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TMI Blog1988 (3) TMI 153X X X X Extracts X X X X X X X X Extracts X X X X ..... there was no basis for adopting the same value in respect of the base stock of silverware and raw silver for all the time. He further held that there was no conclusive evidence to show that the base stock of silverware and raw silver referred to by the assessee remained in the closing stock of these years and were not disposed of. He further pointed out that during the previous year there was a change In the constitution of the firm necessitated by family disputes and that, therefore, ascertainment of the rights and liabilities of the outgoing partners could not be made and was not possible without arriving at the correct value of the base stocks at the relevant time. For this reason also he held that the value per kg. of the base stock adopted by the assessee in this year could not be accepted. He, therefore, revalued the silverwares and raw silver in base stock at the rates adopted by the assessee for valuing other stocks of silverwares and raw silver, which resulted in an addition of Rs. 7,51,629. 2. When the assessee took up the matter on appeal, the CIT (A) accepted the assessee's contentions and deleted this addition. He held that the assessee has been following this method ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the earlier years would not stand in the way of the department examining the correctness of this method In the year under appeal and arriving at an Independent conclusion as to whether by this method of valuation of closing stock the income, profits and gains of the business of the year under appeal were truly reflected by the assessee's method of accounting, and that if it did not reflect the true income, profits and gains of the year under appeal, it would be open to the ITO to make the necessary adjustments under the proviso to section 145(1) of the IT Act, 1961. The learned departmental representative pointed out that there was no dispute about the quantity of the base stock of silverwares and raw silver and that there was also no dispute that such base stock was always replenished from the market purchase from time to time so as to keep an imprest of base stock. The learned departmental representative pointed out that the price of raw silver had risen to Rs. 2,678 per kg. as on 31-3-1982 as against the rate of Rs. 834 per kg. as on 31-12-1973. He submitted that it was not a case of a constant, steady, and fixed price of raw material which did not fluctuate or increase in th ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... etirement of six of the partners, that there were no family disputes as assumed by the IAC (Asst.) and that, therefore, there was no question of valuation of the stocks including the base stock at the time of settlement of accounts. He, therefore, urged that the two decisions of the Madras High Court in G.R., Ramachari Co.'s case and A.L.A. Firm's case, which related to cases of dissolution of partnerships, would not be applicable to the present case. 7. The learned Chartered Accountant next submitted that the figures of base stock of raw silver and silverwares as set out in Annexure-A to the assessment order for 1983-84, which was relied on by the learned departmental representative, would clearly establish that the quantity of the base stock of raw silver and silverwares were kept at the same figure, viz., 267.537 kgs. for base stock of silverware and 55.088 kgs. for base stock of raw silver. He further Pointed out that there was also base stock of old silver about the valuation of which there was no dispute between the parties. Shri Jagadisan, therefore, submitted that it has been established that the assessee was holding on to these base stock of silverwares and raw silver ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... of base stock of raw silver and silverware, would not alter or affect the cost or the value of the closing stock of such base stock. He, therefore, submitted that the decisions relied on by the learned departmental representative would not apply to the facts of the present case as there was nothing wrong or patently false in the method of accounting regularly employed and followed by the assessee and accepted by the department in all these years and that, therefore, there was no justification for the addition made by the IAC (Asst.) on account of undervaluation of closing stock only with reference to the base stock in the year under appeal. He, therefore, submitted that the CIT (A) was right in deleting this addition as otherwise the addition would. result in a distortion of assessment of profits in one year. 10. In the alternative Shri Jagadisan submitted that if the base stock of silverware and raw silver were to be valued at the same rates as other silverware and raw silver in closing stock, then there should be a revaluation of the said base Stock which was also included in the opening stock on the same basis and if such an adjustment by re-valuation of the opening stock was ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... egard to the rise in the price of silver over the years. 15. The main plea of the assessee is that as this base stock of raw silver and silverware are valued at the same rate both for opening and closing stock as done in the assessment year 1974-75 and as there is also no variation in the quantity of these stocks held in base stock, there would be no distortion in the profits and gains of business in the year under appeal and that, therefore, the department is not entitled to reject the same or disturb the same as this regular system of accounting followed by the assessee has been accepted by them right from the assessment year 1974-75 onwards. The department contends to the contrary. 