Delhi High Court

Hem Raj Vijay Kumar & Co. vs Dy. Cit on 18 May, 2001

Equivalent citations: (2001) 72 TTJ Del 648

ORDER

Krishan Swarup, A.M.

The Honble President of the Tribunal has been pleased to constitute this Special Bench for the disposal of the captioned appeals filed by the assessed against the consolidated order of the Commissioner of Income Tax, Meerut (Commissioner) under section 263 of the Income Tax Act, 1961, dated 8-3-1991, for the assessment years 1987-88 and 1988-89.

2. In the appeal petitions, the assessed has taken as many as 11/10 identically worded grounds which challenge assumption of jurisdiction by the Commissioner under section 263 of the Income Tax Act, and the validity of the order passed by him under the said section, to set aside the assessment orders passed by the assessing officer under section 143(3) of the Act.

3. Facts of the case are briefly set out in the succeeding paragraphs.

3.2. On 31-3-1986, a "Memorandum of Association" was drawn by 26 parties joining as an Association of Persons (hereinafter referred to as the AOP) to exploit the business for retail sale of country liquor in the financial year 1986-87 at shops 1 to 3 situated in Hapur City, Shop No. 4 situated at Pilakhuwa and Shop No. 5 situated at Dhaulana and Shop No. 6 situated at Faridnagar, Ghaziabad, for which the excise license under the UP Excise Rules was obtained for a sum of Rs. 84,00,000 in the group auction held on 20-3-1986. The business was decided to be carried on under the name and style of Hem Raj Vijay Kumar & Co. The initial capital of the AOP had been contributed by the parties of the 1st to 22nd part which was drawn by them from their respective capital accounts in an erstwhile firm, for making payment to the excise authorities. The parties of the 23rd part to 26th part had undertaken to contribute a minimum amount of Rs. 4,55,000 as capital and had actually contributed the same by 31-3-1986. In terms of clause 4 of the memorandum of association, the final accounts, for the purpose of determination of profit and/or loss, were to be closed on 31-12-1986, and the accounts for the remaining period were to be made up on the closure of the business, which date in no case was to extend to a period beyond 31-12-1987. The profit/loss sharing ratio was specified in clause 8 of the memorandum. In terms of clause 10 of the said memorandum, the members of the association were to be provided, paid or credited with interest at he rate of 18 per cent on the capital provided by the them for the purpose of the business of the association.

3.3. For the assessment year 1987-88, consisting of the period from 1-4-1986, to 31-12-1986, the assessed had filed its return declaring an income of Rs. 8,55,820 in the status of an AOP. In the relevant accounts, deduction for payment of interest to members of AOP on their capital investment was claimed at Rs. 3,49,263. The relevant assessment was completed by Deputy Commissioner (Asst), Special Range, Ghaziabad; vide order under section 143(3) of the Income Tax Act, dated 28-11-1988, on a total income of Rs. 8,76,750. Return for the accounting period 1-1-1987, to 31-12-1987, relevant to assessment year 1988-89, was filed declaring an income of Rs. 3,62,433. In the relevant accounts, deduction for interest payment to members of AOP was claimed at Rs, 1,21,893. The assessment was completed by the Deputy Commissioner (Asst.), Special Range, Ghaziabad on a total income of Rs. 3,71,420 vide order under section 143(3) of the Act, dated 28-11-1988.

3.4. On examination of the relevant records, the learned Commissioner, Meerut was prima facie satisfied that the aforesaid two assessment orders dated 28-11-1988, were erroneous and prejudicial to the interest of revenue. Notices under section 263 were, therefore, issued by him on 7-12-1991, for both the years, inter alia, on the following count.

Asst. yr. 1987-88 :

(i) The assessing officer had allowed deduction of Rs. 3,49,263 being interest as claimed paid to the members of AOP on their capital investment which interest was otherwise not allowable.

(ii) While completing the assessment, the assessing officer did not consider as to what happened to empty bottles which invariably remain with the trader.

(iii) The license was granted to the assessed for the period from 1-4-1986, to 31-3-1987. The assessed, however, closed its accounts on 31-12-1986, and maintained separate accounts for 1-1-1987, to 31-12-1987. and filed separate return for assessment year 1988-89 and assessment for assessment year 1988-89 was also completed by the assessing officer separately whereas the assessing officer should have made single assessment for the period of 1-4-1986, to 31-3-1987, for assessment year 1987-88 itself on substantive basis.

Asst. yr. 1988-89

(i) The assessing officer had allowed claim of deduction of Rs. 1,21,893 as interest paid to members of AOP on their capital investment which was not allowable.

(ii) While completing the assessment the assessing officer did not consider as to what happened to empty bottles which invariably remained with the assessed in this line of trade.

(iii) Since the license was granted for period 1-4-1986, to 31-3-1987, as such, protective assessment should have been made for assessment year 1988-89 and the income for the period 1-4-1986, to 31-3-1987, should have been made on substantive basis for assessment year 1987-88 itself.

