Citation Codes

Equivalent Citations

citation codes

Case Number

IT Appeal Nos. 1096 & 1097(JP) of 2011

Attorney(S)

Rajeev Sogani

Judges

B.R. JAINV. Durga Rao

Acts

provisions of section 145(3) of the I.T. Act
INCOME TAX ACT 1961
provisions of section 145(2) and 145(3),
INCOME TAX ACT
provisions of section 145(3)

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Smart Summary

Tribunal Order — Summary

Factual and Procedural Background

The assessee is a private limited company incorporated on 21/9/2006 engaged in developing and selling a real estate project named "Krish Vatika" at Bhiwadi. A search under section 132 was carried out at the assessee's business premises on 17/9/2008. The assessee filed nil returns for assessment years 2008-09 and 2009-10, adopting the project completion (completed contract) method of accounting.

The Assessing Officer (AO) issued a notice under section 142(1) on 1/12/2010 proposing to reject the assessee's books under section 145(3) because AS-7 and AS-9 (as issued by the Institute of Chartered Accountants) were not followed, and proposed assessment of income for 2008-09 at Rs. 90,43,688 by adopting the percentage completion method. The AO computed income similarly for 2009-10 (Rs. 99,07,650). The assessee responded by defending its accounting method and contending AS-7/AS-9 were not applicable as applied by the AO.

The Commissioner of Income Tax (Appeals) [CIT(A)] upheld the AO's rejection of the books and the computation by the percentage completion method. The assessee appealed to the Tribunal raising grounds challenging the AO's adoption of the percentage completion method, the CIT(A)'s rejection of the project completion method and the audited loss, the denial of deduction under section 80IB, and non-adjudication of penalty proceedings under section 271AAA. The Tribunal heard parties and delivered the order summarized herein.

Legal Issues Presented

Whether the Assessing Officer and the CIT(A) were justified in rejecting the assessee's books and audited figures and in determining income by applying the Percentage Completion Method (AS-7/AS-9) instead of the Project Completion (completed contract) Method adopted by the assessee, resulting in assessed incomes of Rs. 90,43,688 (AY 2008-09) and Rs. 99,07,650 (AY 2009-10).
Whether the CIT(A) erred in rejecting the project completion method and the audited loss returned by the assessee.
Whether the assessee was eligible for deduction under section 80IB of the Income Tax Act for the relevant assessment year (not decided finally by the Tribunal in this order).
Whether the learned CIT(A) erred by not adjudicating upon the initiation of penalty proceedings under section 271AAA of the Income Tax Act, 1961.

Arguments of the Parties

Appellant's (Assessee's) Arguments

The assessee maintained books on a mercantile basis using the project completion (completed contract) method and consistently followed that method for both assessment years; the auditors reported no change in method.
AS-7 and AS-9, as notified under section 145(2), were not applicable in the manner alleged by the AO — AS-7 (as relied upon by AO) is applicable to contractors and not to builders/developers; AS-9 applies when legal title or possession passes.
Revenue recognition, under the assessee's view, should be upon completion or upon transfer of significant risks and rewards — the assessee asserted there was a right of allottees to cancel bookings and that amounts were refundable, which restricted transfer of risk and reward to allottees.
The assessee relied on several Jaipur Bench decisions (Unique Builders & Developers cases) and other authorities to contend that the project completion method is permissible and that the AO could not unilaterally switch to percentage completion method on hypothetical figures.
The assessee argued that Guidance Notes (GN 2006, RGN 2012) and revised guidance are not statutory requirements mandating change in accounting method, and that AS-7 permits either method depending on whether outcome can be estimated reliably.

Departmental Representative's Arguments

The AO rejected the books because accounting standards (AS-7 and AS-9) were not consistently followed and the books did not present a true and fair view; consequently, section 145(3) was invoked to compute income under the percentage completion method.
The assessing authorities considered the terms of the allotment agreement and the nature of the transactions and concluded that the assessee functioned like a contractor and that risks and rewards of ownership were transferred at the time of booking; hence revenue should be recognized periodically under AS-7.
The CIT(A) had given detailed reasoning supporting the AO's approach, and rejected the assessee's contentions that pre-dated the Guidance Notes relied upon by the revenue.

