2024 (2) TMI 1114 - HC - Income Tax

Income recognition - advances received from clients - reimbursement / out of pocket expenses - manner in which books are being kept u/s 145 - assessee solicitor firm receives advances from clients in pre-post expenditure basis and the payments are made on behalf of the clients - AO observed that out of pocket expenses had been exclusively kept out of the books and on reimbursement of the sum by the clients to the assessee, it was the duty of the assessee to route the same through the profit and loss account and in the absence of such course being taken, AO added the same amount to the total income of the assessee HELD THAT - The solicitor is the agent of the client. The client makes over the money to the solicitor for some work being done by the Solicitor as his agent. The money must be employed to that purpose and must not be treated as money received for any other purpose. This position is not altered by the fact that the solicitor retains a lien upon the balance of the money for his costs. The result of solicitor having a lien on the balance of the money is no more than a person having a charge on somebody else's money. We are of the opinion that when a solicitor receives money from his client, he does not do so as a trading receipt but he receives the money of the principal in his capacity as an agent and that also in a fiduciary capacity. The money so received does not have any profit-making quality about it when received. It remains money received by a solicitor as client's money for being employed in the client s cause. The solicitor remains liable to account by this money to his client. We are of the view that the monies received by assessee from clients were held by the assessee in a fiduciary capacity. The money received by the assessee was the money of the principal which was received by him as the agent in a fiduciary capacity for being employed for the work of the principal (clients) entrusted to him. It was not trading receipt. Therefore, the respondent/assessee was not under any legal obligation to show it as his receipts of money from the clients. Even factually, since the money received from clients by the respondent/assessee was not his money, therefore, the assessee could not have entered it in his accounts as his money. That apart, the payments made by the assessee as agent on behalf of his client (principal) under various heads, have not been doubted or disputed and instead a finding of fact regarding such payments have been arrived at by the CIT(A) and the Tribunal. The effect of receipt of money as agent stood neutralised by payment thereof on behalf of the principal (clients). Hence, effect of receipts stood neutralised in so far as the determination of income liable to tax is concerned. Ld' Counsel for the appellant has placed much reliance upon the provisions of Section 145 of the Act, 1961. We find on facts of the present case that no adverse inference on the basis of Section 145 can be drawn against the assessee inasmuch as it is not the case of the revenue that sub-Section (3) of Section 145 is attracted on facts of the present case. Even, learned Counsel for the appellants, despite being asked by us repeatedly, could not point out from the assessment order that any of the conditions as contained in sub-Section (3) of Section 145, factually existed. Substantial question of law as framed is answered in favour of the assessee and against the revenue

Issues Involved:
1. Whether the Tribunal committed a substantial error of law by overlooking the alleged "out of pocket expenses" that were kept out of the books.
2. Whether the Assessing Officer was justified in adding the differential amount to the total income of the assessee.

Summary:

Issue 1: Tribunal's Alleged Error of Law
The Tribunal was questioned on whether it committed a substantial error of law by overlooking the alleged "out of pocket expenses" that were kept out of the books. The facts of the case reveal that the respondent/assessee, a solicitor firm, received advances from clients, part of which was spent on various expenses like counsels' fees, stamp paper, and court fees. The Assessing Officer added the differential amount of Rs.3,74,85,859/- to the income of the assessee, despite recognizing that the money was spent on behalf of the clients.

The CIT(A) and ITAT both found that the amounts received in advance for making payments on behalf of the clients were not professional receipts of the assessee. The CIT(A) noted that the expenses were kept out of the profit and loss account, and if these receipts were taken to the P&L account, the corresponding expenses would neutralize the effect. The ITAT affirmed this view, finding no justification for treating the amount as the assessee's income.

Issue 2: Justification of Assessing Officer's Addition
The Assessing Officer justified adding the differential amount to the total income of the assessee by arguing that the entire receipts from clients should have been routed through the books of account. However, the CIT(A) and ITAT found that the money received from clients was held in a fiduciary capacity and was not the assessee's income. The CIT(A) stated that the expenses incurred on behalf of the clients were recognized as liabilities and not income. The Tribunal agreed, emphasizing that the solicitor acted as an agent for the clients, and the money received did not have any profit-making quality.

The High Court referred to previous judgments, including those of the Supreme Court, which supported the view that money received by a solicitor from clients in a fiduciary capacity is not trading receipt and does not become income. The Court concluded that the solicitor remains liable to account for this money to the client, and the money should not be treated as the solicitor's income.

In conclusion, the High Court dismissed the appeal, stating that the substantial question of law was answered in favor of the assessee and against the revenue. The appeal was found to be without merit, and the Tribunal's decision was upheld.

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