3.5. In reply to the show-cause notices, the plea of the assessed on the first aspect was that interest to members of AOP was an admissible business expenditure in view of the decision of the M.P. High Court in the case of CIT v. Harnandrai Shrikishan Akodia (1966) 61 ITR 50 (MP). It was asserted that while deciding the issue the assessing officer had considered the ratio of this decision of the higher appellate authority and, therefore, the order could not be considered as erroneous. In this connection, reliance was placed on the Calcutta High Court decision in the case of Russell Properties (P) Ltd. v. A. Chowdhury, Addl. CIT (1977) 109 ITR 229 (Cal). It was also stated that in the case of M/s Bulandshahr Wine Syndicate, Bulandshahr, the Commissioner, Meerut had ordered to add back the interest paid to the members of the AOP by taking recourse to the provisions of section 263 of the Act but that order was cancelled by the Tribunal. It was pointed out that in view of insertion of section 40(ba) by the Direct Tax Laws (Amendment) Act, 1989, the disallowance of interest could be made only with effect from 1-4-1989. The learned Commissioner firstly observed that the order of the Tribunal in the case of Bulandshahr Wine Syndicate, cancelling the order of the Commissioner under section 263 of the Income Tax Act, was not accepted by the department and at its instance, a question of law was referred by the Tribunal to the High Court vide statement of case dated 31-8-1990. In the circumstances, according to the learned Commissioner, the order of the Tribunal in the aforesaid case did not advance the assesseds cause. The learned Commissioner further observed that the facts in the case of Harnandrai Shrikishan Akodia (supra) were distinguishable inasmuch as in that case the money was specifically borrowed by the AOP from one of its members while in the present case, interest had been allowed on the capital contribution by the members and not on borrowed money. The learned Commissioner pointed out that section 36(1)(iii) was very specific that amount of interest shall be allowed if it had been paid in respect of capital having been borrowed for the purpose of the business and for that purpose there has to be relationship of creditor and debtor, which relationship was totally absent in the present case. In this connection, the learned Commissioner referred to certain judicial decisions. He also observed that there was scope for controversy on the question whether clause (ba) of section 40 was applicable from assessment year 1989-90 only, because it could also be said that it was only clarificatory in nature. The learned Commissioner concluded that had the assessing officer considered the above referred facts, he would not have allowed deduction for payment of interest. After further referring to certain judicial decisions, the learned Commissioner held that on the aforesaid issue, the orders of the assessing officer for the assessment years 1987-88 and 1988-89 were clearly erroneous and prejudicial to the interest of revenue.

3.6. On the second aspect (issue of empty bottles), the assessed had stated that element of profit never existed in handling empty bottles. It was explained that the persons wishing to return the empty bottles were entitled to refund of Rs. 1.45 per bottle as per directions of the Excise Department. It was pointed out that the returned bottles were sent to distillery which allowed credit to the assessed in the bills at the rate of Rs. 1.45 per bottle. According to the learned Commissioner, the assessed could not adduce any evidence before him to establish that payment to customers at the rate of Rs. 1.45 per empty bottle was made by it. The learned Commissioner, therefore, concluded that this issue was not examined by the assessing officer in each of the two years and hence those orders were erroneous and prejudicial to the interest of revenue.

3.7. On the third aspect, i.e., the adoption of calendar year as the accounting period, the submission of the assessed before the learned Commissioner was that during the course of assessment proceedings, a detailed reply was filed explaining the legitimacy for adopting the accounting period from 1-4-1986, to 31-12-1986 (for assessment year 1987-88), and the position was accepted by the assessing officer after detailed examination. It was emphasised that adoption of calendar year as the accounting year was in pursuance to the memorandum of association and the option exercised by the AOP. For the option of the assessed in adopting any particular period as the previous year, reliance was placed upon certain judicial decisions. It was pleaded that case of the assessed was covered under section 3(1)(d) of the Income Tax Act. The learned Commissioner firstly held that the facts of the cases relied upon by the assessed were distinguishable. While considering the plea of the assessed that it had opted for the previous year under section 3(1)(d), the learned Commissioner pointed out the facts that the assessed-AOP had secured license to sell liquor for the period 1-4-1986, to 31-3-1987, it had closed its first accounts on 31-12-1986, maintained other set of accounts for the period 1-1-1987, to 31-12-1987, and filed separate returns for the assessment years 1987-88 and 1988-89. He then referred to the requirements of section 3(1)(d) of the Act. He observed that firstly it has to be ascertained whether the business was set up in the financial year 1986-87 or not. In this connection, the following salient features emerging from the memorandum of association were referred to :

"(i) They have joined together not any partnership but as an AOP to obtain and exploit the business of sale of country liquor in the financial year 1986-87,

(ii) Great auction for the grant of excise license under U.P. Excise Rules was held on 20-3-1986, for the financial year 1986-87 which finalized for a sum of Rs. 84,00,000 as license fee payable i.e., this was finalized prior to 31-3-1986,

(iii) The aforesaid members made a bid for the aforesaid contract/license and obtained the same with a view to exploiting such contract (the deed is written on 31-3-1986) i.e., prior to this date the license was obtained by the AOP implying that the business was set up prior to 31-3-1986, i.e., in financial year 1985-86 itself.