Table of Precedents Cited

Precedent	Rule or Principle Cited For	Application by the Court
CIT v. British Paints India Ltd. [1991] 188 ITR 44 / 54 Taxman 499 (SC)	Cited for the proposition that risks and rewards may be treated as transferred at the time of booking/entering into agreement for real estate transactions; relevant to revenue recognition.	The CIT(A) relied on this Apex Court judgment to support the view that in the assessee's agreements risks and rewards had been transferred to the allottee and to uphold the AO's rejection and estimation under AS-7/AS-9.
Sutlej Cotton Mills v. CIT [1999] 116 ITR 1 (SC)	Used alongside British Paints as authority on aspects of transfer of risks/rewards and revenue recognition principles.	The CIT(A) referred to this decision in upholding the AO's action; the Tribunal recorded that CIT(A) had regard to this judgment when affirming rejection and estimation.
Commissioner of Income Tax, Chennai v. Bilahari Investment (P) Ltd. [2008] 299 ITR 1 / 168 Taxman 95 (SC)	Holds that recognition/identification of income under the Income Tax Act can be attained by several recognized accounting methods (completed contract method and percentage completion method); an assessee may choose a method consistently and the AO cannot change it unilaterally.	The Tribunal relied on this Supreme Court decision to conclude the assessee could validly follow the project completion (completed contract) method and that the AO could not, without justification, invoke section 145(3) and switch the method to percentage completion for assessment purposes.
CIT v. Hyundai Heavy Industries Co. Ltd. [2007] 291 ITR 482 / 161 Taxman 191 (SC)	Similar principle to Bilahari: both completed contract and percentage of completion are recognized methods in AS-7 and choice, if consistent, belongs to assessee.	The Tribunal cited this decision to support the view that both methods are accepted under AS-7 and that consistent application by an assessee prevents the AO from changing the method.
CIT v. Manish Buildwell Pvt. Ltd., ITA No. 928/2011 (Delhi High Court) (reported in the opinion as dated 15/11/2011)	After the Bilahari judgment, the project completion method (completed contract) followed by an assessee is acceptable; tribunal/AO cannot selectively apply percentage completion method for one year to distort profits.	The Tribunal noted the Delhi High Court's view as reinforcing that the completed contract method is permissible and that selective adoption of percentage completion method by the AO is unjustified. The Tribunal relied on this reasoning.
CIT v. Smt. V. Sikka [1984] 149 ITR 73 (Delhi)	Even for the first year, a method of accounting may be deemed to have been employed if it is shown to have been regularly employed in subsequent years.	The Tribunal relied on this authority to accept the assessee's contention that the project completion method was regularly employed and thus to validate its continued use even if earlier years showed the same practice.
Unique Builders & Developers (multiple Jaipur Bench decisions; e.g., ITA Nos. 73 to 77/JP/2012; ITA Nos. 78 to 80/JP/2012; ITA Nos. 208 to 2010/JP/2012; ITA Nos. 211 to 215/JP/2012)	Authoritative Jaipur Bench/Tribunal decisions holding in favour of assessee on the issue of project completion method vs percentage completion method and on invocation of section 145(3).	The Tribunal noted these decisions and observed that this Tribunal's recent order (Unique Builders & Developers, Jaipur) had taken a view favourable to the assessee; the present Tribunal followed that view in setting aside the AO's action.
Champion Construction Co., 5 ITD (Bom) 495	Held that an 80% threshold was reasonable for recognizing revenue under Percentage Completion Method (PCM) — cited in the assessee's note on thresholds.	The assessee cited this decision to support the proposition that entities may set higher thresholds for PCM; the Tribunal recorded the citation as part of the assessee's submissions.

Court's Reasoning and Analysis

The Tribunal undertook a step-by-step analysis confined to the material and authorities placed on record:

It reviewed the AO's action: the AO had rejected the assessee's accounts solely because AS-7 and AS-9 were not followed as he believed appropriate, and accordingly invoked section 145(3) to reject books and compute income by applying the percentage completion method (PCM).
The Tribunal examined the factual matrix: the assessee was a real estate developer (seller of flats), maintained audited books on mercantile basis, had consistently applied the project completion (completed contract) method across years, and auditors reported no change in accounting method.
The Tribunal evaluated the legal position in light of binding and persuasive authorities. It relied principally on the Supreme Court's decisions in Commissioner Of Income Tax, Chennai v. Bilahari Investment (P) Ltd. and CIT v. Hyundai Heavy Industries Co. Ltd., which recognize that both completed contract and percentage completion are accepted accounting methods in AS-7 and that an assessee who consistently follows one method cannot be required by the AO to change it to PCM without justification.
The Tribunal further relied on the Delhi High Court's decision in CIT v. Manish Buildwell Pvt. Ltd., which had held that the project completion method may be acceptable post-Bilahari and that there is no justification for the AO to adopt PCM for a single year selectively, thereby distorting profits.
Applying these principles to the facts, the Tribunal concluded that the assessee had demonstrated consistent use of the project completion method and had maintained complete audited books. The Tribunal found that the AO's invocation of section 145(3) appeared to be based solely on the AO's preference for PCM and not on any other substantive ground showing that the books failed to present a true and fair view.
The Tribunal noted that Guidance Notes (GN 2006, RGN 2012) and exposure drafts cited by the revenue are not statutory mandates that automatically invalidate an assessee's chosen accounting policy, and it accepted that AS-7 itself permits use of either method depending on reliability of outcome estimates.
Because the AO's rejection of accounts and change of accounting method was viewed as unjustified and beyond the AO's power in the circumstances, and because the CIT(A) had affirmed the AO without adequate justification contrary to the authorities relied upon by the assessee, the Tribunal set aside the AO's action and the CIT(A)'s confirmation on this issue.
The Tribunal expressly declined to decide the assessee's entitlement to deduction under section 80IB, observing that such a claim is to be considered in the year of completion of the project.
Finally, the Tribunal treated the last ground (related to penalty / other procedural matters) as infructuous in the present proceedings and dismissed it accordingly.

Holding and Implications

Core Holding: The Tribunal allowed both appeals of the assessee. The Tribunal set aside the Assessing Officer's rejection of the assessee's accounts under section 145(3) and disapproved the conversion of the assessee's accounting method from Project Completion (completed contract) to Percentage Completion Method for the assessment years in question.

Direct consequences for the parties:

The Tribunal allowed the appeals and set aside the assessments made by adopting the percentage completion method for the issues challenged in these appeals.
The Tribunal did not adjudicate the assessee's claim under section 80IB and observed that the question of eligibility/allowability of that deduction would be considered in the year of completion of the project.
The final ground (pertaining to initiation of penalty proceedings under section 271AAA / procedural issues) was treated as infructuous and dismissed in these proceedings.

Broader implications: The Tribunal's decision follows existing Supreme Court and High Court authorities recognizing that both completed contract and percentage completion are legitimate accounting methods and that an assessee's consistent choice of method should not be disturbed by the tax authority without justification. The opinion does not purport to announce a new legal principle beyond the authorities it applied and does not discuss wider policy implications beyond the direct effect on the parties in these appeals.

This summary is based exclusively on the content of the provided Tribunal order and does not include any information beyond that text.

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Krish Infrastructure (P.) Ltd. v. Assistant Commissioner of Income-tax, Central Circle, Alwar

ORDER

B.R. Jain, Accountant Member - These two appeals arise from the common order dated 23/11/2011 of Ld. CIT(A), Central, Jaipur by raising the identical grounds as under:-

1. The Ld. CIT (Appeals) erred in facts as well as law by confirming the income of Rs. 90,43,690/- against the Loss of Rs. 20,80,021/- as worked by learned Assessing Officer, by adopting the "percentage completion method", for the housing projects, of the assessee Company, on hypothetical figures of the projected turnover and projected profits.

The Ld. CIT (Appeals) further erred in law as well facts by rejecting the "project completion method" adopted by the assessee Company and further rejecting the audited figures of Loss Returned by it.

The Ld. CIT (Appeals) further erred in law as well facts that the assessee is not eligible for deduction under section 80IB of the Income Tax Act, while confirming the assessable income for the relevant assessment year.

2. The learned CIT (Appeals) erred in law as well facts by not adjudicating upon, initiation of penalty proceedings initiated under section 271AAA of the Income Tax Act, 1961.

2. Briefly the facts are that the assessee, a private limited company was incorporated on 21/9/2006. It has engaged itself in the business of developing and selling real estate project in the name of 'Krish Vatika' at Bhiwadi. An action u/s 132 of the Act was carried at business premises of the assessee on 17/9/2008. The assessee has filed Nil return of income both for assessment years 2008-09 and 2009-10 by adopting project completion method. The Assessing Officer issued a show cause notice u/s 142(1) of the Act on 1/12/2010 informing him that since it has not followed accounting slandered AS7 and AS-9, which it was required to follow as per the provisions of section 145(2) and 145(3), assessment in the case was proposed to be made as per the provisions of section 144 as has been laid out in section 145(3) of the Act and assessee income for assessment year 2008-09 at Rs. 90,43,688. The assessee furnished detailed reply vide letter dated 13/12/2010 as is also reproduced as under:-

1. The assessee has been strictly following the provisions of section 145(1) & 145(2) of the Act and accounting standards notified in Official Gazette by the Central Government vide its notification No. SO.69(E) dated 25.01.1996.

