2005 (11) TMI 522 - SC - Income Tax

Summary

Issues Involved:
1. Valuation of closing stock.
2. Application of Section 80 HHC of the Income-tax Act.
3. Consistency in the method of accounting.
4. Powers of the Assessing Officer under Section 145 of the Income-tax Act.
5. Determination of real income and notional profits.

Detailed Analysis:

1. Valuation of Closing Stock:
The assessee valued the closing stock for the Assessment Year 1992-93 at Rs. 130 per kg, while the opening stock was valued at Rs. 90 per kg. This method was consistently followed, with the closing stock of one year becoming the opening stock of the next. The Assessing Officer found this method resulted in an artificially inflated profit, which was against the principles of accountancy and law. The High Court upheld this view, stating that the method adopted was incorrect and aimed at inflating deductions under Section 80 HHC.

2. Application of Section 80 HHC of the Income-tax Act:
The assessee claimed benefits under Section 80 HHC for the First Year, arguing that the increased valuation was due to market factors and the devaluation of the Rupee against the U.S. Dollar. The Assessing Officer and the High Court concluded that the method adopted was a device to inflate deductions under Section 80 HHC, which was not permissible.

3. Consistency in the Method of Accounting:
The assessee argued that the method of accounting had been consistently followed since 1985-86. However, the High Court and the Assessing Officer found that merely following a particular system consistently did not justify its correctness if it resulted in an improper reflection of income. The Tribunal initially allowed the assessee's method, but the High Court overruled this, emphasizing the need for a method that accurately reflects true income.

4. Powers of the Assessing Officer under Section 145 of the Income-tax Act:
Section 145 allows the Assessing Officer to determine the income if the method employed by the assessee does not properly deduce the income. The High Court and the Assessing Officer exercised this power, finding that the assessee's method resulted in notional profits and did not reflect the true income. The Supreme Court upheld this view, stating that the Assessing Officer's discretion was exercised judicially and reasonably.

5. Determination of Real Income and Notional Profits:
The Supreme Court emphasized that the real income, not notional profits, is taxable. The method adopted by the assessee resulted in notional profits by valuing the closing stock at a market value higher than the cost, which is not permissible. The Court cited established principles that the closing stock should be valued at cost or market value, whichever is lower, to reflect true profits. The rejection of the assessee's accounts was based on the principle that income not actually derived cannot be taxed.

Conclusion:
The Supreme Court dismissed the appeal, upholding the High Court's decision that the method adopted by the assessee was incorrect and aimed at inflating deductions under Section 80 HHC. The consistent method of accounting must accurately reflect true income, and the Assessing Officer's powers under Section 145 were correctly exercised to reject the notional profits shown by the assessee.