(iv) In the memorandum vide page 6 the members were emphatic that they had associated themselves to exploit the liquor license granted and since the terms, of the said license would expire on 31-3-1987, the said association which came into existence by the aforesaid understanding will cease to be in force on the expiry of 31-3-1987."

According to the learned Commissioner, the above clauses of the agreement proved beyond shadow of doubt that the business was not set up in financial year 1986-87 but, in fact, it was set up in financial year 1985-86 itself when the members joined together, deposited the bid money and secured the license to sell the liquor. According to the learned Commissioner, it was also established that on 31-3-1986, itself, the business was ready to commence but since as per explicit provisions of the U.P. Excise Act, the sale was to be effected from 1-4-1986, so the assessed was unable to execute any sale prior to this date. It was pointed out that the law was very clear that when a business is established and is ready to commence then it can be held that it is "set up", though there may be an interval between the setting up of the business and actual commencement of the business. For this proposition, the Bombay High Court decision in the case of Western India Vegetable Products Ltd. v. CIT (1954) 26 ITR 151 (Bom) was referred to. It was thus held that first condition of section 3(1)(d) that the business is set up in the financial year, which in the present case was financial year 1986-87, was not fulfillled and, therefore, section 3(1)(d) did not come to play at all and that the case was governed by section 3(1)(a) itself. The learned Commissioner further observed that even if, for the sake of argument, it is presumed that the business was set up in the financial year 1986-87, even then requirement of sub-clause (ii) of section 3(1)(d) was not fulfillled in view of the ratio of the decision in the case of Bhailal Tribhovandas & Co. v. CIT (1968) 68 ITR 136 (Guj). In this connection the learned Commissioner observed that the license having been granted for the financial year 1986-87, i.e., for a period of 12 months, it was clear that the accounting period was bifurcated by the assessed with mala fide intention to defraud the revenue. The plea of the assessed in this behalf that on account of bifurcation, there was no loss to revenue, was rejected. It was concluded that the entire income for the period 1-4-1986, to 31-3-1987, was required to be considered in assessment year 1987-88 itself and, therefore, the assessing officer should have assessed the income for the period 1-4-1986, to 31-3-1987, on substantive basis in assessment year 1987-88 and his failure to do so had rendered the order erroneous and prejudicial to the interest of revenue. On this issue, for the assessment year 1988-89, it was pointed out that in the months of January, February and March, 1987, only actual purchases and sales were effected and in the books of accounts also, by 31-3-1987, the debit entries in respect of capital were passed. Subsequently, on 31-12-1987. simply entries in respect of interest, TDS and share of net profit were passed and balance was carried out. It was concluded that in the circumstances, the assessing officer should have made protective assessment for the return filed in respect of assessment year 1988-89 and his failure to do so had rendered the assessment order for the that assessment year erroneous and prejudicial to the interest of revenue.

3.8. Both the assessment orders were set aside to be framed de novo in the light of discussion in the order, after providing the assessed an opportunity of being heard.