2. Since the project was not completed during the year, there was no occasion for the assessee company to recognize either the project expenses or the project revenue and accordingly the method of accounting followed by the assessee is strictly mercantile.

3. AS-7 is not notified by the Central government u/s 145(2) of the Act. As-7 is applicable only in the case of contractors and not on Builders and Developers. Therefore, As-7 is not applicable on assessee as it is a real estate developer and not a contractor.

4. AS-9 is applicable when a project is completed, flats are sold and this happens only when the legal title passes to the buyer or where possession is handed over to the buyer.

5. As per the agreement with the allotees the assessee is entitled at its own option to cancel and terminate the agreement when the allottee does not make the payments due as per the payment schedule within 60 days from the date of said amount became payable and/or the allottee commits any breach of the terms.

6. Revenue can be recognized by the assessee only after possession is handed over to the allottees.

3. The Ld. Assessing Officer examined the Accounting Standard AS-7 and AS-9 as is issued by the Institute of Chartered Accountants and opined that the assessee has ignored the guidelines issued by the Institute of Chartered Accountants whereby he has failed to present a true and fair picture of its accounts. The Ld. Assessing Officer vide para 3.17 of the assessment order for assessment year 2008-09 took a view that AS-9 and AS-7 should have been applied to present the correct, true and fair picture of accounts & work out the profits in a correct form, which the assessee has failed to do. So we had no alternative but to invoke the provisions of section 145(3) of the I.T. Act and reject the books of account and proceed to work out the true and fair picture of accounts by following AS-9 for revenue recognition and AS-7 i.e. percentage completion method for working out the profit. He, therefore, after rejecting the accounts, computed the profit on Percentage Completion Method at Rs. 90,43,688/- and for similar reasons, the income for assessment year 2009-10 stood assessed at Rs. 99,07,650/-.

4. The Ld. CIT(A) upheld the rejection of accounts as well as estimation of income by Percentage Completion Method. He considered various terms of the agreement and agreed with the Assessing Officer that the assessee ought to have prepared his accounts in accordance with AS-7 and AS-9 so that true and correct position of its profits could be presented from the books of account maintained by it. He was of the view that significant risk in the real estate is the price risk and in the agreement, such price is fixed and agreed by the allottees. Accordingly, any subsequent variation in the market price of the flat will affect the buyer/allottee. In case, market price of flat goes up, it is a reward to the buyer and if it goes down it is the risk of the buyer in respect of a flat that has already been booked by him. In this view of the matter, all the risks and rewards have been transferred to the allottee at the time of booking/entering into agreement with him. The guidance note issued by the Institute of Chartered Accountants also emphasized that under such circumstance, the risk and reward of ownership is treated to have been transferred. In this background and having regard to the judgment by Hon'ble Apex Court in the case of CIT v. British Paints India Ltd. [1991] 188 ITR 44/54 Taxman 499 (SC) and also in the case of Sutlej Cotton Mills v. CIT [1999] 116 ITR 1 (SC) , he upheld rejection and estimation made by the Assessing Officer. The ground raised in appeal stood dismissed.

5. Ld. Counsel for the assessee contends that the controversy regarding option to follow Percentage of Completion Method vis-à-vis Completed Contract Method is resolved in favour of the assessee by the under noted cases of the Hon'ble Jaipur Bench.

Unique Builders & Developers v. Dy. CIT, [ITA Nos. 73 to 77/JP/2012, 689 to 690/JP/2012, dated 14-3-2013].

Dy. CIT v. Unique Builders & Developers. ITA Nos. 211 to 215/JP/2012.

Unique Builders & Developers (Krishna) v. Dy. CIT, Central Circle-2, Jaipur. ITA Nos. 78 to 80/JP/2012.

Unique Builders & Developers (Krishna) v. Dy. CIT Jaipur. ITA Nos. 208 to 2010/JP/2012.

