2022 (6) TMI 887 - AT - Income Tax

Revenue recognition - accrual of income - treating the 70% salaries as part of the Project cost instead of 50% as taken by the appellant company - as argued appellant has been following percentage completion method for computing its income and accordingly income was computed accordingly on consistent basis - CIT (A) indicates that the project is being substantially completed on year to the basis and CIT (A) has held that assessee is not permitted to postpone the revenue recognition - HELD THAT - We find that the above order of ld. CIT (A) does not exhibit proper application of mind. As per ld. CIT (A), the project has been completed more than what the assessee has reflected. In such case, the addition should have been made according to the stage of completion as per the Revenue authorities. CIT (A) has made no examination or remanded the matter to the AO for finding of the actual completion. What is the justification of AO holding that 70% of the salary and wages should be debited to project account and not 50% is not at all spelt out by the AO or the ld. CIT (A). If the authorities below were of the opinion that assessee is falsifying his records than the books should have been rejected. This has not been done. Even if books have been rejected the estimation of income has to be done on a reasonable basis as per past performance or the prevalent industry norms. Devoid of any reasoning, addition of 20% of salaries and incentive to project account is solely based upon surmises and conjectures, hence not sustainable in law. Accordingly we set aside the orders of authorities below and delete the disallowance/addition made by the AO. - Decided in favour of assessee.

Summary

Issues:
1. Disallowance of salaries as part of project cost.
2. Revenue recognition under percentage completion method.
3. Proper application of mind by the lower authorities.

Issue 1: Disallowance of salaries as part of project cost:
The Assessing Officer (AO) made an ad hoc addition to the income of the assessee by transferring 70% of salaries and incentives to the project account, rather than the 50% debited by the assessee. The AO's basis for this action was not specified. The ld. CIT (A) upheld this addition, stating that the assessee was not recognizing revenue despite incurring continuous expenses and piling up inventory, indicating substantial completion of the project. The ld. CIT (A) further mentioned that the AO could pass an order under section 144 of the Income-tax Act, 1961, and confirmed the AO's action. However, the Tribunal found that the orders of the lower authorities did not exhibit a proper application of mind. The Tribunal noted that there was no justification provided for debiting 70% instead of 50% to the project account. Without proper reasoning, the addition of 20% of salaries and incentives to the project account was deemed unsustainable in law. Consequently, the Tribunal set aside the orders of the lower authorities and deleted the disallowance/addition made by the AO.

Issue 2: Revenue recognition under percentage completion method:
The assessee, a real estate developer, claimed to follow the percentage completion method of accounting. The ld. CIT (A) observed that the assessee was not recognizing revenue in accordance with the completion of the project, despite continuous spending and inventory accumulation. The ld. CIT (A) held that the assessee was not permitted to postpone revenue recognition, citing accounting principles and the Income-tax Act provisions. The ld. CIT (A) mentioned the guidance notes requiring the adoption of the percentage completion method for recording accounting transactions by developers. The Tribunal, however, found that the ld. CIT (A) did not properly assess the stage of completion of the project and did not provide a reasoned justification for the addition made by the AO. Therefore, the Tribunal set aside the orders of the lower authorities and allowed the appeal by the assessee.

Issue 3: Proper application of mind by the lower authorities:
The Tribunal highlighted that the orders of the lower authorities lacked proper application of mind. It noted that the authorities did not provide sufficient reasoning for the disallowance/addition made by the AO. The Tribunal emphasized that if the authorities suspected falsification of records, the books should have been rejected, or estimation of income should have been based on past performance or industry norms. Since there was no clear justification or reasoning provided for the addition of 20% of salaries and incentives to the project account, the Tribunal deemed the action based on surmises and conjectures, hence unsustainable in law. Consequently, the Tribunal set aside the orders of the lower authorities and ruled in favor of the assessee.

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