4. Shri C.S. Aggarwal, learned counsel for the assessed, firstly contended that in the provisions of section 40, as they stood before amendment made by the Direct Tax Laws (Amendment) Act, 1989, with effect from 1-4-1989, there was no prohibition for deduction of interest, salary, bonus, etc., paid to a member by an AOP or BOI. It was only after the insertion of clause (ba) in section 40 of the Act that the amounts paid as interest, salary, etc., are not deductible with effect from 1-4-1989. He then submitted that this issue was considered by the Tribunal Benches in several cases, including the case of Bulandshahr Wine Syndicate, Bulandshahr v. Income Tax Officer. Our attention was invited to the Tribunals order in this case dated 27-10-1989, rendered in ITA No. 2510/Del/89 for the assessment year 1986-87, copy placed at pp. 79 to 82 of the paper book. It was submitted that the facts in that case were identical to the facts of the assesseds case and following the decision of the MP High Court in the case of CIT v. Harnandrai Shrikishan Akodia (supra), the assessing officer had allowed deduction for interest paid to members of the AOP on their capital contribution. The Commissioner was of the view that the said decision was not applicable to the case before him and, therefore, he had assumed jurisdiction under section 263 of the Income Tax Act, and set aside the assessment on this issue with a direction to the assessing officer to-frame it afresh. It was pointed out that the Commissioners order under section 263 of the Act was cancelled by the Tribunal. It was further asserted that while deciding the issue, the assessing officer had considered the ratio of Madhya Pradesh High Court decision in the case of Harnandrai Shrikishan Akodia (supra), as is mentioned by the learned Commissioner himself in his order. It was also submitted that the Tribunals decision in the case of Bulandshahr Wine Syndicate, cancelling the order of the learned Commissioner under section 263 was brought to the notice of the Commissioner but he has gone by the fact that in this case a reference under section 256(1) was granted by the Tribunal and has also attempted to distinguish the facts of the assesseds case with the facts in the case of Harnandrai Shrikishan Akodia (supra), on the premises that in the latter case, the money was borrowed by the AOP from a single member while in the assesseds case, no money had been borrowed by the AOP from the members but interest had been allowed on their capital contribution. In this connection, the learned counsel submitted that merely because a reference was granted by the Tribunal, it cannot be said the order of the Tribunal in the case of Bulandshahr Wine Syndicate stood disturbed in any manner. About the second point raised by the learned Commissioner, the submission of the learned counsel was that in rendering the decision in Bulandshahr Wine Syndicate, the Tribunal had duly taken into consideration the fact that interest was paid by the AOP to the members on their capital contribution. Thus, according to the learned counsel, the distinguishing features pointed out by the learned Commissioner in his order had no significance. He further submitted that by following the Madhya Pradesh High Court decision in the case of Harnandrai Shrikishan Akodia (supra), and its own decision in the case of Bulandshahr Wine Syndicate, the Tribunal had set aside the order of the learned Commissioner under section 263 in the case of Bulandshahr Country Liquor Traders for the assessment year 1987-88 vide order dated 8-10-1992, rendered in ITA No. 3946/Del/91, copy placed at pp. 1 to 7 of the paper book. Our attention was also invited to certain other orders of the Tribunal Benches in which a view similar to that in the case of Bulandshahr Wine Syndicate (ITA No. 2510/Del/89) was taken and deduction for interest paid to members of AOP was allowed. While admitting that in the case of CIT v. Bulandshahr Country liquor Traders, the Honble High Court had directed the Tribunal to draw up a statement of case and refer a question on the above issue as also on the issue of cancelling the assessment order under section 263 in respect of consideration of empty bottles CIT v. Bulandshahr Country liquor Traders (1995) 216 ITR 477 (All), the learned counsel for the assessed drew our attention to the decision of the Jurisdictional High Court in the case of CIT v. Kesho Rain & Ors. (2000) 245 ITR 733 (All), by which, the reference application filed by the department under section 256(2), on the following question of law, was rejected.

"Whether, on the facts and in the circumstances of the case, the Tribunal was legally correct in holding that the decision of the Madhya Pradesh High Court CIT v. Harnandrai Shrikishan Akodia (1996) 61 ITR 50 (MP) is directly on the point and there was no prohibition under the provisions of the Income Tax Act to pay interest to the members of AOP during the assessment year under consideration ?"

He, particularly, drew our attention to the following observations of Honble High Court in the context of Madhya Pradesh High Court decision and to the finding recorded on the question of deduction of interest paid to members of AOP and applicability of clause (ba) of section 40 of the Act :

"As regards the judgment of the Madhya Pradesh High Court, a perusal thereof would show that it has categorically been held that a member of an AOP, who advances money to the association for the purpose of its business is in the position of a creditor of the association and the interest paid by the association to him is legitimate deduction under section 10(2)(iii) of the Income Tax Act, 1922, in computing the profits of its business. Therefore, the Tribunal was right in applying this decision and the answer to this aspect of the question is self-evident.

As regards the question relating to the absence of prohibition in the Act, no provision is pointed out which may prohibit an allowance for such a deduction. The prohibition for the first time came on 1-4-1989, by an insertion of clause (ba) in section 40 of the Act. Therefore, the answer to this part of controversy is also self-evident."

5. The learned counsel submitted that the above decision of a Division Bench of the Jurisdictional High Court, which is subsequent to the judgment reported in (1995) 216 ITR 479 (All) (supra), sets at rest the entire controversy in the matter.

5.2. In the above background, the learned counsel for the assessed submitted that the order of the assessing officer granting deduction for interest paid to members of AOP was neither erroneous nor prejudicial to the interest of revenue so as to authorise the Commissioner to exercise his powers under section 263 of the Act. To buttress his plea, the learned counsel relied on the Apex Court decision in the case of Malabar Industrial Co. Ltd. v. CIT (2000) 159 CTR (SC) 1 : (2000) 243 ITR 83 (SC). In particular, while inviting our attention to the observations of the Apex Court at p. 88 (of 243 ITR) the learned counsel submitted that as the assessing officer had allowed deduction for the payment of interest to members of AOP on the strength of a decision of the Madhya Pradesh High Court, his order could not be treated to be an erroneous order, which could be set aside under section 263 of the Act.

6. On the second aspect (issue of empty bottles), the submission of the learned counsel was that all the sales of the assessed were is cash and it was not possible to specify and prove independently in what manner the payment to customers at the rate of Rs. 1.45 per empty bottle was made. While reiterating the facts stated before the learned Commissioner, the learned counsel submitted that as and when any customer returned empty bottle while purchasing a new bottle, he was given credit for an amount of Rs. 1.45 and in turn the assessed obtained credit for the bottles returned to the distillery. Our attention was invited to the Tribunals order dated 8-10-1992, in the case of Bulandshahr Country Liquor Traders (ITA No.3946/Del/91) for the assessment year 1987-88, to submit that on this issue, the Commissioners order under section 263 was set aside by the Tribunal.

