Case Summary: CIT v. British Paints India Ltd. (1991) 188 ITR 44/54 Taxman 499 91 CTR 108 (SC)
The assessee is a limited liability company that is in the business of producing paints for sale as well as selling such paints. It argued in front of the authorities that it had been its standard procedure to determine the worth of the items in progress and the final products solely based on the cost of the raw ingredients and to completely ignore any overhead expenses.
According to the assessee, the explanation for this practice was that the commodities in question, which were paints, had a limited storage life and, if they were not swiftly disposed of, they were at risk of losing their market value. Furthermore, the assessee believed that this practice was common. The assessee’s argument was shot down by the ITO, which noted that the assessee had never claimed any deduction on account of the items have deteriorated or been damaged.
The officer concluded that there was no justification to recognize a practice that was claimed by the assessee of valuing its stock in a manner that was not following a well-known principle of accounting that required the stock to be valued at either the cost (raw material + overhead expenditure) or market price, whichever was lower.
The assessee claimed that it valued its stock in a manner that was not following the well-known principle of accounting. The submission made by the assessee was not accepted by the Tribunal. The High Court agreed with the assessee’s position on the matter. The Department opted to take its case to the Supreme Court.
The question is whether or not the Assessing Officer was correct in their decision to reject the technique of inventory valuation.
- Section 145 of the Income Tax Act,1961
Any method of accounting that excludes, to value the stock-in-trade, all costs other than the cost of raw material for the goods in process and finished products is likely to result in a distorted picture of the true state of the business to compute chargeable income. This is because any method of accounting that excludes the cost of raw material for the goods in process and finished products also excludes the cost of all other costs.
A system like this may result in a relatively low difference between the starting stock and the closing stock valuation because it would yield a relatively low opening stock valuation and a relatively low closing stock valuation. According to the findings of the Tribunal, the method used by the assessee has the potential to reduce the evaluation of the taxable profit made in a given year during a time in which both the turnover and the prices are increasing.
There is a possibility that the profit from one year will be carried over to the next year; this is an inaccurate technique of estimating earnings and gains for taxation. Because each year is its independent unit, and because the taxes for a given year are owed concerning the income of that year, as computed following the Act, it has been determined that the method used by the assessee is such that income cannot be properly deduced therefrom. This is because each year is a self-contained unit.
It is therefore not only the right but also the duty of the Assessing Officer to act in the exercise of his statutory power, as he has done in this case, to determine what, in his opinion, is the correct taxable income. This is because it is not only the right but also the duty of the Assessing Officer to do so.
Section 145 of the Income Tax Act,1961 provides the officer with ample authority, and indeed, it imposes a responsibility upon him, to do the calculation in such a way and according to such criteria as he chooses to arrive at the accurate profits and gains. This indicates that it is the responsibility of the ITO to determine the taxable income by making such computations as he considers appropriate in situations where the accounts have been prepared without disclosing the real cost of the stock-in-trade, even if this was done on sound expert advice in the interest of efficient administration of the company. This is because it is in the best interest of efficient administration of the company.
ITO was correct in its decision to reject the assessee’s proposed method of valuation and in its conclusion that the assessee’s goods were required to be assessed at one hundred percent of their costs, including any overhead expenses.
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Judgement Reviewed by Jay Kumar Gupta