The Hon'ble Jaipur Bench at paras 12.15, 12.16, 13 & 14 at pages 62 to 65 has held as under:-

"12.15 The Apex Court had also an occasion to consider the Percentage of completion method and Completed Project Method in the case of Commissioner Of Income Tax, Chennai v. Bilahari Investment (P) Ltd., 299 ITR 1 (SC) . In this judgment it has taken a view that recognition/identification of income under the 1961 Act is attainable by several methods of accounting. It may be noted that the same result could be attained by any one of the accounting methods. The Completion Contract method is one of such methods. Under the Completed contract method, the revenue is not recognized until the contract is completed. Under the said method, costs are accumulated during the course of the contract. The profit and loss is established in the last accounting period and transferred to the profit and loss account. The said method determines results only when the contract is completed. The method leads to objective assessment of the results of the contract. On the other hand the Percentage of Completion method tries to attain periodic recognition of income in order to reflect current performance. The amount of revenue recognized under this method is determined by reference to the stage of completion and can be looked at under this method by taking into consideration the proportion that costs incurred to date bears to the estimated total costs of contract. The Apex Court again in the case of CIT v. Hyundai Heavy Industries Co. Ltd., 291 ITR 482 (SC) took the similar view and held at page 495 as under:-

"Lastly, there is a concept in accounts which called the concept of contract accounts. Under that concept, two methods exist for ascertaining profit for contracts, namely, "completed contract method" and "percentage of completion method". To know the results of his operations, the contractor prepares what is called a contract account which is debited with various costs and which is credited with revenue associated with a particular contract. However, the rules of recognition of cost and revenue depend on the method of accounting. Two methods are prescribed in Accounting Standard No. 7. They are "completed contract method" and "percentage of completion method". Thus, as both the methods of accounting are recognized methods of accounting, the assessee is at liberty to choose any of the above and if any one of the method of accounting is consistently followed by the assessee, the assessing officer cannot change the method of accounting to the "percentage of completion method"."

"12.16 The Hon'ble Delhi High Court while dealing with the similar situation in the case of CIT v. Manish Buildwell Pvt. Ltd. in ITA No. 928/2011 dated 15/11/2011 held that after the above judgment of Supreme Court in Commissioner Of Income Tax, Chennai v. Bilahari Investment (P) Ltd., 299 ITR 1 , it cannot be said that the project completion method followed by the assessee would result in deferment of the payment of taxes which are to be assessed annually under the income tax Act. Accounting Standard AS-7 issued by the Institute of Chartered Accountants of India also recognize the position that in the case of construction contracts, the assessee can follow either the project completion method or the percentage completion method. In view of the judgments of the Supreme Court (Supra), the findings of CIT(A), upheld by the Tribunal does not give rise to any substantial question of law. Further, the Tribunal has also found that there was no justification on the part of the assessing officer to adopt the percentage completion method for one year on selective basis. This will distort the true profits and gains of business."

"13. Considering entire conspectus of the case in the light of the peculiar facts and findings reached herein before in this case, it is neither proper nor justified to hold that the books of account maintained by the assessee did not present true and complete picture of its accounts and financial transactions. It is a case where accounts of the assessee are correct and complete. Method of accounting and accounting standard has been regularly followed. True and correct profits of the business of the assessee could be deduced from such books of accounts. In this view of the matter the assessing authority could not change the method regularly adopted by the assessee from Project Completion Method to Percentage Completion Method on irrelevant considerations. We are, therefore, satisfied that provisions of section 145(3) are not attracted in this case. The Ld. CIT(A), is found to have erred in upholding the decision of Ld. Assessing Authority to invoke section 145(3) of the Act and making assessment in the manner provided under section 114 of the Act. We, therefore, set aside the decision in this regard and allow grounds Nos. 2 and 3 raised in appeal by the assessee in assessment year 2003-04."

"14. In the light of our decision in assessee's appeal, the grounds raised in appeal by revenue become infructuous and stand rejected."

6. He has also appended a note on applicability of AS-7, AS-9, GN 2006, RGN 2012 as were heavily relied upon by the Ld. Commissioner of Income Tax in upholding rejection of accounts and applicability of percentage profit rate as under:-

1. The Real Estate Developer is not a Pure Contractor but is a seller of flats (goods). The Revenue Recognition in case of sale of goods is triggered on completion of performance as provided in para 11 of AS-9 "Revenue Recognition"-

"11. In a transaction involving the sale of goods, performance should be regarded as being achieved when the following conditions have been fulfilled:

(i) the seller of goods has transferred to the buyer the property in the goods for a price or all significant risks and rewards of ownership have been transferred to the buyer and the seller retains no effective control of the goods transferred to a degree usually associated with ownership; and

(ii) No signification uncertainty exists regarding the amount of the consideration that will be derived from the sale of the goods."