7. On the third aspect, i.e., the adoption of calendar year as the previous year, the main submissions of the learned counsel for the assessed was that the assesseds business could be said to have been set up only from 1-4-1986, from which date it was granted license to sell liquor and not from any earlier date. It was submitted that mere execution of memorandum of agreement could not by itself lead to a finding that the business was set up prior to 1-4-1986. It was stressed that purchase and sale of liquor could possibly be made by the assessed only with effect from 1-4-1986 and, therefore, it cannot be said that business had been set up prior to 31-3-1986. Relying upon the Bombay High Court decision in the case of CIT v. Ralliwolf Ltd. (1980) 121 ITR 262 (Bom), it was submitted that as the assesseds activities were confined to mere purchase and sale, it could be said to have set up the business only when it made the first purchase. In this connection, it was submitted that a business can be said to have been set up only when the assessed is able to carry on the business. The learned counsel drew our attention to the fact that though the learned Commissioner had recorded a finding that the assesseds business was set up in the financial year 1985-86, yet in the fresh assessment order dated 2-7-1992, for the assessment year 1987-88, copy placed at pp. 58-67, the assessing officer has taken the previous year as 1-4-1986, to 31-3-1987. The observations of the learned Commissioner about making up of accounts were assailed and it was vehemently pleaded that the case is clearly covered under section 3(1)(d)(ii) of the Income Tax Act.

8. The submission of the learned Departmental Representative was that in the case of Harnandrai Shrikishan Akodia (supra), the Honble High Court was concerned with a case in which interest was paid on money borrowed by the AOP from a member. He reiterated the departments case that the assessed had paid interest on the capital contribution made by its members, which could not be equated with the money borrowed from members. Relying on the decision of the Apex Court in the case of CIT v. Bazpur Co-operative Sugar Factory Ltd. (1989) 177 ITR 469 (SC), the learned Departmental Representative submitted that for the assessed the capital contribution by the members was neither loan nor borrowed capital and as. such interest paid thereon was not an allowable deduction under section 36(1)(iii) of the Income Tax Act. According to the learned Departmental Representative, in view of this authoritative pronouncement, there could not be a second view on the question of grant of deduction for interest and as such the Apex Court decision in the case of Malabar Industrial Co. Ltd. (supra), relied upon by the learned counsel, did not assist the assessed. The other limb of his argument was that section 40(ba) though inserted with effect from 1-4-1989, was only clarificatory in nature and hence applicable to the assessment year under consideration also. The learned Departmental Representative drew an analogy with the provisions of section 67A inserted by the Direct Tax Laws (Amendment) Act, 1989, with effect from 1-4-1989, and submitted that it could not be said that before insertion of the said section, share allocation could not be done in the manner it is prescribed therein.

8.2. On the question of sale proceeds of empty bottles, the learned Departmental Representative relied on the order of the learned Commissioner.

8.3. On the question of setting up of business, the learned Departmental Representative submitted that the auction was held on 20-3-1986, in which the assessed had successfully participated. It had made the payment of auction money on that date itself. He pleaded that after the successful bid in the auction the business could be said to have been set up even though the commencement had taken place only on 1-4-1987. On this aspect also, relying on the order of the learned Commissioner, he submitted that the order of assessing officer was erroneous and prejudicial to the interest of revenue.

9. In reply, the learned counsel submitted that the Apex Court decision in the case of Bazpur Co-operative Sugar Factory Ltd. (supra), relied upon by the learned Departmental Representative was considered by the Tribunal, Delhi Bench A in Departments appeal in the case of Deputy CIT v. Hari Shanker Subhash Chand for the assessment year 1987-88 and vide order dated 29-2-1996, rendered in ITA No. 1577/Del/1990, copy placed at pp. 11-12, the facts of the case before the Apex Court were found distinguishable. It was contended that reliance on this decision is misplaced. The learned counsel once again stressed that a business can be said to have been set up only when it is ready to commence. It was submitted that the participation in the auction does not automatically set up and commence business. The learned counsel posed a question that suppose after a successful bid the assessed did not make any purchases even after 1-4-1986, could it still be said that he had set up the business. It was also submitted that in view of the Allahabad High Court decision in the case of Kesho Rain & Ors. (supra), it was quite evident that provisions of clause (ba) to section 40 were not clarificatory but substantive hence applicable only with effect from 1-4-1989.