16. The first authority that is cited by the learned Chartered Accountant for the assessee is from the "Accounting Standard Valuation of Inventories", published by the Institute of Chartered Accountants of India in 1981. At page 7 of the book the base stock method is explained in paragraph 10 in the following words : " The base stock formula proceeds on the assumption that a minimum quantity of inventory (base stock) must be held at all time in order to carry on business. Inventories up to this ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... year of charge. On appeal by the company, the Court of Appeal held on an analysis of the results that the finding at which the Commissioners must be taken to have arrived to the effect that the base stock method was appropriate for assessment to income, was wrong in law since under that method the raw cotton was not treated as a stock to be valued for Income-tax purposes at the beginning and end of the relevant accounting year at either cost or market price, whichever was the lower and the profits from the trade for the year of assessment were thus not correctly shown. Their Lordships, therefore, dismissed the company's appeal. At page 395 of the reports, the following general propositions were summarised by Lord Justice Singleton : " I would state these general propositions : (1) One cannot arrive at the profits of the year without taking into account the value of the stock one has at the beginning of, and at the end of, the accounting year. (2) The figures for stock are just as important as any other figures. Values may have to be estimated when market price Is taken, but any departure from accuracy is reflected in the trading account. (3) Stock should be taken either at cost p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in a case In which the so-called 'base stock' method was under discussion, Brandeis, J. used words which are apt to describe the Lufo method also. 'In years of rising prices, the 'base stock' method causes an understatement of income ; for it disregards the gains actually realised through liquidation of low price stock on a high price market.... This method may, like many reserves which businessmen set up on their books for their own purposes serve to equalise the results of operations during a series of years. . . .' (see Lucas v. Kansas City Structural Steel Co.). In this passage the distinction is nicely made between what is permitted for tax purposes and what prudent businessmen may think fit to do. So also, In the United Kingdom an attempt has been vainly made to uphold the base stock method for Income-tax purposes. In the recent case of Patric v. Broadstone Mills Ltd., Singleton, L.J. in words that are equally Apt if applied to Lifo method, declined to accept the base stock method as conformable to Income-tax law, though It might be approved by accountancy practice." This decision shows that ; the base stock method of valuation, though a recognised system of accounting, h ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... suggest that it is improper or patently false. 21. This decision of the Madras High Court was followed in the case of Asher Textiles Ltd. by the same High Court. In this case it was held that when valuing the closing stock of a trader according to the market value or cost price, whichever is lower, at the option of the trader, the cost price should be taken as meaning "original cost price" and not a notional cost price. Their Lordships also held that the market value means the market value at the commencement of the year when the opening stock has to be valued and at the close of the year when the closing stock has to be valued and not any intermediate valuation. In our view, these two decisions of the Madras High Court completely answer the contentions urged on behalf of the assessee and support the stand of the Revenue. 22. In A. Krishnaswamy Mudaliar's case, the Supreme Court considered the question of valuation of closing stock of a cinematography film, which was a wasting asset under the cash system of accounting and held that the ITO was entitled to apply the proviso to section 13 of the Indian Income-tax Act, 1922 and add the value of the unexploited rights of the film a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... followed by an assessee. 23. In our view, these three decisions--one of the Supreme Court and two of the Madras High Court--taken along with the three English decisions referred to earlier, fully support the contentions of the Revenue for rejecting the assessee's method of accounting as the valuation of stock adopted by the assessee on the base stock system in respect of base stock of raw silver and silverware did not reflect the true income, profits and gains of business of the year under appeal. There is no dispute about the quantity of the base stocks of raw silver and silverware. The dispute is only in regard to the valuation of these stocks. The rates adopted for valuation of these stocks are admittedly not the cost of these stocks but some notional value because on the assessee's statement that It had replenished its base stock from time to time by market purchases, the rates cannot be the same as that which prevailed during the accounting year relevant for the assessment year 1974-75. We are, therefore, unable to agree with Mr. Jagadisan, the learned Chartered Accountant, that the rates adopted by the assessee are not notional for purposes of valuation of these base stocks ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... luation of closing stock is at cost or market price whichever is lower and not some arbitrary notional value which has no relation to the true cost of the goods lying in closing stock, whether they be base stock or any other stock. Therefore, we are unable to accept this submission of the learned counsel for the assessee. 25. The decision in British Paints India Ltd.'s case relied on by the assessee's counsel, far from supporting the assessee's case, is in favour of the Revenue. That was a case of valuation of paints by a manufacturer of paints having short shelf life. In that case, the assessee had asserted that the paints manufactured by it had very short shelf life and, therefore, had adopted the method of valuing these finished products and the goods in process at the cost of raw materials only which practice had been accepted by the department in all the earlier years. These facts pleaded by the assessee were not denied by the Revenue, viz., that the stocks which had remained unsold for a period, used to become unsaleable and had not been sold by the assessee because of its reputation in the market. It was not established that the method followed by the assessee was with any ..... 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