Sutlej Cotton Mills Ltd. vs Assistant Commissioner Of Income ...
1998 Latest Caselaw 103 Del

ORDER--Certain items not considered in valuation of closing stock.

Ratio:

Where the expenses relating to salaries, employees welfare, rates and taxes, rent, insurance, depreciation and building and machinery repairs were not included in valuation of closing stock, order of the assessing officer was erroneous and prejudicial to interest of the revenue.

Held:

Undoubtedly, method of accounting followed in valuation of closing stock is cost. It was also not disputed that items relating to the direct cost have to be taken into consideration. It was also not the case of the assessee that the notings of the auditors that while arriving at the valuation of the finished goods certain overheads have not been taken into consideration, are not correct. As the assessee had very fairly conceded that in view of not taking into consideration certain expenses relatable to the direct cost, the Commissioners have correctly assumed the jurisdiction under section 263.

Case Law Analysis:

ITO v. Modi Rubber Ltd. (1992) 43 ITD 396 (Del) followed.

Application:

Also to current assessment year.

Income Tax Act 1961 s.263

Revision--ERRONEOUS AND PREJUDICIAL ORDER--Certain items not considered in valuation of closing stock.

Ratio:

Where the expenses relating to salaries, employees welfare, rates and taxes, rent, insurance, depreciation and building and machinery repairs were not included in valuation of closing stock, order of the assessing officer was erroneous and prejudicial to interest of the revenue.

Held:

Undoubtedly, method of accounting followed in valuation of closing stock is cost. It was also not disputed that items relating to the direct cost have to be taken into consideration. It was also not the case of the assessee that the notings of the auditors that while arriving at the valuation of the finished goods certain overheads have not been taken into consideration, are not correct. As the assessee had very fairly conceded that in view of not taking into consideration certain expenses relatable to the direct cost, the Commissioners have correctly assumed the jurisdiction under section 263.

Case Law Analysis:

ITO v. Modi Rubber Ltd. (1992) 43 ITD 396 (Del) followed.

Application:

Also to current assessment year.

A. Y.:

1987-88 and 1988-89

Dt. Ord.:

29-1-1998

Income Tax Act 1961 s.263

Accounting method--VALUATION OF CLOSING STOCK--Scope of direct cost method.

Ratio:

For valuation of closing stock under direct cost method, contribution to provident fund, employees welfare expenses, bonus and other benefits relating to labour and staff, repairs and maintainance to machinery as well as factory building and part of insurance relatable to goods had to be taken into consideration alongwith other direct costs, however rent and depreciation should not be taken into consideration.

Held:

Coming to the direct labour cost, the assessee has only accounted for the wages and salaries of technical staff and not taking into consideration the contribution to provident fund, employees welfare expenses, bonus and other benefits relating to workers and staff whose wages and salaries have been taken into consideration. As these go along with the wages and salaries accounted for these have to be included while considering the direct cost method. (sic) As regards production over head, the assessee had accounted for power and fuel consumption but not repairs and maintenance to machinery and factory building. As this expenditure is directly relatable to the production of goods, the same had to be accounted for and court would hold that the inclusion of the amount in this respect has been rightly done. As regards insurance, the assessee has explained that this relates to the comprehensive insurance which is not relatable to goods alone. In this respect part of the expenses which are relatable to the goods are also to be taken into consideration while arriving at the direct cost. This could, however, not be so in regard to depreciation. It is further held that fixed cost is defined as the one which by its very nature remains relatively unaffected in a definite period of time by variation in the volume of production. After observing so, it has been held that the depreciation is not to be taken into consideration. This would apply to the rent which does not vary with valuation in production. Therefore, the same is to be excluded while working out the cost of the finished goods. The assessing officer was directed to modify the working of the valuation of closing stock of finished goods.

Case Law Analysis:

ITO v. Modi Rubber Ltd. (1992) 43 ITD 396 (Del) followed.

Application:

Also to current assessment year.

Income Tax Act 1961 s.145

In the ITAT Delhi `D Bench Ram Swarup, V. P. & Miss Moksh Mahajan, A.M.

Income Tax Act, 1961, Sections 145 and 263

ORDER

Miss Moksh Mahajan, A.M.

These four appeals have been filed by the assessee against the orders passed under section 263 for assessment years 1987-88 and 1988-89 and orders passed under section 143(3) as a consequence, for assessment years 1987-88 and 1988-89. Since common issues are involved in all the appeals, these are consolidated for the sake of convenience.