10. We have given our utmost consideration to the whole gamut of facts and circumstances of the case, the material to which our attention was invited and rival submissions. From a bare reading of section 263 of the Income Tax Act, 1961, it is quite evident that for the exercise of jurisdiction under the said provision, the Commissioner has to be satisfied of two cumulative conditions, namely, (1) the order of the assessing officer sought to be revised is erroneous; and (2) it is prejudicial to the interest of revenue. If any one of them is absent, recourse cannot be had to section 263 of the Act. Also, it is well settled that the provision cannot be invoked to correct each and every type of mistake or error committed by the assessing officer. It is only when the order is erroneous that the section will be attracted. The error envisaged by section 263 is not one which depends on possibility or guesswork but it should be actually an error either of fact or of law. In the same category fall orders passed without applying principles of natural justice or without application of mind. The phrase "prejudicial to the interest of revenue " has not been defined in the Act. In its ordinary parlance, the phrase is of wide import and is not confined to loss of tax. This is so because the interest of revenue are not tied up merely with realizing as much revenue as possible. In other words, every loss of revenue as a consequence of an order of the assessing officer, cannot be treated as prejudicial to the interest of revenue. It has been judicially held that the phrase must be regarded as involving a conception of acts or orders which are subversive of the administration of revenue. In Malabar Industrial Company Ltd. v. CIT (supra), the Honble Supreme Court has laid down an important proposition of law that when an assessing officer has adopted one of the courses permissible in law and it has resulted in loss of revenue or where two views are possible and the assessing officer has taken one view with which the Commissioner does not agree, the order cannot be treated as an erroneous order prejudicial to the interest of revenue unless the view taken by the assessing officer is unsustainable in law. It would be pertinent to extract below the relevant observations of Their Lordships at p. 88 :

"The phrase prejudicial to the interests of the revenue has to be read in conjunction with an erroneous order passed by the assessing officer. Every loss of revenue as a consequence of an order of the assessing officer cannot be treated as prejudicial to the interests of the revenue. For example, when an Income Tax Officer adopted one of the courses permissible in law and it has resulted in loss of revenue; or where two views are possible and the Income Tax Officer has taken one-view with which the Commissioner does not agree, it cannot be treated as an erroneous order prejudicial to the interests of the revenue, unless the view taken by the Income Tax Officer is unsustainable in law.

11. We would now examine the facts of the present case in the light of above referred settled propositions. The first question for consideration is whether the orders of the assessing officer granting deduction for interest payment of Rs. 3,49,263 in assessment year 1987-88 and Rs. 1,21,893 in assessment year 1988-89 claimed on the capital contributions of the members of the AOP were erroneous and prejudicial to the interest of revenue. This issue need not detain us long because, with facts as they are, we need not go into all the legal arguments advanced by the rival parties. Suffice it to say that the learned Commissioner has himself admitted that before the assessing officer the assessed had pressed into service the decision of the Madhya Pradesh High Court in the case of Harnandrai Shrikishan Akodia (supra) for grant of its claim for interest. It has, therefore, to be presumed that the assessing officer had allowed deduction on the strength of this decision. Further, when the learned Commissioner took up the proceedings under section 263 of the Act, the assessed had placed reliance on the decision of the Tribunal, Delhi Bench dated 27-10-1989, in the case of Bulandshahr Wine Syndicate (supra), by which the order passed by the Commissioner under section 263 on identical facts was cancelled. It would be relevant to point out that there also the departments case was that payment of interest by AOP to its members on their capital contribution was not on any borrowings but payment to own self. In the impugned order, the learned Commissioner has once again attempted to point out the same distinction between the facts of the assesseds case and the facts in the case of Harnandrai Shrikishan Akodia (supra). He has also observed that the Tribunals order in the case of Bulandshahr Wine Syndicate (supra) was not accepted by the department and a reference was granted. This fact is not in dispute but it cannot in anyway mean that there could not possibly be two views on the issue or that the Tribunals view was unsustainable in law. It may be pointed out that the department has not shown that till this date the aforesaid order of the Tribunal has in any manner been disturbed by the higher appellate authorities. Further, the assessed has also placed on record before us several other orders of the Tribunal, either against order under section 263 or against orders of the Commissioner (Appeals), in which it is held that interest paid to members of the AOP on their capital contribution was an allowable deduction in the years under consideration, though the position changed after the insertion of clause (ba) in section 40 of the Act with effect from 1-4-1989. Here, we would particularly like to refer to the order of the Tribunal, Delhi Bench D dated 13-10-1994, in the case of Deputy CIT v. Kesho Ram & Ors. in ITA No. 1377/Del/90 for the assessment year 1988-89. In this case, following the Madhya Pradesh High Court decision in the case of Harnandrai Shrikishan Akodia (supra), the Commissioner (Appeals) had allowed deduction of interest paid-to members of AOP on their capital contribution. In appeal before the Tribunal, the department had attempted to distinguish the facts of the cases, as has been done in the case before us, but the Tribunal had rejected those arguments. The department had sought a reference of a question of law under section 256(2) of the Act, referred to in para 4 above, which has been rejected by the Allahabad High Court (2000) 245 ITR 733 (All) (supra). We are of the considered opinion that in view of this judgment of the jurisdictional High Court, it has to be accepted that the view expressed by the Tribunal on the question of deduction of interest paid to members of AOP is fully in accordance with law. Therefore, in view of the authoritative pronouncement of the Apex Court in the case of Malabar Industries Co. Ltd. (supra), the assessing officers order allowing deduction for payment of interest to members of AOP could not be considered to be erroneous and prejudicial to the interest of revenue. Hence, in our considered opinion, on this issue the learned Commissioner could not exercise his jurisdiction under section 263 of the Act, to set aside the assessing officers order.

