J. Sudhakar Reddy, A.M:— This is an appeal filed by the Revenue directed against the order of the CIT (Appeals)-XI, Mumbai dated 16-01-2009 for assessment year 2002-2003.

2. Facts in brief.

The assessee is a firm of Solicitors and Advocates. It follows the cash system of accounting. The assessee filed its return of income on 25 Oct., 2002 declaring a total income of Rs. 2,37,29,762/- along with the audit report u/s. 44AB of the Act. The return was accompanied with a computation of total income and other particulars. The return of income was processed u/s. 143(1) on 24-02-2003. Thereafter the AO recorded reasons for reopening and issued a notice u/s. 148 dated 02-05-2006 reopening the assessment. This notice u/s. 148 was served on the assessee on 03-05-2006. The assessee was also provided the reasons of reopening of assessment u/s. 148 of the Act. In response to this notice issued u/s. 148, the assessee made his submissions vide letter dated 02-03-2006 and had further requested the AO to treat the return filed by them on 28-10-2002, as that filed in response to the notice u/s. 148 of the Act. Thereafter the AO considered the interest income received by the firm on bank FDRs, as income from other sources. Thus he reduced this amount of Rs. 1,19,91,812/- from the book profits declared by the assessee and thereafter recomputed the allowance of remuneration to partners u/s. 40(b) and completed the assessment. Aggrieved, the assessee carried the matter in appeal, inter alia, challenging the reopening of the assessment, assessing the interest income on FDR under the head “Income from other sources” and not under the head” “Income from profession” as well as the computation of book profits by the AO and addition made on share income relating to an ex partner. On appeal, the first appellate authority held hat reopening was bad in law, as, as per him, he did not see any case for escapement of income. Aggrieved, the Revenue had filed this appeal on the following ground:

“On the facts and in the circumstances of the case and in law, the Learned CIT(A) has erred in holding that it is not a fit case for initiating proceedings u/s. 147 of the Income Tax Act.”

3. The learned DR, Mr. Manvendra Goyal, submitted that the only issue raised by the Revenue in this appeal is the validity of reopening. The other aspects were not adjudicated by the CIT (Appeals) and hence are not before the Tribunal. He drew the attention of the Bench to para 5.2 of the CIT (Appeals)' order and submitted that the CIT (Appeals) had taken into account irrelevant consideration, such as, inconsistency in the stand taken by the AO and also wrongly holding that the manner in which interest is calculated by the assessee and the manner in which it is proposed by the AO would be revenue-neutral. He submitted that the term “reason to believe”, refers to a prima facie opinion of the AO that income has escaped assessment and it should be a reason which a rational man would take. He pointed out that the assessee declared a total income of Rs. 2,37,29,792/- and out of which an amount of Rs. 1,19,91,812/- is received as interest on FDRs and the AO was of a prima facie view that such interest income is assessable only under the head “Income from other sources” and also was of the view that book profits means the net profit as per profit & loss account, computed u/s. 28 to 44D of the Act and the said interest income cannot be considered for arriving at book profits. He took this Bench through the reasons of reopening and relied on the decision of the Hon'ble Supreme Court in the case of ACIT v. Rajesh Jhaveri Stock Brokers P. Ltd. reported in 291 ITR 500.

4. The learned Senior Advocate Shri P.J Pardiwala appearing for the assessee, filed a paper book of 47 pages. At page 2 and 3 of the paper book there are reasons for reopening and Mr. Pardiwala pointed out that reasons were recorded on 2 May, 2006. He referred to page 18 of the assessee's paper book which is an assessment order passed for the assessment year 2001-2002 dated 15-03-2004 as well as the paper book page 42 which gives the assessment order for the assessment year 2003-2004 which is an order passed on 17 March, 2006 as well as page No. 44 which is an assessment order passed for the assessment year 2005-2006 and submitted that in none of these assessment proceeding, which had taken place prior to, as well as, after the recording of reasons for reopening, the AO has not treated the income from interest on FDRs, as income from other sources, nor has he disallowed the claim of partners' remuneration. He submitted that there is no tangible material or a new fact that has lead the AO to come to a conclusion that he has reason to believe that income has escaped assessment. He submitted that the AO just relooked into the return of income and recorded the reasons for reopening and that such an exercise is bad in law. He submitted that even otherwise there is no escapement of tax as the deduction given in the hands of the firm u/s. 40(b), is taxable in the hands of the partners and hence it is revenue neutral. He relied on the decision of the jurisdictional High Court in the case of Siemens Information System Ltd. v. ACIT 295 ITR 333 for the propositions made by him, specifically on pages 342 & 343. Further he relied on the definition of book profits and submitted that the interest in question has to be considered as book profits and the allowability of partners' remuneration u/s. 40(b) is to be in relation to such book profit.

