2022 (11) TMI 992 - HC - Income Tax

Recognition/identification of income liable to tax - accounting system adopted by the assessee - expenditure with reference to the sub-contract with Ircon Ltd.treated contract receipt or the right to contract receipt - obligation to follow mercantile system of accounting, record expenditure, contract receipt etc - whether bills certified as relating to the work completed during the year be brought to tax in the assessment year 1986-87? - HELD THAT - For the view in the particular facts and circumstances of this case and upon considering the findings recorded by CIT(Appeals) and Tribunal, we are of the view that the argument of Revenue that mercantile system of accounting should have been adopted for the work executed in Iraq, does not arise and the assessee had rightly adopted completed contract system for the work under execution in Iraq in the contemporary period. The answer to second question is dependent on the findings we have recorded in the first question. Once this Court holds that the completed contract method adopted by the assessee in the current facts and circumstances is right, the bills certified as relating to work completed cannot be recognised as receipts and brought to tax in the Assessment Year 1986-87. The question that mercantile system of accounting should be directed would curtail the discretion available to the assessee - we answer the points in favour of assessee and against the Revenue. Work as executed or the progress bills were presented and approved - enforceable right in the assessee to receive payment - HELD THAT - From the findings recorded, it is not brought to our notice that the bills certified are gone that far in getting approval from the Iraq Government and an enforceable right in the Assessment Year. The bills are stated as certified. It is definitely an enforceable right in the realm of contract. The assessee since is subjected to vagaries and uncertainties of fluctuation, preferred to have completed contract method for the entire project. The effect of these transaction, recognition of revenue etc would arise either upon completion of the contract and/or rescission of contract, other foreseen and unseen eventualities, that means, arising in the course of the execution of the contract. By keeping in view the finding of fact recorded by the Tribunal, we answer the issue by holding that the bills certified in the case on hand having regard to the deferred payment agreement entered by the assessee did not create an enforceable right even in the subsequent Assessment Year. The point is answered in favour of the assessee and against the Revenue.

Summary

Issues Involved:
1. Adoption of mercantile system of accounting versus completed contract method.
2. Taxability of certified bills as income in the assessment year 1986-87.
3. Enforceability of certified bills and the right to receive payment.

Detailed Analysis:

Issue 1: Adoption of Mercantile System of Accounting vs. Completed Contract Method

The primary issue revolves around whether the assessee, who had previously followed the mercantile system of accounting, could adopt the completed contract method for the assessment year 1986-87. The assessee, engaged in construction work in Iraq, argued that due to the Iran-Iraq war and the resultant uncertainties, the completed contract method was more appropriate. The Deputy Commissioner of Income Tax added Rs.6,92,96,722/- to the assessee's income, representing the difference between the certified amount and expenses incurred.

The court noted that the Act does not mandate adherence to a single accounting method and allows for changes provided they are bona fide and not intended to evade tax. The completed contract method, a recognized accounting standard, was deemed suitable given the circumstances in Iraq. The court concluded that the assessee had the discretion to adopt this method, and the Revenue's insistence on the mercantile system was not justified.

Issue 2: Taxability of Certified Bills as Income in the Assessment Year 1986-87

The second issue was whether the certified bills for work completed in Iraq should be taxed in the assessment year 1986-87. The court held that since the assessee adopted the completed contract method, the income from the certified bills could not be recognized until the project's completion. The court emphasized that forcing the assessee to revert to the mercantile system would curtail its discretion and was not warranted under the circumstances. Therefore, the certified bills could not be taxed in the assessment year 1986-87.

Issue 3: Enforceability of Certified Bills and the Right to Receive Payment

The final issue concerned whether the certified bills created an enforceable right to receive payment. The court observed that the bills, despite being certified, did not create an enforceable right due to the deferred payment agreement and the uncertainties in Iraq. The Tribunal's finding that the certified bills did not constitute an enforceable right was upheld. The court concluded that the certified bills did not create an enforceable right in the assessment year or even in subsequent years, given the deferred payment agreement.

Conclusion:

The court answered all the issues in favor of the assessee and against the Revenue. The adoption of the completed contract method was deemed appropriate under the circumstances, and the certified bills could not be taxed in the assessment year 1986-87. The certified bills did not create an enforceable right to receive payment due to the deferred payment agreement and the prevailing uncertainties in Iraq.