12. The facts relating to the issue of empty bottles have already been set out above. The learned Commissioner has considered the assessing officers order on this issue to be erroneous and prejudicial to the interest of revenue on the premise that it did not produce any evidence to establish that payment to customers at the rate of Rs. 1.45 per bottle was made on return of empty bottles. It is not in dispute that all the sales of the assessed are on cash basis and it is, therefore, not understood as to what evidence the assessed could produce to prove payment to the customers. Let us consider the matter from a pragmatic point of view. There are two possibilities, the one is that a customer returns empty bottle and in that situation, the assessed refunds him Rs. 1.45. The other is that while buying a bottle, the customers returns empty bottle. In that situation, the assessed gives a discount of Rs. 1.45. In both situations, no separate record could be available. The credit given by the distillery to the assessed on return of empty bottles to them would naturally be reflected in assesseds purchases. In any case, there is no element of profit involved in the handling of empty bottles. Therefore, the order of the assessing officer on this issue also could not be considered to be erroneous and prejudicial to the interest of revenue. Incidentally, it may be pointed out that in its order dated 8-10-1992, in the case of Bulandshahr Country Liquor Traders (supra) also the Tribunal has expressed similar view.

13. The third controversy is on the assesseds adopting the calendar year as its previous year. Section 3 deals with the fixation or determination of the previous year. General provisions relating to previous year are contained in clauses (a), (b) and (c) of sub-section (1) and those for a newly set up business are contained in clauses (d) and (e) of the said sub-section and sub-section (2). In the present case, for setting aside the assessment orders, the learned Commissioner has referred to only clauses (a) and (d) of section 3(1) and, therefore, we will confine ourselves to these provisions, which, prior to amendment by the Direct Tax Laws (Amendment) Act, 1987, with effect from 1-4-1989, stood as under :

"3 "Previous year" defined.(1) For the purposes of this Act, "previous year" means(a) the financial year immediately preceding the assessment year,

(d) in the case of a business or profession newly set up in the said financial year, the period beginning with the date of the setting up of the business or profession and

(i) ending with the said financial year, or

(ii) if the accounts of the assessed have been made up to a date within the said financial year, then, at the option of the assessed, ending on that date, or

(iii) ending with the period, if any, determined under clause (c), as the case may be; or"

As would be seen from the above provisions, the general rule, as per clause (a), in the absence of special provisions and option, is that the previous year would be the financial year immediately preceding the assessment year. Accordingly, under this clause, for the assessment year 1987-88, the previous year would be the financial year from 1-4-1986, to 31-3-1987. As per clause (d), where a new business is set up in the financial year, the previous year could be as follows :

(I) the period beginning with the date of setting up of business and ending with 31st March, or

(II) where the accounts have been made up to a date within the financial year, the period from the date of setting up of business to the date of making up of accounts, if the assessed so opts, or

(III) the period from the date of setting up of business to the last date of period determined by the department under clause (c).

Thus, the two conditions for bringing the case within the purview of clause (d) are 11 setting up" of business within the financial year and "making up of accounts" to a date within the financial year. The entire controversy in the present case revolves round the interpretation of these two terms, because according to the learned Commissioner, the assessed in this case does not satisfy the aforesaid two conditions. We would firstly consider as to what constitutes "setting up" of business. At the outset, we would like to point out that this term is not defined in the Act but the question as to when a particular business can be said to have been set up is no more res integral. The issue has been considered in various judicial decisions and, therefore, assistance can be taken from them. The general rule is that when a business is established and is ready to commence business then it can be said of that business that it is set up. But before it is ready to commence business, it is not so set up. The proposition for which the decision of the Bombay High Court in the case of Western India Vegetable Products Ltd. v. CIT (supra), referred to by the learned Commissioner, can be cited as an authority is that there is a distinction between the setting up of a business and the commencement of business. That decision lays down that when a business consists of several activities, one of which must necessarily precede the other, the starting of the first activity can be said to mark the commencement of the business. Their Lordships, in the said decision at p. 158, have observed, "When a business is established and is ready to commence business then it can be said of that business that it is set up." But before it is ready to commence business it is not set up. This decision dealt with the treatment of the expenditure incurred after setting up of the business but before it commenced and the observations at p. 158 are as under :

"But there may be an interregnum, there may be an interval between a business which is commenced and all expenses incurred after the setting up of the business and before the commencement of the business, all expenses during the interregnum, would be permissible deductions under section 10(2)."