5. The learned DR, on the other hand, countered by submitting that, at that particular point of time of recording of reasons, the AO would not known, whether the partners to whom remuneration is paid, are taxable or not. He pointed out that each partner would be eligible for a basic exemption and it would be unrealistic to assume that the tax payable by the partners is the same as the tax payable by the assessee firm.

6. Rival contentions heard. On a careful consideration of the facts and circumstances of the case and a perusal of the papers on record and the orders of the authorities below as well as the case laws cited, we hold as follows.

7. The reasons for reopening are at pages 2 and 3 of the assessee's paper book and have been given as an Annexure to notice u/s. 148 of the Act dated 02-05-2006. This is extracted below for ready reference:

“The assessee is a firm of Solicitor and Advocates. Return of income for the Assessment Year 2002-2003 was filed on 25.10.2002 declaring total income of Rs. 2,37,29,760/-. The said return was processed u/s. 143(1) of the I.T Act, 1961 on 24.02.2003

On perusal of details filed alongwith the return, it is noticed that an amount of Rs. 1,27,48,000/- is shown as remuneration actually paid to partners. The remuneration payable to partners as per section 40b(v) of the Act are shown to be Rs. 1,46,89,032/-. The working of remuneration payable is shown as under:

Net Profit as per P&L A/c Rs. 1,58,89,252/- Add: Depreciation Rs. 28,58,859/- Provision for taxation Rs. 85,00,000/- Remuneration to partners Rs. 1,27,48,000/- Donation Rs. 1,39,639/- Interest to partners Rs. 1,79,78,012/- Rs. 4,22,19,510/- Rs. 5,81,08,762/- Less: 1) Depreciation Rs. 28,68,423/- 2) Interest to partners Rs. 1,79,78,012/- 3) Share of ex-partners Rs. 7,14,746/- Rs. 2,15,61,181/- Rs. 3,65,47,581/- Remuneration to partners @ 90% on Rs. 100,000 Rs. 90,000/- @ 60% on Rs. 1,00,000 Rs. 60,000/- @ 40% on balance Rs. 1,45,39,032/- Rs. 1,46,89,032/- Restricted to remuneration actually paid Rs. 1,27,48,000/-

It is further seen from profit and loss account that the net profit has been arrived at, after taking into account the amounts of Rs. 1,19,91,812/- being interest from bank. Remuneration to partners is to be paid on the book profit as per ceiling prescribed under section 40b(v) of the Act. Book profit means the net profit as per profit and loss account computed under section 28 to 141 of the Act. Hence, the interest from bank being income from other sources, should not have been considered for arriving at book profit. Therefore, the book profit, after excluding the interest from bank, works out to as under:

Net profit as per P&L A/c. Rs. 1,58,89,252/- Less: Interest from Bank Rs. 1,19,91,812/- Rs. 38,97,440/- Add: Disallowance Rs. 4,22,19,510/- (as per statement) Less: Depreciation etc. Rs. 2,15,61,181/- (as per statement) Rs. 2,06,58,329/- Book Profit Rs. 2,45,55,769/-

Remuneration to partner's on the book profit of Rs. 2,45,55,769/- deductible from the income of the firm is also worked out as under:

90% of first 100000 Rs. 90,000/- 60% of next 100000 Rs. 60,000/- 40% of balance Rs. 2,43,55,769/- Rs. 97,42,307/- Rs. 98,92,307/-

The remuneration to partner has been claimed at Rs. 1,27,43,000/- as against the correct amount of Rs. 98,92,307/- as worked out above, resulting in excess allowance of Rs. 28,55,692/-

I have, therefore, reasons to believe that income of Rs. 28,55,692/- chargeable to tax has escaped assessment for the year under consideration within the meaning of the provisions of section 147 of the Act. I am satisfied that it is a fit case for initiating provisions of Section 147 of the IT Act, 1961.

Issue notice u/s. 148 of the I.T Act, accordingly.”