2. Taking up the appeals relating to orders passed under section 263 for assessment years 1987-88 and 1988-89 in ITA Nos. 1378/Del/92 & 988/Del/93, the facts in brief are that the assessments for the aforesaid two assessment years were finalised originally by the respective assessing officers. Subsequently, vide show-cause notice dated 19-3-1992, for assessment year 1987-88 and 5-3-1993 for assessment year 1988-89, the respective Commissioners proposed to set aside the assessments on the ground that while arriving at the valuation of stocks certain expenses on salaries, employees welfare, rates and taxes, rent, insurance, depreciation and building and machinery repairs were not taken into account. Before the Commissioner, the assessee submitted that it has two factories, one at Khatua and another at Bhawani Mandi (Raj). The closing stock of finished goods for both the factories is valued at cost, same being lower than the market rate. The cost, on the other hand, is computed by the method consistently followed by the assessee as in the earlier years. The learned Commissioner did not accept the assessee's contentions in view of the decision of the Hon'ble Supreme Court in the case of CIT v. British Paints (I) Ltd. (1991) 188 ITR 44 (SC). After citing the relevant observations, the contentions as raised were rejected and the assessments were set aside giving directions to the assessing officer that the valuation of stock be arrived at by including the overheads in respect of salaries, employees welfare expenses, rates and taxes, rent, insurance, depreciation and building and machinery repairs. Aggrieved against the aforesaid order, the assessee has come up before us.

2. Taking up the appeals relating to orders passed under section 263 for assessment years 1987-88 and 1988-89 in ITA Nos. 1378/Del/92 & 988/Del/93, the facts in brief are that the assessments for the aforesaid two assessment years were finalised originally by the respective assessing officers. Subsequently, vide show-cause notice dated 19-3-1992, for assessment year 1987-88 and 5-3-1993 for assessment year 1988-89, the respective Commissioners proposed to set aside the assessments on the ground that while arriving at the valuation of stocks certain expenses on salaries, employees welfare, rates and taxes, rent, insurance, depreciation and building and machinery repairs were not taken into account. Before the Commissioner, the assessee submitted that it has two factories, one at Khatua and another at Bhawani Mandi (Raj). The closing stock of finished goods for both the factories is valued at cost, same being lower than the market rate. The cost, on the other hand, is computed by the method consistently followed by the assessee as in the earlier years. The learned Commissioner did not accept the assessee's contentions in view of the decision of the Hon'ble Supreme Court in the case of CIT v. British Paints (I) Ltd. (1991) 188 ITR 44 (SC). After citing the relevant observations, the contentions as raised were rejected and the assessments were set aside giving directions to the assessing officer that the valuation of stock be arrived at by including the overheads in respect of salaries, employees welfare expenses, rates and taxes, rent, insurance, depreciation and building and machinery repairs. Aggrieved against the aforesaid order, the assessee has come up before us.

3. Ajay Vohra who appeared on behalf of the assessee submitted that the learned Commissioner has not appreciated the judgment of the Supreme Court in the case of British Paints (1) Ltd. (supra). This is not applicable to the case of the assessee. The Commissioner while arriving at the alleged under valuation of stock has adopted various figures in the show-cause notice which are not available on records. According to him, the stock has been valued at the cost and while doing so, the assessee has taken into consideration the cost of raw materials consumed, processing and job charges and stores and spares consumed, power and fuel consumed. It has also taken into consideration salary pertaining to non-technical staff and other factors. It was however admitted that while doing so, certain expenses which are directly relatable to the cost were not taken into consideration. To cut short the matter, it was conceded that in the circumstances, while there could be dispute in regard to the inclusion of individual items of expenses, it could be fairly said that the Commissioner has rightly assumed jurisdiction under section 263 of the Act. In view of the arguments of the learned authorised representative the learned Departmental Representative did not deem it fit to advance any arguments.

3. Ajay Vohra who appeared on behalf of the assessee submitted that the learned Commissioner has not appreciated the judgment of the Supreme Court in the case of British Paints (1) Ltd. (supra). This is not applicable to the case of the assessee. The Commissioner while arriving at the alleged under valuation of stock has adopted various figures in the show-cause notice which are not available on records. According to him, the stock has been valued at the cost and while doing so, the assessee has taken into consideration the cost of raw materials consumed, processing and job charges and stores and spares consumed, power and fuel consumed. It has also taken into consideration salary pertaining to non-technical staff and other factors. It was however admitted that while doing so, certain expenses which are directly relatable to the cost were not taken into consideration. To cut short the matter, it was conceded that in the circumstances, while there could be dispute in regard to the inclusion of individual items of expenses, it could be fairly said that the Commissioner has rightly assumed jurisdiction under section 263 of the Act. In view of the arguments of the learned authorised representative the learned Departmental Representative did not deem it fit to advance any arguments.