The above view was approved by the Honble Supreme Court in CWT v. Ramaraju Surgical Cotton Mills Ltd. (1967) 63 ITR 478 (SC). It would be relevant to refer to the following observations at p. 481 :

"A unit cannot be said to have been set up unless it is ready to discharge the function for which it is being set up. It is only when the unit has been put into such a shape that it can start functioning as a business or a manufacturing organization that it can be said that the unit has been set up."

It was further observed :

"Operations for the establishment of a unit, from the very nature of that expression, can only signify steps that have to be taken to establish the unit.

The word set up .., in our opinion, is equivalent to the word established, but operations for establishment cannot be equated with the establishment of the unit itself or its setting up."

The Supreme Court made it clear that the operations for establishment of the unit cannot be simultaneous with the setting up of the unit but must precede the actual setting up of the unit. It fact, it is the operations for establishment of a unit which ultimately culminate in the setting up of the unit.

13.2. Adverting to the facts of the present case, the admitted position is that the assessed had obtained the license before 1-4-1986, a memorandum between the members was drawn and the bid money was deposited before this date. Also, the shops in which the business was to be carried on were identified. The only impediment in the commencement of the business was that before 1-4-1986, the assessed could not make any purchases. In our considered opinion, this obstacle is not relevant insofar as the setting up of the business is concerned. We have already referred to the observations of the Apex Court that when a unit has beer. put into such a shape that it can start functioning as a business that it can be said that the unit has been set up. In this view of the matter, we would hold that in this case the business was set up during the financial year 1985-86 and not in financial year 1986~87. Here we would like to point out that the facts in the case of CIT v. Ralliwolf Ltd. (supra) relied upon by the learned counsel for the assessed, are quite distinguishable from the facts of the assesseds case. The issue in that case was with regard to allowance of expenses incurred after setting up of the business and in that context, the Honble High Court had considered the distinction between the setting up and commencement of business. On facts it was found that in that case the trading activity of the assessed was to purchase and sell and deal in portable electrical tools. Purchases were effected by the assessed during the relevant accounting period, which could be used either for manufacture or for sale. The Tribunal had held that the assessed could be said to have commenced business even when a mere purchase had taken place. This view was affirmed by the Honble Bombay High Court. However, in the present case, we are concerned only with the question of setting up of business and on that issue, the decision in the case of Western India Vegetable Products Ltd. (supra) has been followed in that case. We would only say that the decision in the case of Ralliwolf Ltd. (supra) does not render any assistance to the assesseds case that its business was set up during the financial year 1986-87.

13.3. As regards making up of the accounts within the financial year, so as to entitle the assessed to exercise its option to adopt calendar year as its previous year, from the facts narrated by the learned Commissioner (Appeals), it is quite evident that for all practical purposes, the accounts for the entire period 1-4-1986, to 31-3-1987, have actually been closed as on 31-3-1987, at the end of the period for which license was granted to the assessed and not on 31-12-1986, as is claimed by the assessed. It may be pointed out that the business activities having come to an end on 31-3-1987, itself, there could be no justification for continuing the accounts up to 31-3-1987, as is stated to have been done by the assessed.

14. On a careful consideration of the facts and circumstances of the case in its entirety and in view of the foregoing discussion, we are of the considered opinion that the assessed did not satisfy the conditions precedent under section 3(1)(d) of the Act for exercising its option to adopt the calendar year as its previous year. Hence, the case would be governed by section 3(1)(a), as is held by the learned Commissioner, In this view of the matter, the learned Commissioner (Appeals) has rightly held that the income for the entire period 1-4-1986, to 31-3-1987, was liable to be assessed in assessment year 1987-88 and, as such, the orders of the assessing officer in separately assessing the incomes for the periods ending 31-12-1986, and 31-12-1987, on the basis of the returns filed by the assessed, in assessment years 1987-88 and 1988-89, were erroneous and prejudicial to the interest of revenue. We may add that the manner in which the assessment for the assessment year 1987-88 has subsequently been framed by the assessing officer after the assessments were set aside by the learned Commissioner under section 263 is not relevant for deciding the controversy before us.

15. To conclude, we hold that on the first two aspects, referred to above, the assessment orders for the assessment years 1987-88 and 1988-89, dated 28-11-1988, could not be legally considered to be erroneous and prejudicial to the interest of revenue so as to empower the Commissioner to set them aside in exercise of powers conferred by section 263 of the Income Tax Act. However, on the aspect of assessing officer taking the previous years as 1-4-1986, to 31-12-1986, and 1-1-1987, to 31-12-1987, and in separately assessing the income in assessment years 1987-88 and 1988-89, the orders were erroneous and prejudicial to the interest of revenue. The learned Commissioner was, therefore, justified in setting aside the assessment orders dated 28-11-1988, on this issue. The consolidated order of the learned Commissioner under section 263 dated 8-3-1991, is modified accordingly.

16. In the result, the assesseds appeals are partly allowed.