SUNNY VISTA REALTORS P. LTD,MUMBAI vs. ASST CIT CIR 3(3), MUMBAI

The brief background of the case is that it was noted by the AO during the course of assessment proceedings that the assessee was engaged in the business

Still being aggrieved, the assessee filed appeal before the Tribunal. During the course of hearing before us, the Ld. Counsel of the assessee vehemently disputed the action of the lower authorities. It was submitted that nature and genuineness of the expenses have not been doubted by any of the lower authorities. The only dispute is whether the impugned expenses should be made part of P & L account or WIP. It was submitted that both the authorities have misunderstood the provisions of AS-7. Assessee is having various projects in hand. Development of SEZ may be termed as one integrated project, but it has many parts of it. Therefore, different kinds of expenses are incurred from time to time. Those items which pertain to the period under consideration have to be 6 necessarily consumed during the said period itself, as it does not make any value addition to the inventory in hand. This method of accounting is consistently followed by assessee as well as all the persons in this industry. It was also stated that all the expenses pertained to the year under consideration which have been debited in the P & L account. The finance cost incurred in the form of interest on bank overdraft, interest on vehicle loan and bank charges have been incurred for the working capital of the company, which is not connected with construction of any project. The assessee is incurring other huge cost for which working capital was required. The interest debited in the P & L account does not relate to any amount of loan utilized in construction of project. Complete break up of expenses were filed in this regard. It was further submitted that business of the assessee was set up during the year as would be evident from the fact that all the requisite approvals have been obtained, sales and marketing brochures were issued and advance was received from as many as 1,485 customers. It was submitted that in any case, these expenses are allowable as these expenses have been incurred after the setting up of the business of the assessee. Reliance was placed on the following decisions:-

Per contra, the Ld. DR vehemently supported the orders of the lower authorities. It was submitted that since complete details were not available with regard to the expenses incurred, therefore, this issue may be sent back to the file of the AO for proper examination. It was also submitted that in any case, lower authorities have taken a stand that since expenses were related to 7 single project, this should have been made as part of the project cost. Under these circumstances, the action of lower authorities should be upheld.

Thus, from the perusal of the above, it is clear that AS-7 is actually applicable upon contractor whereas the assessee is a builder / developer and not a contractor. Therefore, AS-7 is not strictly applicable on the facts of the case of the assessee. But, the entire thrust of the Revenue has been based upon the premise that the assessee should have booked the expenses in accordance with AS-7, as per which the entire expenses should be debited to the cost of the project since there was one single project only. Thus, we find

Costs that are specifically chargeable to the customer under the terms of the contract may include some general administration costs and development costs for which reimbursement is specified in the terms of the contract.

Perusal of the aforesaid lays down that entire cost is not required to be added to the cost of the project. Only those contract costs which are attributable to a contract are required to be added to the cost of project. Cost that cannot be attributed to contract activity or cannot be allocated to a contract are excluded from the cost of construction, for example, general administration costs, selling costs, depreciation on those assets which are not used in construction activities, etc. In the light of the aforesaid provisions, we have analysed the expenses which were debited by the assessee in the P & L account but disputed by the AO. During the course of hearing before us, following break up of these expenses has been provided to us:-

We have gone through the details of the expenses on the basis of few documentary evidences brought before us. It is noted from the perusal of these expenses that none of these expenses appear to be directly related to a particular project in hand. It is noted that the assessee has himself put various expenses in WIP category, e.g. the cost of civil works (Rs.78,53,018/-) and direct management and general services (Rs.3,97,14,797/-) have been debited in entirety to the cost of WIP and no portion of it has been debited in the P & L account as expenses of the period under consideration. Similarly, with regard to the legal and professional fee, out of aggregate amount of Rs.27.82 crores, only small portion of Rs.55.47 lakhs has been debited to the P & L account whereas the substantial portion of Rs.27.27 crores has been added to the cost of WIP by the assessee itself. Similarly, with regard to the other expenses also, the assessee bifurcated them on the basis of nature of expenses. It was contended that other common expenses like audit fee, rates and taxes, repair and maintenance etc were allocated to the P & L account since these cannot be co-related to any particular project. Similarly, with regard to the marketing service cost-cum-sales promotion and administration expenses, it has been submitted that these were common expenses and were not related to any particular project in hand. Therefore, these have been debited in the P & L account as period cost. With regard to the finance charges (comprising of interest and bank charges), it was stated that interest on vehicle loans was paid with regard to the vehicles which were used in general administration. Further, the bank overdraft was not utilized at all in the construction activities. Therefore, these expenses have been included as period cost in the P & L account. It is further noted by us that the Ld. Counsel has repeatedly stated that complete books of account and all the details as were required by the AO were submitted to him to show nature of the expenses and their nexus with the 13 project. But nothing has been brought on record by the AO to negate the claim of the assessee that none of these expenses related to any particular project. Therefore, the action of the AO in treating these expenses as part of the cost attributable to a particular project was based upon presumption, surmises and conjectures.