8. A plain reading of these reasons show that the AO has noticed that the assessee has earned interest income on FDRs and he was of a prima facie opinion, that such interest income on FDRs, in the case of a Solicitor and Advocate Firm, is assessable under the head “Income from other sources” and not under the head “Income from profits and gains of business” and consequently the assessee has claimed excessive deduction of partners' remuneration. The issue now is whether the AO had a prima facie cause or justification to believe or suppose that income had possibly escaped assessment. The law is well settled that, at this stage, the AO need not, finally ascertain the fact of escapement of income, by legal evidence or conclusion. At the stage of initiation, what is to be seen is whether, it can be said that the AO, has relevant material, on which a reasonable person, could have formed the requisite belief. In our considered opinion, the AO forming an opinion, that interest income from FDRs held by a Solicitor and Advocate Firm, is assessable under the head “Other Sources” and consequently the disallowances u/s. 40(b) is to be recomputed, is an opinion, that a reasonable person would under normal circumstances come to such prima facie opinion cannot be faulted or held as on impossible view.

9. The first appellate authority at para 5.2 held as follows:

“I have considered the rival submissions and the materials on record. It appears that there is inconsistency in the stand taken by the A.O In the immediately succeeding and previous years, no action has been taken under this head even though scrutiny assessments have taken place. Secondly, even though the principle of resjudi cata does not apply in Income-tax cases, the principle of reasonable case for resorting to section 147 to bring under tax net interest arising out of FDRs, the same could have been the case for other years also. Therefore, there is inconsistency in the stand taken by the A.O Thirdly, the way interest is calculated by the appellant and the way it is proposed by the A.O it would be revenue-neutral in the end. I, therefore, do not see any case for escapement of income and hence in my opinion it was not a fit case for initiating proceeding u/s. 147.”

The reasons given by the first appellate authority, in our humble opinion, are not correct. Just because no action has been taken, on this issue either in the previous assessment years or in the immediately succeeding assessment year, it cannot be said that no action can be taken for reopening of the assessment. A plain reading of section 147 of the I.T Act does not suggest such interpretation. It is very clear that, in none of these assessment years, this issue has been considered by the AO. The issue was never discussed, nor a considered view was taken thereon. Just because in a subsequent assessment year, the AO had not made a disallowance on this issue, despite reopening of the assessment of the earlier year, it does not take us to a conclusion, that in reopening which was done at an earlier date, for the valid prima facie reason recorded, would be bad in law. The second comment of the CIT (Appeals) that the principles of consistency has not been followed, is also devoid of merit, for the reason that, no view has been taken on this issue, in any of the earlier assessment years. The third reason given by the CIT (Appeals) for holding that the reopening is bad in law, is that, if the AO passes an order, on the lines given in the reasons for reopening, it would be revenue-neutral in the end, is also, in our opinion, factually incorrect. As rightly stated by the learned DR, Mr. Manvendra Goyal, in the hands of the partners, there may be basic exemptions or certain other deductions or set off of losses etc. that are not within the knowledge of either the AO or the CIT (Appeals). In any event, the reopening, if taken to its logical conclusion, would not be revenue-neutral in the hands of this assessee. At the stage of reopening, the AO cannot be expected to verify all the files of the recipients of remuneration and then estimate the escapement of income. This is not contemplated under the Act. Hence in our considered opinion, the order of the CIT (Appeals) is erroneous, on all three counts, on which he held that the reopening is bad in law.

10. Coming to the submission of Shri Pardiwala that there was no tangible material and that the AO just relooked at the return of income and recorded reasons for reopening and there is no new fact, we refer to the judgment of the Supreme Court in the case of ACIT v. Rajesh Jhaveri Stock Brokers P. Ltd. 291 ITR 500 wherein under similar circumstances the AO first processed the return of income u/s. 143(1) and thereafter issued notice u/s. 148 of the Act, on the ground that the claim for bad debts has explained was not acceptable. In that case also there was no fresh material except the claims of the assessee made in the return of income which was earlier processed u/s. 143(1). Tangible material, in our humble opinion, cannot be held as that which is collected by the AO from sources other than, what is present in the return of income itself. When return was processed u/s. 143(1), as held by the Hon'ble Supreme Court in the case of Rajesh Jhaveri Stock Brokers P. Ltd. (supra), it cannot be said that the AO has looked into all the aspects contained in the return of income. When he has not looked into the return of income, the question of relooking and coming to a new conclusion does not arise. In cases where, the returns are processed u/s. 143(1) and where at a later date, the AO notices certain wrong claims etc. in the return of income and forms a prima facie opinion that income has escaped assessment, he is authorised to record reasons and reopening of the assessment u/s. 147.