2. Guidance Note 2006 on Revenue recognition by Real Estate Developers was initially issued by the Institute of Chartered Accountants of India in the year 2006 wherein para 3 provided the Guidance regarding transfer of significant risks and rewards of ownership.

3. This guidance was lacking and, therefore, Revised Guidance Note 2012 was issued within a short span of 6 years. The Revised Guidance Note provided further conditions for ascertaining transfer of risks and rewards. These conditions were more stringent as compared to Guidance Note 2006. The relevant paras of RGN 2012 which were not part of GN 2006 are reproduced below:-

"3.4 The application of the methods described in paragraph 3.3 above requires a careful analysis of the elements of the transaction, agreement, understanding and conduct of the parties to the transaction to determine the economic substance of the transaction. The economic substance of the transaction is not influenced or affected by the structure and/or legal form of the transaction or agreement."

"4.3 Where transfer of legal title is a condition precedent to the buyer taking on the significant risks and rewards or ownership and accepting significant completion of the seller's obligation, revenue should not be recognized till such time legal title is validly transferred to the buyer."

4. The RGN 2012 provided for further minimum conditions to be eligible to recognize revenue even if risks and rewards of ownership are deemed to have been transferred. The relevant para 5.3 is reproduced below:-

"5.3 Further to the conditions in paragraph 5.2 there is a rebuttable presumption that the outcome of a real estate project can be estimated reliably and that revenue should be recognized under the percentage completion method only when the events in (a) to (d) below are completed.

(a) All critical approvals necessary for commencement of the project have been obtained. These include, wherever applicable:

(i) Environmental and other clearances.

(ii) Approval of plans, designs, etc.

(iii) Title to land or other rights to development/construction.

(iv) Change in land use.

(b) When the stage of completion of the project reaches a reasonable level of development. A reasonable level of development is not achieved if the expenditure incurred on construction and development cost is less than 25% of the construction and development costs as defined in paragraph 2.2(c) read with paragraphs 2.3 to 2.5.

(d) At least 10% of the total revenue as per the agreements of sale or any other legally enforceable documents are realized at the reporting date in respect of each of the contracts and it is reasonable to expect that the parties of such contracts will comply with the payment terms as defined in the contracts. To illustrate- If there are 10 Agreements of sale and 10% of gross amount is realized in case of 8 agreements, revenue can be recognized with respect to these 8 agreements."

5. It may be noted that the above conditions are minimum threshold limits to be eligible to recognize revenue. The entity can decide its own higher threshold limits, as part of its accounting policy. The Hon'ble Mumbai Tribunal in the case of Champion Construction Co. 5 ITD (BOM) 495 has held a threshold limit of 80% to be reasonable for recognizing revenue under 'Percentage of Completion Method' (PCM).

6. It may not be misunderstood that above para 5.3 makes it mandatory to recognize revenue once minimum threshold limits of 25% completion, etc. are crossed. It is rather the other way round and no revenue below the threshold limits can be recognized.

7. RGN 2012 is not a piece of legislation brought on any statute book which may invite debate about its prospective or retrospective application. RGN 1012 is codification of existing best accounting practices in this regard.

8. Even if any Real Estate Developer is obliged to follow AS-7, he is not bound to follow 'Percentage of Completion Method'. AS-7 para 21 provides that 'Percentage of Completion Method' should be followed when the outcome of a constructions contract can be estimated reliably. Para 21 is reproduced below:

"21. When the outcome of a construction contract can be estimated reliably, contract revenue and contract costs associated with the construction contract should be recognized as revenue and expenses respectively by reference to the stage of completion of the contract activity at the reporting date. An expected loss on the construction contract should be recognized as an expense immediately in accordance with paragraph 35."

9. The outcome of a contract can be reliably estimated when the conditions prescribed in para 28 are met.

"28. An enterprise is generally able to make reliable estimates after it has agreed to a contract which establishes:

(a) Each party's enforceable rights regarding the asset to the contructed;

(b) The consideration to be exchanged; and

It is also usually necessary for the enterprise to have an effective internal financial budgeting and reporting system. The enterprise reviews and, when necessary, revises the estimates of contract revenue and contract costs as the contract progresses. The need for such revisions does not necessarily indicate that the outcome of the contract cannot be estimated reliably."

Thus, any entity which does not have any robust internal financial budgeting system may never be able to ascertain the outcome of the contract reliably and in that case is not eligible for opting 'Percentage of Completion Method'. Any entity, without support of such a robust system, if opts for 'Percentage of Completion Method' the same will be violative of AS-7. Auditor of such entity will have to qualify his audit report in that case.