Further, with regard to the assertion of the AO that assessee was having one single project, it has been vehemently stated by the Ld. Counsel that the assertion made by the AO is factually incorrect. It is true that assessee is developing a large integrated SEZ project, but apart from this, the assessee is having various projects/ sub-projects in hand. Even in the SEZ project, there are various small and big projects. In support of his argument, Ld. Counsel brought before us following details to show that various projects have been taken by the assessee, as briefly stated below:

Nothing wrong or incorrect on facts has been pointed out by the Ld. DR in the aforesaid details submitted by the Ld. Counsel. Thus, from the above, it is 15 noted by us that AO’s assumption and assertions appear to be factually wrong. Under these circumstances, we find that the AO’s action in disallowing these expenses by treating them as part of the project cost is not in consonance with the facts of this case and provisions of law as discussed above. It is noted, as discussed in detail above that it is a case of a builder / developer, therefore, AS- 7 is not applicable. Alternatively, even if AS-7 is applied, it nowhere suggests that assessee is required to treat all the expenses as part of the cost of project whether attributable to a project or not.

In addition to the above, we have examined the case of the assessee from another angle also. Since it has been held by us that AS-7 is not applicable on the assessee, under these circumstances, we need to examine whether expenses of the assessee can be allowed in the year under consideration since the AO has objected that no revenue from sales has been booked by the assessee during the year under consideration. Under these circumstances, we analysed primary contention of Ld. DR that no expenses can be allowed as business expenses of the year under consideration unless revenue from the business is earned and credited in the P & L A/c. Whereas Ld. Counsel of the assessee has submitted that all expenses incurred in the normal course of business shall be allowable after the setting up of business irrespective of the fact whether revenue is yet earned or not. We have pondered over this issue and found that this issue is not res integra. In this regard we have firstly taken guidance from the judgement of Hon’ble Bombay High Court in the case of Western India Vegetable Products Ltd. (26 ITR 151) wherein it was held that expenses are allowable after setting up of the business. This judgment has been followed in many cases. This issue was also deliberated by Mumbai Bench of the Tribunal in the case of PineBridge Investments Capital India Private Limited (I.T.A. No. 2940/Mum/2011 dt 27th July, 2016). In this case issue before the bench was to decide that in the case of newly set up company whether the 16 expenses are allowable only after the business was ‘commenced’ or after it was ‘set-up’, and when that stage can be said to be achieved in the case of a company. It was held by the bench that as per law expenses are allowable after the business is ‘set up’ even if it is not yet actually ‘commenced’. Relevant part of observations containing reasoning given by the bench is reproduced hereunder:

Similar view was taken in another judgment in the case of M/s DHL Express (I) Pvt. Ltd. Vs. ACIT 124 TTJ 108 (Mumbai) observing that the date of setting up of business and date of commencement of business are distinct and the expenses incurred after the setting up of the business are deductible as revenue expenditure as held by the Delhi High Court in CIT Vs. ESPN Software India (P) Ltd.

Thus, from the aforesaid events it can be noted that all the legal formalities have already been completed even before the beginning of the impugned financial year. Further, the assessee has already purchased land as is evident from the perusal of the balance-sheet showing that assessee had already made investment in land for an aggregate amount of Rs.129,00,89,390/- as on 31-03-2008 (i.e. beginning of the impugned financial year). In addition to the said main point, it has been noted by us that the assessee has already done provisional booking by receiving advance from various customers in as many as 1,485 cases for an aggregate amount of Rs.23,95,51,585/-. All these facts are further fortified with the fact that substantial amount of revenue (income) has been recognized by the assessee in subsequent assessment years. It was brought to our notice that in A.Y. 2012-13 flats were sold for a total sale consideration of Rs.115,46,51,912/- as against which proportionate revenue of Rs.45,92,68,343/- has been recognized in A.Y. 2012-13. It has also been noted by us that assessee has issued allotment letters to numerous customers in the immediately subsequent assessment year.

Thus, facts of this case showing that all requisite approvals have been received by the assessee, sufficient land has already been purchased, marketing brochures were issued, advance was received from the customers and taking into account the totality of the facts and circumstances of the case, it can clearly be said that business of the assessee was ‘set up’. It is well settled law that once business is set up, all the expenses that relate to the period under consideration should be allowed as business expenses of the said period. In this regard, the Ld. Counsel of the assessee has rightly relied upon the judgment of Hon’ble Supreme Court in the case of CIT vs Sarabhai Management Corporation Ltd (supra). The Ld. Counsel had also relied upon two decisions of the Tribunal as have been mentioned above, which also support the view taken by us. Reference can be made to the decision of Mumbai Bench of the Tribunal in the case of M/s Lodha Palazzo vs ACIT (supra) wherein, on identical facts, the AO had treated the expenses claimed by the assessee as business expenses as part of cost of WIP. After analyzing the complete facts of the case, the Bench held that the expenses incurred in the normal course of business, which are not relatable to a particular project should be allowed as expenses incurred for the year under consideration by observing as under:- “6. We have heard the rival contentions and gone through the records. The Ld. counsel for the assessee has relied upon the "Expert Advisory Committees Report (EAC) on applicability of revised AS 7 to enterprises undertaking the construction activities on their own account as a venture of commercial nature" (copy placed at page 49 & 50 of paper book) wherein it has been stated that revised AS -7 shall not be applicable to the builders undertaking the commercial activity on their own and it was also stated that the work in progress shall constitute inventory for the builders and shall be valued as per AS-2 issued by the Institute of Chartered Accountant of India (ICAI). The Ld. Counsel has further submitted that the assessee has accordingly followed the Accounting Standard -2 for determining the work in progress. He has further brought our attention to para 13 of AS-2, wherein it has been mentioned that the following expenses have to be excluded from the cost of inventories being work-in-progress:

The Ld. Counsel therefore has stated that as per the above guidelines, the administrative and selling expenses have been specifically excluded from the cost of inventory for work for closing WIP. The Ld. Counsel has further submitted that even as per AS -7 vide paragraph 19 it has been mentioned that the general administrative cost and selling cost does not constitute the cost of the project. He, therefore, has submitted that as per Guidance note, AS 2 and even AS 7, the general administrative expenses and selling expenses are not project cost and are to be charged to the profit & loss account in the very same year in which they are incurred. In view of the above facts and following the Guidance Notes and Accounting Standards, the assessee has individually worked out the expenses directly related to work in progress and expenses not related to work in progress and accordingly debited in respective heads. The Ld. Counsel has further relied upon section 145A of the Act, which read as under:

The Ld. Counsel, therefore, has contended that the assessee has been regularly following the method of accounting recognized by the accounting principles to value the inventory. The assessee had followed the same method of valuing the inventory in preceding year as well as in succeeding years. Even in the assessment year 2010-11, it has debited and claimed the identical nature of expenses which had been accepted as deductible expenses in assessment order passed u/s 143(3) of the IT Act. The assessee being regularly following the accounting method duly recognized by the accounting principles and guidelines as stated above and in view of the provisions of section 145A has rightly claimed the proportionate salary expenses, administrative expenses and selling expenses as revenue expenditure. The Ld. counsel has further contended that the Special Bench decision of the Tribunal relied upon by the lower authorities in the case of "Wall Street Construction Ltd. Vs JCIT" [101 ITD 156] is relating to interest expenditure identifiable with the project. In assessee's case, dispute is not with respect to interest as the assessee itself has added the interest cost to the work-in-progress and claimed it in subsequent year in the proportion of revenue offered. Thus, the facts in assessee's case are quite distinguishable and the decision of Special Bench (supra) is not applicable to the facts of the assessee's case.

We have considered rival contentions and carefully gone through the orders of the authorities below. The percentage completion method of accounting has been regularly followed by the assessee. In the succeeding assessment year 2010-11, the AO has accepted the deductibility of the identical nature of expenses in the assessment order passed u/s 143(3) of the l.T. Act. We agree with contention of the Ld. Counsel for the assessee that the employee cost refers to salary paid to the employees who are looking after the administration of office and not directly related to construction of the project but is part of the administrative expenses. Similarly, the office and administrative expenses and selling and marketing expenses are to be charged to the profit & loss account in the very same year in which they are incurred and have to be excluded from the cost of inventories for working out closing WIP as per the guidelines issued by the ICAl, Accounting Standard AS-2 and AS-7. The assessee has regularly and consistently been following the said method of accounting as per the provisions of section 145A of the l.T. Act. The AO has not assigned any cogent reason as to why the method, which has been consistently followed by assessee and accepted by the department in past as well in succeeding assessment years and which is in accordance with the recognized principles of accounting by ICAl, is being rejected. In our view, the action of the Revenue Authorities in rejecting the assessee's accounting method, without assigning any reason is not justified. The accounting method followed by the assessee and thereby excluding the indirect expenses such as office employees' salary, administrative expenses and marketing & selling expenses is as per the recognized principles of accountings and as such the claim of the assessee deserves to be allowed. We hold accordingly. The additions made by lower authorities on this issue are hereby ordered to be deleted.”

Similar view has been followed by the Mumbai Bench in the case of Hiranandani Palace Garden Pvt Ltd vs ACIT (supra). It has also brought to our notice that same method of accounting has been consistently followed by the assessee in all the subsequent years. Once a particular method of accounting has been followed consistently and apparently the same is not contrary to law or facts of the case, then the AO is not permitted to disturb the same only because as per him the some other method of accounting should have been followed by the assessee.

Thus, taking into account all the facts and circumstances of the case, we find that action of the AO in treating the impugned expenses as part of WIP was not justified and was contrary to law and facts. The claim made by the assessee is in line with the method of accounting consistently followed by the assessee and is in accordance with law and facts of this case. Therefore, addition made by the AO is directed to be deleted. 23. The AO is directed to allow the expenses as have been claimed by the assessee. The consequential effect shall also be given by the AO while passing order giving appeal effect for the amount of closing WIP of the year under consideration as well as opening WIP of the immediately subsequent assessment year. Thus, with these directions, the grounds 1 to 3 raised by the assessee are allowed.

As a result, appeal of the assessee is partly allowed.