2011 (3) TMI 655 - HC - Income Tax

Valuation of stock - Market price or cost - stock was received by the assessee on dissolution of the firm M/s Mehrae-Di-Hatti on 10.11.1979 - Conversion of stock into stock in trade - Valuation of inventories is subject matter of AS-2 issued by the ICAI. AS-2 prescribes valuation of inventories at cost or net realisable value whichever is less - Held that - In the instant case, the erstwhile firm disappeared on its dissolution. The proprietorship business gave birth to new business, in a different form. A somewhat similar situation obtained in A.L.A. Firm s (1991 -TMI - 5330 - SUPREME Court) case, where the court was called upon to determine the value of the closing stock though of the dissolved firm. A converse situation arose in Sakthi Trading Co. Ltd. (2001 -TMI - 6026 - SUPREME Court) case where substantially both in terms of its physicality and form the business remained the same. We are thus of the opinion that the Tribunal s decision to value the stock at cost rather than the market value cannot be sustained. - Decided in favor of the assessee

Summary

Issues Involved:

1. Valuation of opening stock received by the assessee on the dissolution of a firm.
2. Whether the opening stock should be valued at cost or market price when converted into stock-in-trade by the assessee.

Issue-wise Detailed Analysis:

1. Valuation of Opening Stock:

The primary issue revolves around the valuation of the opening stock received by the assessee on the dissolution of the firm M/s Mehrae-Di-Hatti. The Tribunal had to determine whether the stock should be valued at the market price of Rs. 49,19,491 or the book value of Rs. 35,16,785.

Relevant Facts:
- The firm consisted of two partners, and upon the retirement of one partner, the firm was dissolved on 10.11.1979.
- Smt. Madhu Rani Mehra took over the assets and liabilities, continuing the business as a proprietorship.
- The closing stock of the firm was valued at book value Rs. 35,16,785, while its market value was Rs. 49,19,491.

Tribunal's Decision:
- The Tribunal confirmed the addition of Rs. 14,02,700 to the firm's income, valuing the closing stock at market price.
- For the proprietorship, the Tribunal valued the opening stock at book value Rs. 35,16,785, as the stock was received from the dissolved firm.

Court's Analysis:
- The court referred to the principles laid down in the Supreme Court judgments in A.L.A. Firm v. CIT and Sakthi Trading Co. v. CIT.
- In A.L.A. Firm, it was held that the closing stock on dissolution should be valued at market value.
- In Sakthi Trading Co., it was determined that for a continuing business, stock should be valued at cost or market value, whichever is lower.

2. Valuation of Stock as Capital Asset Converted into Stock-in-Trade:

The second issue concerns whether the stock received by Smt. Madhu Rani Mehra should be valued at market price when converted into stock-in-trade for her proprietorship business.

Assessee's Argument:
- The stock received on dissolution was a capital asset and should be valued at market price when converted into stock-in-trade.
- The assessee relied on the Supreme Court judgment in CIT v. Groz-Beckert Saboo Ltd., which held that the market value should be used when a capital asset is converted into stock-in-trade.

Revenue's Argument:
- The revenue argued that since the business continued, the stock should be valued at the book value, Rs. 35,16,785, as no additional payment was made for it.

Court's Analysis:
- The court noted that the stock introduced into the new business should be valued at its market value on the date of introduction.
- The Tribunal's reasoning that the stock should be valued at cost because no additional payment was made was flawed.
- The court illustrated that if the stock had been sold and then repurchased, it would undoubtedly be valued at market price.

Conclusion:

The court concluded that the stock introduced into the new business should be valued at the market price of Rs. 49,19,491. The Tribunal's decision to value the stock at cost was set aside. Both questions of law were answered in favor of the assessee, and the appeal was allowed. The court emphasized that the principles of valuing stock at market value should apply when a capital asset is converted into stock-in-trade.