2014 (10) TMI 109 - HC - Income Tax

Claim of expenses disallowed u/s 37(1) - expenditure/loss incurred on abandoned project Held that - The FAA has looked into the profit and loss account and was convinced that for the first two years the expenditure is shown as work-in-progress but as the expenditure was not shown as work-in-progress and the entire expenditure was shown as expenditure the assessee is not entitled to the benefit - the assessee in that previous year has shown the entire amount incurred as expenditure and sought for writing off as business expenditure - This aspect has been missed by the FAA - It is only in the relevant year the assessee has not shown the amount spent towards expenditure as work-in-progress - It is during that year the contract was terminated and he put forth the present claim - He could not have shown it as work-in-progress - the finding that he is not entitled to the benefit is ex-facie illegal and cannot be sustained. Relying upon Laxmi Ginning And Oil Mills Versus Commissioner of Income-Tax, Patiala 1970 (12) TMI 17 - PUNJAB AND HARYANA High Court - if the assessee incurs a liability and when the contract under which that liability was incurred was terminated and when no amounts under the contract or in pursuance of a claim is receivable, he is entitled to claim the said amount incurred as expenditure in implementing the contract as a set off u/s 37(1) r/w 28 of the Act - though the assessee has incurred expenditure during the AYs 2000-2001, 2001-02 and 2002-2003 during which period he has not received any amount as against the expenditure, if and when he receives the money in pursuance of the award which is already passed, if it is upheld by the High Court, the amount is chargeable to income tax as the income of that previous year in which he receives the said amount whether the business in respect of which the deduction has been made is in existence in that year or not - the interest of the revenue is fully protected - All the three authorities have not applied their mind to the factual aspects of the case and have not kept in mind the statutory provisions and thus committed a serious illegality in passing the orders thus, the order of the Tribunal is set aside Decided in favour of assessee.

Issues Involved:
1. Deduction of expenditure/loss incurred towards the abandoned project.
2. Disclosure of true profits in respect of the abandoned project.
3. Consistency in the system of accounting and eligibility to claim deduction of trading loss.
4. Enforceable right to receive damages once arbitration proceedings commence.

Issue-Wise Detailed Analysis:

1. Deduction of Expenditure/Loss Incurred Towards the Abandoned Project:
The assessee company was awarded a contract by the Madhya Pradesh Electricity Board (MPEB) for rehabilitation work at the Amarkantak Thermal Power Station. An advance of Rs. 9,29,20,000 was paid, and the assessee provided a bank guarantee. The contract was terminated by MPEB, and the bank guarantee was invoked. The assessee incurred an expenditure of Rs. 6,64,01,149 on the project, which included costs for raw materials, consumables, freight, and other charges. The assessee claimed this amount as an expenditure on an abandoned project under Section 37(1) of the Income Tax Act, 1961. The Assessing Authority disallowed the claim, arguing that the expenditure should be represented as work-in-progress since the assessee had not received any amount from MPEB nor shown any work-in-progress. The Tribunal upheld this view, stating that the expenditure cannot be allowed unless there is a corresponding credit in the form of contract receipt or work-in-progress.

2. Disclosure of True Profits in Respect of the Abandoned Project:
The assessee followed the mercantile method of accounting and showed the expenditure for the assessment years 1999-2000 and 2000-2001 as work-in-progress. However, for the year 2001-2002, the expenditure was written off as the cost of the abandoned project. The Tribunal held that the assessee had not disclosed true profits as it had not shown any receipts or work-in-progress but only debited the expenditure. The Tribunal emphasized that the true profits of the assessee could not be ascertained without disclosing receipts or work-in-progress from the contract.

3. Consistency in the System of Accounting and Eligibility to Claim Deduction of Trading Loss:
The Appellate Authority noted that the assessee did not follow a consistent method of accounting. For the previous years, the expenditure was shown as work-in-progress, but for the year in question, it was written off as an expenditure. The Tribunal confirmed that the assessee had not followed a consistent system of accounting, which resulted in a distorted disclosure of profit/income. The Tribunal also stated that the assessee should have carried forward the total amount incurred for the project as a claim until it resulted in a receipt.

4. Enforceable Right to Receive Damages Once Arbitration Proceedings Commence:
The Tribunal held that the assessee had an enforceable right to receive damages once the arbitration proceedings commenced, irrespective of the result. The assessee had succeeded in obtaining an arbitration award for substantial damages, but the award was under challenge before the High Court. The Tribunal emphasized that the amount spent should have been shown as work-in-progress, recoverable from MPEB based on the arbitration award.

Judgment:
The High Court found that the lower authorities and the Tribunal had not properly considered the factual aspects and statutory provisions. The Court noted that the assessee had shown the expenditure as work-in-progress for the years 1999-2000 and 2000-2001, but for the year 2001-2002, the expenditure was written off due to the termination of the contract. The Court held that the assessee was entitled to claim the expenditure as a set-off under Section 37(1) read with Section 28 of the Income Tax Act, 1961, as the contract was terminated, and no amounts were receivable under the contract during the relevant year. The Court also referred to Section 41(1)(a) of the Act, stating that if the assessee receives any amount in the future in respect of the expenditure, it would be chargeable to income tax in the year of receipt.

The High Court allowed the appeal, set aside the orders of the lower authorities, and directed the Assessing Authority to allow the expenditure as a set-off.

← Previous Next →