the sales of scrap by the assessee, therefore, the exact loss incurred by the assessee on the basis of explanation given by the ld AR is much more than amount of addition made by the AO. Furthermore the reason given by the ld CIT(A) that the assessee should have supplied alternative material at the time of cancellation of the orders is devoid of any merit. It is for the assessee to decide how he would like to conduct his business. Therefore we reject the action of the ld. AO ,which is confirmed by the first appellate authority, in applying section 145(3) of the Act and determining the gross profit at 12.58%. Even while calculation of the gross profit at 12.58% the ld AO has not considered the sum of duty draw back amounting to Rs. 26.90 lakhs, which should also be considered as part of the gross profit by the assessee. Therefore we set aside the addition of Rs. 3634306/- made by the AO estimating the gross profit of the assessee. However, it cannot be denied that there is a severe fall in the gross profit earned by the assessee compared to earlier years and subsequent years Page 8 of 10 therefore the ld AO may verify the quantitative details along with other financial records of the assessee including verification of creditors , if required, and then determine correct profit chargeable to tax according to book results. Needless to say that the assessee should be given proper opportunity of hearing before making any adjustment to the total income returned by the assessee. It is further clarified that the AO must accept the books result and proceed in accordance with the provisions of the law as in the first round of assessment proceedings according to us no glaring defects were found. In the result ground No. 2 of the appeal of the assessee is allowed with above direction.

Page 9 of 10 13. We have carefully considered the rival contentions and also perused the orders of the lower authorities. The AO has computed the total income of the assessee by applying provisions of section 145(3) of the Income Tax Act, 1961. According to the provisions of section 145(3) where the AO is not satisfied about the correctness or completeness of the accounts of the assessee then he may make the assessment in the manner provided u/s 144 of the Act. The assessment u/s 144 of the Act is required to be made based on the best judgment of the ld AO about the total income of the assessee and then determine the sum payable on the basis of such assessment. The coordinate bench in the case of Teja Construction Vs. Acit (Supra) has held that when the books of the assessee were not relied upon by the ld AO then based on the reliance on the same books the provision of section 40(ia) cannot be invoked. It was further held that estimation of income takes care of irregularities committed by the assessee. Therefore, in the present case that the ld AO has rejected the books of account which we have reversed and directed him to compute the business income of the assessee based on the evidence placed before him, therefore this addition as such cannot be sustained. Furthermore, the assessee itself has made a disallowance of Rs. 11211915/- in the total income of the assessee for non deduction of tax at source. In view of this we direct ld AO to delete disallowance made by him of Rs. 8932142/- out of Rs. 11211915/- when he is taxing the income of the assessee by rejecting the books of accounts and Further if there is no rejection of books of accounts assessee itself has made this disallowance. In result ground No. 3 of the appeal of the assessee is allowed.