4. We have carefully considered the submissions as made in the light of the facts as noted above.

4. We have carefully considered the submissions as made in the light of the facts as noted above.

Undoubtedly, method of accounting followed is valuation of closing stock in cost. It is also not disputed that items relating to the direct cost have to be taken into consideration. It is also not the case of the assessee that the notings of the auditors that while arriving at the valuation of the finished goods certain overheads have not been taken into consideration are not correct. As the learned authorised representative has very fairly conceded that in view of not taking into consideration certain expenses relatable to the direct cost, the learned Commissioners have correctly assumed the jurisdiction under section 263, we have nothing further to add on the issue on merits.

5. In the circumstances, we would uphold the orders of the respective learned Commissioners passed under section 263, whereby the assessments framed stand set aside.

5. In the circumstances, we would uphold the orders of the respective learned Commissioners passed under section 263, whereby the assessments framed stand set aside.

6. In the result, appeals filed by the assessee for assessment years 1987-88 and 1988-89 in ITA Nos. 1378(Del)1992 and 988(Del)1993 are dismissed.

6. In the result, appeals filed by the assessee for assessment years 1987-88 and 1988-89 in ITA Nos. 1378(Del)1992 and 988(Del)1993 are dismissed.

7. Coming to the appeals filed against the orders passed under section 143(3) for assessment years 1987-88 and 1988-89 in pursuance of the orders passed under section 263, the contention of the learned authorised representative was that while framing the assessments, the assessing officers while computing the direct costs have taken into consideration the salaries (as per-cost audit report), depreciation, contribution to provident fund, employees welfare expenses, rent, insurance, rates and taxes, building repairs and machinery repairs. A chart was furnished whereby it was shown that in regard to the wages and salaries of technical staff, in addition to what assessee accounted for at Rs. 4,74,60,920, the assessing officer added an amount of Rs. 81,89,123 for assessment year 1987-88. In regard to assessment year 1988-89, the assessee accounted for wages and salaries of technical staff at Rs. 5,19,09,724. However, while doing so, the provision for bonus, fringe benefits, namely, gratuity, superannuation, leave with wages, etc. were not considered by the assessee. The assessing officer made an addition at Rs. 22,61,788 without specifying amount. As regards packing material consumption and water expenses, as the same had been accounted for, which was not disputed in the orders passed under section 263 of the Act, nothing is to be added on the account. The dispute related to depreciation, contribution to provident fund, employees welfare expenses, rent, insurance, rates and taxes, building repairs and machinery repairs. These were not considered by the assessee as according to him, these do not relate to the prime cost, and as such, not to be taken into consideration by the respective assessing officers while passing the order. According to the learned authorised representative except for a few items, like expenses relating to technical staff, the valuation of finished goods have been correctly arrived at as per the recognised method of accounting. The learned Departmental Representative on the other hand relying on the order of the Tribunal in the case of ITO v. Modi Rubber Ltd. (1992) 43 1TD 396 (Del-Trib) submitted that similar issue stands decided by the Tribunal. While arriving at the cost of the finished goods, the ratio of the aforesaid decision be taken into consideration.

7. Coming to the appeals filed against the orders passed under section 143(3) for assessment years 1987-88 and 1988-89 in pursuance of the orders passed under section 263, the contention of the learned authorised representative was that while framing the assessments, the assessing officers while computing the direct costs have taken into consideration the salaries (as per-cost audit report), depreciation, contribution to provident fund, employees welfare expenses, rent, insurance, rates and taxes, building repairs and machinery repairs. A chart was furnished whereby it was shown that in regard to the wages and salaries of technical staff, in addition to what assessee accounted for at Rs. 4,74,60,920, the assessing officer added an amount of Rs. 81,89,123 for assessment year 1987-88. In regard to assessment year 1988-89, the assessee accounted for wages and salaries of technical staff at Rs. 5,19,09,724. However, while doing so, the provision for bonus, fringe benefits, namely, gratuity, superannuation, leave with wages, etc. were not considered by the assessee. The assessing officer made an addition at Rs. 22,61,788 without specifying amount. As regards packing material consumption and water expenses, as the same had been accounted for, which was not disputed in the orders passed under section 263 of the Act, nothing is to be added on the account. The dispute related to depreciation, contribution to provident fund, employees welfare expenses, rent, insurance, rates and taxes, building repairs and machinery repairs. These were not considered by the assessee as according to him, these do not relate to the prime cost, and as such, not to be taken into consideration by the respective assessing officers while passing the order. According to the learned authorised representative except for a few items, like expenses relating to technical staff, the valuation of finished goods have been correctly arrived at as per the recognised method of accounting. The learned Departmental Representative on the other hand relying on the order of the Tribunal in the case of ITO v. Modi Rubber Ltd. (1992) 43 1TD 396 (Del-Trib) submitted that similar issue stands decided by the Tribunal. While arriving at the cost of the finished goods, the ratio of the aforesaid decision be taken into consideration.

