2019 (11) TMI 698 - AT - Income Tax

Reversal of profits declared in earlier years on account of estimated loss expected - valuation of work in progress (WIP) - percentage completion method basis - Addition stating that that an enterprise may choose to apply this guide note from an earlier date provided - HELD THAT - An examination of the working of total estimated loss on the project S.S. House as worked out by the assessee clearly indicates that it suffers from basic deficiencies viz. (i) total cost incurred till 31/03/2014 ₹ 91,07,85,390/ or ₹ 978,886,048/- is not a reliable one, as the assessee is sticking to two figures, without supporting computation, and (ii) total estimated loss of ₹ 3,95,51,736/- or ₹ 108,431,736/- is not a reliable one, as the assessee is sticking to two figures, without supporting computation, (iii) there is no prudent estimate of additional cost for completion of the project. The matching principle requires recording expenses in the same accounting period in which the revenues were earned as a result of the expenses. Expense recognition, similar to revenue recognition, has a balance sheet effect. In this view, expense recognition is simultaneous with a decrease in an asset or an increase in a liability. In such a scenario, reversal of profits declared in the earlier years on account of estimated loss expected of ₹ 6,81,13, 166/- in WIP for the impugned assessment year by the assessee upsets the applecart of mercantile system of accounting, the matching principles. Therefore, no reliance can be placed on the above workings of total estimated loss as on 31.03.2014 of project S.S. House arrived at by the assessee, which are nothing but bald statements. As the order passed by the Ld. CIT(A) is not based on proper appreciation of facts and law, we set it aside. Resultantly, the order passed by the AO is restored.

Summary

Issues Involved:
1. Deletion of addition made by the AO of ?6,81,13,165/-.
2. Application of the Revised Guidance Note on Real Estate Transactions.
3. Provision of reversal of profit as per the Income Tax Act, 1961.

Detailed Analysis:

1. Deletion of Addition Made by the AO of ?6,81,13,165/-
The AO noticed that the assessee, a real estate developer, had reduced ?6,81,13,165/- from its Work-in-Progress (WIP) account, claiming it as 'reversal of profits declared in the earlier years on account of estimated loss expected.' The AO disallowed this claim, stating that there is no provision to reverse profits already offered on a year-to-year basis and the assessee could not justify the criteria laid down in the Guidance Note. The CIT(A) deleted the addition, observing that the assessee had consistently followed the percentage of completion method and had correctly recognized the loss as per the Guidance Note.

2. Application of the Revised Guidance Note on Real Estate Transactions
The AO argued that the assessee could not apply the Revised Guidance Note retrospectively. The assessee contended that the Guidance Note allows for the recognition of future expected losses immediately. The CIT(A) supported the assessee's application of the Guidance Note, stating that it can be applied to projects commenced before April 1, 2012, provided it is applied consistently. The Tribunal, however, found that the assessee's workings of total estimated loss were not based on supporting computation and varied widely, thus lacking reliability.

3. Provision of Reversal of Profit as per the Income Tax Act, 1961
The Revenue argued that the Act does not provide for the reversal of profit. The assessee countered that the Guidance Note issued by ICAI, which it followed, allows for the reversal of profits in case of future expected losses. The Tribunal noted that the assessee's claim of reversing profits declared in earlier years was not tenable as it upset the principles of the mercantile system of accounting and the matching principle. The Tribunal emphasized that the reversal of profits should be supported by reliable calculations and evidence, which was not provided by the assessee.

Conclusion:
The Tribunal found that the assessee's workings of total estimated loss were unreliable and unsupported by evidence. Therefore, the order of the CIT(A) was set aside, and the AO's disallowance of the reversed profit of ?6,81,13,165/- was restored. The appeal was allowed in favor of the Revenue.