1986 (12) TMI 58 - AT - Income Tax

Summary

Issues Involved:
1. Change in the method of valuation of closing stock.
2. Bona fides of the change in valuation method.
3. Impact of the change on the computation of taxable income.
4. Acceptance of the changed method in subsequent assessment years.
5. Applicability of legal precedents and principles.

Detailed Analysis:

1. Change in the method of valuation of closing stock:
The Income Tax Officer (ITO) computed the assessee's total income for the assessment year 1977-78, rejecting the assessee's contention regarding the change in the method of valuation of closing stock of shares and debentures from the 'cost method' to 'cost or market rate whichever was lower.' The ITO, supported by the Inspecting Assistant Commissioner (IAC), concluded that the change was not bona fide and aimed at setting off the speculation profit of Rs. 5,90,530 against the loss of Rs. 4,64,547 arising from the valuation change.

2. Bona fides of the change in valuation method:
The Commissioner of Income Tax (Appeals) [CIT(A)] agreed with the ITO and IAC, stating that the change was arbitrary and self-serving, implemented to suit the appellant's purpose. The CIT(A) observed that the appellant had no rationale for the change, as the market value of shares varied significantly, and the change was not consistent with the financial position of the assets.

3. Impact of the change on the computation of taxable income:
The CIT(A) further held that the loss arising from the change in valuation method represented accumulated past losses, which could not be deducted against the trading profits for the year under appeal. The CIT(A) also noted that if the appellant were treated as an investor in shares, the loss would be a capital loss and not deductible from revenue.

4. Acceptance of the changed method in subsequent assessment years:
The assessee argued that the change in the method of valuation was bona fide and had been consistently followed in subsequent years, as accepted by the ITO for the assessment years 1978-79 and 1979-80. The assessee's counsel cited several legal precedents to support the argument that changing the method of valuation to a recognized method is permissible and should be accepted if followed consistently.

5. Applicability of legal precedents and principles:
The Tribunal referred to various legal precedents, including the decisions in Indo Commercial Bank Ltd vs. CIT, Snow White Food Products Co. vs. CIT, and Investment Ltd. vs. CIT. These cases established that an assessee is entitled to change the method of valuation if it is bona fide and consistently followed. The Tribunal noted that the change in the method of valuation from 'cost' to 'cost or market price whichever was lower' is a recognized method and should be accepted if followed regularly.

Conclusion:
The Tribunal concluded that the change in the method of valuation of closing stock of shares by the assessee was bona fide and consistently followed in subsequent years. The Tribunal set aside the CIT(A)'s order and directed the ITO to allow the loss incurred in valuing the closing stock of shares at 'cost or market price whichever was lower,' after due verification. The appeal was allowed.