8. We have carefully considered the rival submissions. We have also gone through the decision rendered in the case of British Paints (I) Ltd. (supra) as well that of Modi Rubber Ltd. (supra). It is not disputed that the assessee has been following consistent method of valuation of closing stock of finished goods at cost. This is stated to be the direct cost method which is well-recognised as per principles of accounting. As mentioned above, on going through the order of Modi Rubber, we find that the learned members of the Tribunal had referred to the components of the direct cost to be as under.

8. We have carefully considered the rival submissions. We have also gone through the decision rendered in the case of British Paints (I) Ltd. (supra) as well that of Modi Rubber Ltd. (supra). It is not disputed that the assessee has been following consistent method of valuation of closing stock of finished goods at cost. This is stated to be the direct cost method which is well-recognised as per principles of accounting. As mentioned above, on going through the order of Modi Rubber, we find that the learned members of the Tribunal had referred to the components of the direct cost to be as under.

(a) Direct material cost :

(i) Raw material consumed; and

(ii) Stores, spares and oil consumed

(b) Direct labour cost :

Salary, wages, bonus, ex gratia, etc., to staff and workers.

(c) Production overheads ;

(i) Power and fuel consumed ;

(ii) Repairs and maintenance to plant and machinery; and

(iii) Repairs and maintenance to factory building.

Following items had not been included ;

(i) Administrative overheads and interest;

(ii) Selling and distribution overheads; and

(iii) Depreciation.

As regards direct material cost, there is no dispute in as much as, as per the chart given to us, which is not disputed by the learned Departmental Representative. The assessee has accounted for cost of raw material consumed, and stores and spares consumed. Coming to the direct labour cost, the assessee has only accounted for the wages and salaries of technical staff and not taking into consideration the contribution to provident fund, employees welfare expenses, bonus and other benefits relating to workers and staff whose wages and salaries have been taken into consideration. As these go along with the wages and salaries accounted for, according to us, these have to be included while considering the direct cost method. (sic) As regards production over head, we find that the assessee has accounted for power and fuel consumption but not repairs and maintenance to machinery and factory building. In this context, we note that in the case of Modi Rubber Ltd. (supra), the aforesaid concern had accounted for the expenses relating to repair and maintenance to machinery as well factory building. As this expenditure is directly relatable to the production of goods, the same has to be accounted for and we would hold that the inclusion of the amount in this respect has been rightly done. As regards insurance, the assessee has explained that this relates to the comprehensive insurance which is not relatable to goods alone. In this respect we would hold that part of the expenses which are relatable to the goods are also to be taken into considration while arriving at the direct cost. This would however not be so in regard to depreciation. For this, we find support in the order of the Tribunal in the case of Modi Rubber (supra) where it has been held that while asking for direct cost method, the fixed cost are to be excluded in determining the cost. It is further held that fixed cost is defined as the ones which by its very nature remain relatively unaffected in a definite period of time by variation in the volume of production. After observing so, it has been held that the depreciation is not to be taken into consideration. This would apply to the rent which does not vary with valuation in production. Respectfully following the aforesaid decision, we would hold that the same is to be excluded while working out the cost of the finished goods. The assessing officer is directed to modify the working of the valuation of closing stock of finished goods in the light of the observations as contained above.

9. In the result, the appeals filed by the assessee in ITA Nos. 7184(Del)1994 and 5850(Del)

9. In the result, the appeals filed by the assessee in ITA Nos. 7184(Del)1994 and 5850(Del)

1985 for the assessment years 1987-88 and 1988-89 are allowed in part as above.

1985 for the assessment years 1987-88 and 1988-89 are allowed in part as above.