10. Reliable estimate of the outcome of a contract is influenced by all those factors which may ultimately affect the profitability of the contract. For ex-Cost of inputs like steel, cement, labour costs, clearances costs, litigation costs, etc.

11. It is a misconception that AS-7 (revised) does not provide for Completed Contract Method (CCM). Rather it makes it mandatory to follow Completed Contract Method if outcome of the contract cannot be estimated reliably. This is so provided in para 31 reproduced below:-

"31. When the outcome of a construction contract cannot be estimated reliably:

(a) Revenue should be recognized only to the extent of contract costs incurred of which recovery is probably; and

(b) Contract costs should be recognized as an expense is the period in which they are incurred.

An expected loss on the construction contract should be recognized as an expense immediately in accordance with paragraph 35."

12. Forcing compliance of AS-7 by the Department, will make the assessee eligible for claim of deducting of expected loss as provided in para 35.

"35. When it is probable that total contract costs will exceed total contract revenue, the expected loss should be recognized as an expense immediately."

7. The appellant has also clarified before the authorities below that there is no bar on allotees of flats to cancel the bookings. The cancellation of bookings had factually been done subsequently. The so called binding agreement does not provide for forfeiture of money and therefore, the amounts have been refunded in full because of this right of allottees to cancel bookings and also in the light of commercial realities. The profit cannot be said to have been earned until the right of cancellation remains with the allotees. This right remaining with the allottees restricts the risks from developer to the allotees. In the event of fall in prices or project not coming un properly or for any unforeseen feature, the allottees can cancel the booking half way. The reward may be sought to be transferred from the developer to the allottees and in view of the biding agreement the risk continues to be remained with the developer because of the right of allottees to cancel the agreement. For recognizing revenue from the point of view of the developer, it is the risk which must get transferred to the allottee. Then only the profit can only be said to have been earned. AS-9 requires transfer of both risk and rewards of ownership. The observations of the authorities below are not on commercial realities as has clearly been explained in the written submissions placed on record. It, therefore, has been contended that there is no justification in rejecting the accounts of the assessee when right of selecting accounting policy rests with the assessee and the assessee having followed consistently the Accounting Standards on Project Completion Method, the assessment of income by Percentage Completing Method is unjust and uncalled for.

8. On the other hand, the Ld. Departmental representative contends that the Assessing Officer rejected the accounts as the Accounting Standards have not consistently been followed by the appellant. After rejecting the accounts, he has adopted Percentage Completion Method as against Project Completing Method whereby the assessee did not disclose income by following AS-7and AS-9 as prescribed by the Institute of Chartered Accountants so as to present true and correct picture of the accounts and worked out the profits in correct form. The Ld. CIT(A) vide para 4 to 7 has given detailed reasoning after analyzing factual as well as legal position on this aspect. He has found that the assessee was working like a contractor. The Revenue should have been recognized by applying percentage of Completion Method in the manner as explained in AS-7. Each and every argument advanced by the assessee was duly considered. The contentions raised by appellant were rested on the period prior to issuance of guidance notes by the Institute of Chartered Accountants. The method adopted by the Assessing Officer was found justified. It, therefore, needs to be upheld by rejecting the grounds raised in appeal by the assessee.

