1991 (2) TMI 177 - AT - Income Tax

Summary

Issues Involved:
1. Method of Accounting
2. Expenses on Incomplete Projects
3. Investment Allowance on New Machinery
4. Verification and Allocation of Expenses
5. Motive of the Assessee

Detailed Analysis:

1. Method of Accounting:
The assessee employed a hybrid system of accounting, using a mercantile system for expenses and a cash system for income. The tribunal observed that this method is flawed, as it does not accurately reflect the true income or loss of the business. The tribunal emphasized that for long-term projects, either the percentage of completion method or the completed contract method should be used. The tribunal noted that the hybrid system adopted by the assessee was impractical and unscientific, particularly for contracts with a 'no cure no pay' clause, where income or loss can only be determined upon the completion of the project.

2. Expenses on Incomplete Projects:
The tribunal found that the expenses incurred by the assessee for the salvage operations should not be allowed in the current assessment year as the projects were incomplete. The tribunal highlighted that the correct procedure would be to treat each salvage contract as a separate project and determine the income or loss at the completion of the project. The tribunal observed that the assessee's method of charging expenses on a mercantile basis while accounting for income on a cash basis was not acceptable.

3. Investment Allowance on New Machinery:
The tribunal rejected the assessee's claim for investment allowance on new machinery, noting that the machinery was not utilized for manufacturing purposes but for hiring out ships and providing diving services. The tribunal upheld the findings of the lower authorities that the machinery was not used for the assessee's business of manufacturing, and thus, the claim for investment allowance was not justified.

4. Verification and Allocation of Expenses:
The tribunal noted the observations of the auditors regarding the lack of a system for recording receipts, issues, and consumption of materials and stores. The tribunal found that the expenses incurred by the assessee were not fully verifiable and ascertainable due to the absence of a stock register and other documentary evidence. The tribunal upheld the allocation of expenses between incomplete projects and other business activities as done by the lower authorities, finding it justified and reasonable.

5. Motive of the Assessee:
The tribunal observed that the assessee's adoption of the hybrid system of accounting appeared to be a deliberate attempt to defer tax liability and neutralize hire charges, thereby reducing taxable income to nil. The tribunal found that the assessee's main concern was to incur expenditure to set it off against legitimate income, which was not a bona fide action. The tribunal concluded that the system of accounting adopted by the assessee enabled it to understate its real income by prematurely debiting unascertainable losses.

Conclusion:
The tribunal concluded that the assessee's claim for expenditure was allowable as the expenses were incurred wholly and exclusively for the purposes of the assessee's business. The tribunal held that the method of accounting employed by the assessee was not relevant in the context of sections 4 and 5 of the Income-tax Act, 1961, as no income had accrued or arisen to the assessee during the assessment year under appeal. The tribunal allowed the assessee's claim for expenditure and rejected the partial disallowance made by the lower authorities. However, the tribunal upheld the rejection of the investment allowance claim on new machinery.