11. Sub clause (b) to Explanation 2 to Section 147 reads as follows:

(b) where a return of income has been furnished by the assessee but no assessment has been made and it is noticed by the Assessing Officer that the assessee has understated the income or has claimed excessive loss, deduction, allowance or relief in the return;

A plain reading of the above clearly indicates that the AO can consider the return of income and the accompanying documents to form an opinion that the income has escaped assessment.

12. Coming to the judgment of Siemens Information System (supra) relied upon by the learned counsel for the assessee, we find that the AO passed an order u/s. 143(3), had considered the issue of deduction claimed by the assessee u/s. 10A and 10B and thereafter passed the assessment order. In the case on hand, no order was passed u/s. 143(3) nor was this issue considered and adjudicated upon by the AO. Thus this case law does not apply to the facts of the case. When no opinion is formed while processing the return u/s. 143(1), the question of change of opinion does not arise.

13. In our considered opinion, the decision in the case of Rajesh Jhaveri Stock Brokers P. Ltd. (supra) applies on all fours to the facts of this case. In that judgment the Hon'ble Supreme Court at page 511 held as follows:

“16. Sec. 147 authorises and permits the AO to assess or reassess income chargeable to tax if he has reason to believe that income for any assessment year has escaped assessment. The word “reason” in the phrase “reason to believe” would mean cause or justification. If the AO has cause or justification to know or suppose that income had escaped assessment, it can be said to have reason to believe that an income had escaped assessment. The expression cannot be read to mean that the AO should have finally ascertained the fact by legal evidence or conclusion. The function of the AO is to administer the statute with solicitude for the public exchequer with an inbuilt idea of fairness to taxpayers. As observed by the Delhi High Court in Central Provinces Manganese Ore Co. Ltd. v. I.T.O, Nagpur . (1991) 98 CTR (SC) 161 : (1991) 191 ITR 662 (SC), for initiation of action under s. 147(a) (as the provision stood at the relevant time) fulfilment of the two requisite conditions in that regard is essential. At that stage, the final outcome of the proceeding is not relevant. In other words, at the initiation stage, what is required is “reason to believe”, but not the established fact of escapement of income. At the stage of issue of notice, the only question is whether there was relevant material on which a reasonable person could have formed a requisite belief. Whether the materials would conclusively prove the escapement is not the concern at that stage. This is so because the formation of belief by the AO is within the realm of subjective satisfaction [see ITO v. Selected Dalurband Coal Co. (P) Ltd. (1996) 132 CTR (SC) 162 : (1996) 217 ITR 597 (SC); Raymond Woollen Mills Ltd. v. ITO (1999) 152 CTR (SC) 418 : (1999) 236 ITR 34 (SC)].

17. The scope and effect of s. 147 as substituted with effect from 1st April, 1989, as also ss. 148 to 152 are substantially different from the provisions as they stood prior to such substitution. Under the old provisions of s. 147, separate cls. (a) and (b) laid down the circumstances under which income escaping assessment for the past assessment years could be assessed or reassessed. To confer jurisdiction under s. 147(a) two conditions were required to be satisfied firstly the AO must have reason to believe that income profits or gains chargeable to income-tax have escaped assessment and secondly he must also have reason to believe that such escapement has occurred by reason of either (i) omission or failure on the part of the assessee to disclose fully or truly all material facts necessary for his assessment of that year. Both these conditions were conditions precedent to be satisfied before the AO could have jurisdiction to issue notice under s. 148 r/w s. 147(a). But under the substituted s. 147 existence of only the first condition suffices. In other words if the AO for whatever reason has reason to believe that income has escaped assessment it confers jurisdiction to reopen the assessment. It is however to be noted that both the conditions must be fulfilled if the case falls within the ambit of the proviso to s. 147. The case at hand is covered by the main provision and not the proviso.”

Respectfully following the same, we uphold the validity of reopening of assessment u/s. 147 and set aside the order of the CIT (Appeals) on this aspect.

14. In the result, this ground of the Revenue is allowed.

15. As the first appellate authority had not adjudicated the issue on merits, we set aside the matter to the file of the CIT (Appeals) for fresh adjudication of the merits of the case.

16. In the result, the appeal of the Revenue is allowed.