9. We have heard parties with reference to material on record and case laws brought to our notice. The Assessing Officer in this case rejected the accounts on the sole ground that the assessee has not followed Accounting Standard-7 and AS-9 for recognition of revenue which required him to deduce income on the basis of Percentage Completion Method by working out the profits at the end of each financial year as the projects are spread over in the series of financial years. The assessee admittedly is engaged in the business of construction as a builder/real estate developer. He has also maintained complete books of account, which are duly audited by duly qualified Chartered Accountants. The assessee has also maintained its account on mercantile basis by regularly applying Project Completion Method. The assessee in assessment for assessment year 2009-10 has also consistently followed the same method as was applied for assessment year 2009-10. The auditors have reported no change in method of accounting adopted by the assessee. The assessee has clearly demonstrated that it has regularly employed the project completion method of accounting. Hon'ble Delhi High Court in the case of CIT v. Smt. V. Sikka [1984] 149 ITR 73 (Delhi) has entertained a view that even for the first year, the method of accounting is deemed to have been employed if the same is shown to have been regularly employed in subsequent years as is also the case in appeal before us. The real estate developer is not a pure contractor but is a seller of flats/goods. It is not mandatory for all real estate developers to follow Percentage of Completion Method as prescribed by Institute of Chartered Accountants of India under AS-7. Hon'ble Delhi High Court in the case of CIT v. Manish Buildwell (P.) Ltd. by its order dated 15/1/2011 in ITA No. 928/2011 has ruled that Accounting Standard-7 issued by the Institute of Chartered Accountants of India recognizes the position that in the case of construction contracts the assessee can follow either the project completion method or percentage completion method. We also find that neither the revised guidance notes 2012 issued by the Institute of Chartered Accountants of India nor the "Exposer Draft for Guidance Note on recognition of revenue" issued by the Institute of Chartered Accountants of India in 2011 are mandatory. It is the option of the assessee to follow either the completed contract method or the percentage completed method. The completed contract method in the present case in appeal followed by the appellant, therefore, could not be faulted with by the revenue authorities and on that basis it is neither correct nor justified to say that the accounts did not present correct and complete picture of its profits. The accounts rejected by the Assessing Officer on the basis adopted by him are thus not found tenable. We, therefore, set aside his action as no other grounds have been taken by the assessing authority for rejecting the account of the assessee. The Hon'ble Apex Court in the case of Commissioner Of Income Tax, Chennai v. Bilahari Investment (P) Ltd. [2008] 299 ITR 1/168 Taxman 95 , has taken a view that "recognition/identification of income under the 1961 Act is attainable by several methods of accounting. It may be noted that the same result could be attained by any one of the accounting methods. The Completion Contract method is one of such methods. Under the Completed contract method, the revenue is not recognized until the contract is completed. Under the said method, costs are accumulated during the course of the contract. The profit and Loss is established in the last accounting period and transferred to the profit and loss account. The said method determines results only when the contract is completed. The method leads to objective assessment of the results of the contract. On the other hand the Percentage of Completion method tries to attain periodic recognition of income in order to reflect current performance. The amount of revenue recognized under this method is determined by reference to the stage of completion and can be looked at under this method by taking into consideration the proportion that costs incurred to date bears to the estimated total costs of contract". The Apex Court again in the case of CIT v. Hyundai Heavy Industries Co. Ltd., [2007] 291 ITR 482/161 Taxman 191 (SC) took the similar view and held at page 495 as under:-

"Lastly, there is a concept in accounts which called the concept of contract accounts. Under that concept, two methods exist for ascertaining profit for contracts, namely, "completed contract method" and "percentage of completion method". To know the results of his operations, the contractor preparers what is called a contract account which is debited with various costs and which is credited with revenue associated with a particular contract . However, the rules of recognition of cost are revenue depend on the method of accounting. Two methods are prescribed in Accounting Standard No. 7. They are "completed contract method" and "percentage of completion method". Thus, as both the methods of accounting are recognized methods of accounting, the assessee is at liberty to choose any of the above and if any one of the method of accounting is consistently followed by the assessee, the assessing officer cannot change the method of accounting to the "percentage of completion method."

10. The aforesaid view has also been followed by this Tribunal in the case of Unique Builders and Developers, Jaipur (supra) in a recent order dated 14/3/2013 on which appellant has placed strong reliance before us. The issue being similar and on the factual findings as are stated hereinbefore, we find no justification in rejection of accounts by application of provisions of section 145(3) of the Act and changing the method from Project Completion to Percentage Completion Method by the Assessing Officer. Such an exercise being beyond the scope of his power and as the decision as such taken by him is unjust and uncalled for, the Ld. CIT(A) has erred in confirming his decision, we therefore, set aside his order and allow the ground No. 1 raised in both the appeals by the assessee in that regard.

11. Having allowed the ground No. 1 in both the appeals, in this regard, we do not consider necessary to render our decision on the legibility and allowability of deduction u/s 80 IB of the Act as the same has to be considered in the year of completion of the project only.

12. The last ground in appeal is treated as infructuous in these proceedings and stands dismissed.

13. In the result, both the appeals of the assessee stand allowed.

VARSHA

Krish Infrastructure (P.) Ltd. v. Assistant Commissioner of Income-tax, Central Circle, Alwar

Tribunal Order — Summary

Factual and Procedural Background

Legal Issues Presented

Arguments of the Parties

Appellant's (Assessee's) Arguments

Departmental Representative's Arguments

Table of Precedents Cited

Court's Reasoning and Analysis

Holding and Implications

Krish Infrastructure (P.) Ltd. v. Assistant Commissioner of Income-tax, Central Circle, Alwar

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