2012 (12) TMI 5 - AT - Income Tax

Deletion of addition to Gross profit - fall in gross profit - rejection of books of accounts - business of job work of diamond and export of diamond - CIT(A) has deleted the entire addition on the ground that the assessee has properly explained the fall in GP ratio and no specific defects were pointed out in the books of account by the AO. The AO has rejected the books of account of the assessee as the basic data of the business from which correct profit could be deduced were not properly maintained by the assessee and if at all they were maintained, the same were not produced for verification before the AO at the time of assessment proceedings. Held that - The intention of the Legislature in enacting section 44AA was to put an obligation on the assessee to maintain and keep primary records on the basis of which the Tax Authorities can ascertain and compute the correct income. Therefore, it was not the prerogative of the assessee to maintain the records in the manner in which it likes. Facts in this case are identical to the facts of the case before the ITAT Mumbai Bench in the case of DCIT vs. Samir Diamonds Exports (P) Ltd. 1998 (10) TMI 509 - ITAT MUMBAI BENCH . Order of AO to enhance the gross profit by 4% of the total turnover restored. - Decided in favor of revenue.

Issues Involved:
1. Deletion of additions made by the Assessing Officer (AO) in respect of low Gross Profit (GP).
2. Rejection of books of accounts under Section 145(3) of the Income Tax Act.
3. Validity of the method of accounting and maintenance of records by the assessee.

Issue-wise Detailed Analysis:

1. Deletion of Additions Made by AO in Respect of Low Gross Profit:
The AO observed a fall in the gross profit ratio from 20% in the preceding year to 13.81% in the assessment year under consideration. The AO attributed this decline to the assessee's failure to maintain quality-wise records of polished diamonds and rejected the books of accounts under Section 145(3). The AO estimated the gross profit by enhancing it by 4% of the total turnover, resulting in an addition of Rs. 28,49,884/- to the total income of the assessee.

The assessee contended that the fall in GP was due to adverse factors such as increased cost of polished diamonds and reduced profit on sale per carat. The assessee provided detailed calculations showing the cost and sale price per carat, demonstrating that the fall in GP was justified. The assessee also argued that the addition was based on guesswork and surmises without pointing out specific defects in the books of accounts.

The learned CIT(A) accepted the assessee's explanation and deleted the addition, stating that the fall in GP was satisfactorily explained and no specific defects were pointed out by the AO. The CIT(A) relied on various judicial pronouncements supporting the assessee's contention that the rejection of books of accounts solely based on a fall in GP ratio was not justified.

2. Rejection of Books of Accounts Under Section 145(3):
The AO rejected the books of accounts under Section 145(3) on the grounds that the assessee failed to maintain and produce quality-wise records of polished diamonds. The AO emphasized that maintaining such records was crucial for determining the correct profit, given the nature of the diamond business where the value of diamonds varies significantly based on quality factors such as carat, cut, color, and clarity.

The learned CIT(A) disagreed with the AO, noting that the assessee had considered all expenses while valuing the closing stock and had provided a satisfactory explanation for the fall in GP. The CIT(A) held that the AO was not justified in rejecting the books of accounts and making the addition based on an estimated GP.

3. Validity of the Method of Accounting and Maintenance of Records by the Assessee:
The AO argued that the assessee did not maintain the books of accounts and documents as required under Section 44AA of the Income Tax Act, which mandates keeping primary records enabling the computation of correct income. The AO pointed out that the assessee failed to produce proper books of accounts, such as labor payment registers and vouchers, and did not explain the method of valuing the closing stock.

The assessee countered that it was not possible to maintain quality-wise details of stock in the diamond business and that the accounts were audited. The assessee relied on judicial precedents where the rejection of books of accounts solely based on the fall in GP ratio was not upheld.

The Tribunal, after considering the arguments and precedents, found that the AO had provided detailed reasons for rejecting the books of accounts, including the failure to maintain quality-wise records and the significant fall in GP ratio. The Tribunal held that the CIT(A) erred in deleting the addition and restoring the AO's order, emphasizing the importance of maintaining quality-wise records in the diamond business for accurate profit determination.

Conclusion:
The Tribunal set aside the order of the learned CIT(A) and restored the AO's order, emphasizing the necessity of maintaining quality-wise records in the diamond business and justifying the rejection of books of accounts under Section 145(3) due to the significant fall in GP ratio and the absence of specific defects pointed out by the AO. The appeals were allowed in favor of the Revenue.

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