SUKHDEODAS JALAN Vs. COMMISSIONER OF INCOME TAX

JUDGEMENT

(1.) IN this case the assessment relates to the year 1944 -45. The assessee is a Hindu undivided family and during the accounting year the asseessee carried on contract business and had a share in the firm of Jokhiram Jagannath. The accounting year corresponds to the period from 1. -4 -1943 to 31 -3 -1944. The assessee had obtained contracts from the Public Works Depnment and from the Defence Department. For the Public Works Department the assessee executed two contracts. The work of these contracts was taken up on 14 -4 -1943 and completed on 12 -5 -1944. For the Defence Department the assessee executed a contract known as Hirji Hospital contract. The work of this contract was started on 14 -4 -1943 and was closed on 3 -12 -1944. In the return for the assessment year 1944 -45 the assessee did not show any income with respect to the contracts of the Public Works Department or with respect to the military contract. The assessee, on the other hand, showed an income of Rs. 12,000 in respect of his share of profit from the partnership business. Before the Income -tax Officer the case of the assessee was that the contracts of the Public Works Department and the military contract were not closed within the accounting year and so the income from these contracts was not shown in the return filed by the assessee. The Income -tax Officer held that for the accounting year the assessee had realised a net income of Rs. 19,683 from the Public Works Department contracts. With respect to the military contract the Income -tax Officer held that the entire contract had been completed within the accounting year and the assessee had received a sum of Rs. 3,67,578 on account of this contract from the military authorities. In view of the defective state of the account books produced by the assessee the Income -tax Officer considered that the profit should be estimated at 15 per cent of this amount. He determined the net income from the military contract as Rs. 55,135 and included this amount in the total income of the assessee. An appeal was taken to the Appellate Assistant Commissioner on behalf of the assessee and it was argued on his behalf that the military contract was not fully executed before 31 -3 -1944 and that the Income -tax Officer was not justified in holding that the income from the military contract should be included in the return of the assessee for the accounting year in question. This argument was accepted by the Appellate Assistant Commissioner who directed the Income -tax Officer to exclude the profit from the military contract. The Income -tax Department preferred an appeal to the Income -tax Appellate Tribunal against the order of the Appellate Assistant Commissioner. The Tribunal held that the account maintained by the assessee did not reflect the true profits of the assessee for the accounting year. The Tribunal accepted the case of the assessee that the military contract was executed on 3 -12 -1944; nevertheless, the Tribunal held that 9/10th of the contract work had been done in the accounting year and the assessee had received from the military department about Rs. 3,00,000 on account of the execution of the contract. The Tribunal took the view that the proviso to Sec.13 was applicable to the case and the profits of the assessee for the accounting year should be determined by the Income -tax Officer. The Tribunal observed - - "There is a well known method of ascertaining the profits accruing in any particular period in a contract. This is done by deducting from the receipts in the period the total expenses incurred on the contract in the period. To the balance is added the value of work in progress, for which payments have not been received, as the total expenditure would include expenditure on work in progress for which payments have not been received The resulting amount will represent the profit accruing in the contract in that parti cular period. The assessee has not adopted this method nor has he ascertained the profits of the year in proportion to the receipts in each year. As stated already, even the total profits of the contract cannot be properly deducted from the accounts in view of the defects mentioned above in para 6. The method of accounting followed by the assessee, which is to ascertain the profits after the conclusion of the contract, does not reflect the assessees true profits in the year of account. In spite of the fact that assessee had executed 9/10th of the contract work, he did not ascertain any profit or loss for the year of account. We therefore hold that the proviso to Sec.13 is applicable to this case and that the assessees profits have to be determined by esti mate."

(2.) IN these circumstances the Tribunal has referred the following question of law for the opinion of the High Court "Whether the proviso to Sec.13, Income -tax Act is applicable in regard to the accounts maintained for the contract business, which were not closed to profit at the end of each previous year but were closed to profit only after the completion of a contract -

(3.) IN the case of - - Commr. of I. T., Bombay V/s. Sarangpur Cotton Manufacturing Co. Ltd., Ahmedabad, AIR 1938 PC 1 (A). It was observed by Lord Thankerton while pronouncing the opinion of the Judicial Committee as follows: "Their Lordships desire to add that the view of the Assistant Commissioner that the Income -tax Officer is prima facie entitled to accept the profits shown by the accounts, where there is a method of accounting regularly employed by the assessee is not a correct view. It is the duty of the Income -tax Officer, where there is such a method of accounting to consider whether income, profits and gains can properly be deduced therefrom, and to proceed according to his judgment, on this question. It is clear that the Income -tax Officer, acted on the same view as that expressed by the Assistant Commissioner, and did not perform the duty above stated. The case of - - Commr. of I. T., Bombay V/s. Ahmedabad New Cotton Mills Co. Ltd., AIR 1930 PC 56 (B), is of no assistance on the present question." On behalf of the assessee Mr. Dutt put forward the argument that in the case of an incomplete contract it was not possible to determine the profits of the assessee for the accounting year. It was pointed out by the learned counsel that the Hirji Hospital contract was taken up on 14. -4 -1943, and the work was completed on 3 -12 -1944 and the total value of the contract was Rs. 3,78,768 and out of this amount the assessee received payments to the extent of about Rs. 3,00,000, during the accounting year. I do not agree with the argument of the learned counsel that the profits of the assessee for the accounting year in question cannot be ascertained in such a case. It is also fallacious to argue that merely because the military contract was completed after the accounting year, no profits arose or accrued to the assessee in the accounting year. In the case of an incomplete contract there is a well established method of calculating profits accruing in the accounting year. The method is set out at page 971 of Batlibois Advanced Accounting as follows : "If a contract is nearly complete and only a small portion of the work remains to be done, an estimate will be made of the further expenditure on the portion remaining to be done, and an allowance will also be made for the margin of profit on that portion. This estimate should be added, to the amount already expended to the contract and the total will represent the cost of finding the whole work. This cost should be compared with the contract price, and if the, latter exceeds the former, the excess will represent profit on the completed portion of the contract." If a contract has not reached a sufficient stage as to enable one to make a reasonable estimate of the remaining portion of the work, the profit or loss on the portion already completed is ascertained thus. The cost of the work completed will be represented by the total of the debit side on the Contract Account, less the cost of stores, materials and plant on hand. This net cost should be compared with the amount of work certified by Contractees Architect plus the cost of work done but not certified. If the latter exceeds the former, the excess represent profit and may be taken into account. It is not advisable, however, to take full cre dit for the whole of the profit thus ascertained, but to reserve a portion of it for contingencies, such as a likely rise in the price of materials or labour. A sound method, therefore, is to transfer to profit & loss account only two -thirds or three -fourths of the profit ascertained, and to carry forward the balance to the next years account by debiting contract account and crediting work in progress account. At the commencement of the next year, the above entry will be reserved." In view of this accountancy practice I do not agree with the contention of Mr. Dutt that the profits of an incomplete contract cannot be ascertained during the accounting year. Mr. Dutt objected that the estimate of income on this formula would still be an estimate and would not be mathematically accurate. There is no substance in this objection, for mathematical certainty is not demanded in a matter of this description. To quote the language of Viscount Simon in - - Gold Coast Selection, Trust, Ltd. V/s. Humphrey, 1949 -17 ITR (Suppl.) 19 at p. 26 (C) "If the asset is difficult to value but is none the less of a money value, the best valuation possible must be made. Valuation, is an art, not an exact science. Mathematical certainty is not demanded nor indeed is it possible. It is for the Commissioners to express in the money value attributed by them to the asset their estimate and this is a conclusion of fact to be drawn from the evidence before them,"