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TMI Blog2008 (1) TMI 526X X X X Extracts X X X X X X X X Extracts X X X X ..... mathematical basis there was no question of rejecting the method followed by the assessee over years and accepted by the Assessing Officer. (4) On the facts and circumstances of the case, the addition made has to be rejected. (II) Average value of diamond per carat wrongly taken.- (1) Without prejudice to the above the learned CIT(A) erred in accepting the average value by misconstruing the sales value as affecting the average cost. (2) On the facts and circumstances of the case, the addition on this ground is required to be deleted. (III) Miscellaneous.- (1) The learned CIT(A) erred in confirming charge of interest under section 234B of the Act. (2) The learned CIT(A) erred in confirming charge of interest under section 234C of the Act. 2. The learned AR did not press Ground No. (II) at the time of hearing and, therefore, the same is dismissed, as not pressed. 3. As regards Ground No. (I) the facts of the case as noted by the Assessing Officer are as under: "On perusal of basis and working of valuation of closing stock of polished diamonds, the assessee has estimated the average price per carat of polished diamond at Rs. 5459.9. Assessee claimed that he had taken the bas ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... r 10088.38 7,13,27,749 -------- ------------ Polished closing stock as on 31-3-2003 13540.67 7,39,32,058 -------- ------------ On verification of basis and working of closing stock of polished diamonds furnished by you, following inconsistencies found:- (1) You have reduced quantity and sale value of export made during the year from the total quantity and total value of polished diamonds available during the year. (2) There appears no basis for reducing total value of export from total value of the stock available during the year. Rather it represents a distorted picture of the valuation closing stock of polished diamond. (3) You have furnished no basis for valuing the closing stock of polished diamond at Rs. 5,459.9 per carat which is lower than the average price of polished diamond during the year. (4) As per note F of schedule-M the method adopted for valuation of closing stock of polished diamonds is net realizable value. If the same is to be believed, then there must exist quality-wise details of closing stock of polished diamond, (5) No quality-wise and lot-wise details of closing stock of polished diamond is furnished by you. (6) Net realizable value of clo ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... nterchange based on the requirement, market conditions. Therefore, it may not be appropriate to adopt an approach of averaging out cost. Closing stock has been worked out by actual valuation by the assorters and the valuation has been kept accordingly. Further, 10,088.39 carats valued at Rs. 7,13,27,749 has generated very good profits because comparatively superior quality of diamonds were exported. Therefore, some difference is bound to remain and, therefore, no addition on this ground may be made." The reply to the show-cause notice was considered by the Assessing Officer. The Assessing Officer did not accept the submission of the assessee as the same was not backed by any material evidence to support valuation of closing stock of polished diamonds at net realizable value, which is less than the actual average costs of the closing stock of polished diamonds. The Assessing Officer further observed that if the basis of the valuation is to be accepted, then the assessee must have produced quality-wise inventory of stock before the undersigned. In absence of any evidence on record, the undersigned has no option than to adopt the basis of valuation which is rational and scientific. T ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... average value of closing stock should be taken at Rs. 5,766.44 per carat. The Assessing Officer in his order has correctly adopted the value of export on the basis of which he has worked out the average price of polished diamond at Rs. 6,147.50 per carat. Therefore, the suppression of closing stock worked out by the Assessing Officer is correct and addition on this account is hereby confirmed." 5. The learned AR before us contended that the assessee has valued the closing stock on the basis of estimated net realizable value. It cannot be valued at average cost. Each of the diamond has a separate quality. No diamond can be of the same quality. Accounting Standard-2 (AS-2) Item 14 recognizes the cost of inventories of items that are not ordinarily interchangeable and goods or services produced and segregated for specific projects should be assigned by specific identification of their individual costs. The assessee has also specifically identified individual costs. Referring to page 31 of the paper book which consists of the submissions made before the CIT(A), it was contended that the Assessing Officer has worked out the average cost of the opening stock purchase and manufacturing ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ously. Therefore, year end assortments made considering such grading attributes and market forces constitute the valuation of assortments. If two identical diamonds are placed side by side and one is less brilliant and fiery than the other, the fault lies in the cutting. Such a stone cannot demand as high price as a well-cut diamond. Diamond's colour is one of the most important factors in determining its value. The nearest a white diamond is to being absolutely colourless, the more rare and valuable it is. The graduations in colour are so subtle that intricate internal grading scales have been devised. Diamonds are graded into categories defines by letters. The colour ranges from exceptional whites (categories D, E and F) to tinted colours (categories M to Z). When nitrogen combines with the diamond crystals during the formation stage it causes a surplus electron in the bonding. This surplus electron absorbs blue light, thus giving off a yellow colour. Yellow diamonds also occur when aggregates of three nitrogen combine and cause surplus bond. A vacancy in the regular lattice of atoms within a diamond results in a green colouring. Carbon atoms being knocked out of their regular po ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... tails furnished to him. In normal commodities qualities and sub-qualities can get identified in groups because most of them are standardized. These criteria would not apply to diamonds because both rough and polished diamonds have their own inherent individualistic characteristics in each case. Diamonds are, therefore, assorted and graded on the basis of various attributes. Each attribute has further sub-grades and price of each diamond would depend upon the impact of various factors as also combination of various factors. Even these prices are not constant. Because of the market conditions they also vary and because of the constant change in weightage of each attribute. That is why it is mentioned that no two diamonds are alike unlike other commodities and, therefore, the question of quality-wise records of diamonds is impossible. Thus, it was submitted that the valuation of diamonds cannot be worked out on average costs basis. Thus it was pointed out that the diamond has been valued as per the estimate of net realizable value and by assigning individual cost in accordance with AS-2. He further invited our attention towards letter dated 26-7-2007 addressed to the Tribunal and con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d the assessee will never value the closing stock at a lower figure. When the Bench pointed out to the learned AR that in Annexure B to Form 3CB the auditors have qualified the audit report stating that the method of valuation used is to that extent the departure from that prescribed under AS-2 issued by the ICAI and it has been clearly mentioned that the finished goods are valued on estimated net realizable value as taken, valued and certified by the partners. The learned AR pointed out that the auditors could not understand AS-2 para 14 and as per this para the cost of the inventories of the items that are not ordinarily interchangeable could be valued by assigning by specific identification of their individual cost. The learned AR also pointed out by drawing our attention towards three details in respect of export sales for the period 1-4-2003 to 31-9-2003, 1-4-2003 to 31-12-2003 and 1-4-2003 to 31-3-2004 that the average sale price per carat was during these periods were Rs. 6,137, Rs. 6,197 and Rs. 6,201 per carat. 6. The learned DR contended that the assessee has valued the closing stock at estimated net realizable value which is no basis in the eyes of law. Even no evidence ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... partners. The Assessing Officer has rightly rejected the method of valuation of stock and valued it on the basis of the average cost in accordance with the law settled by the Hon'ble Supreme Court in the case of CIT v. British Paints India Ltd. [1991] 188 ITR 44. 7. We have carefully considered the rival submissions along with the order of the tax authorities. This is an undisputed fact that the auditor who carried out the audit under section 44AB has qualified the audit report in respect of valuation of closing stock. The audit report has been issued subject to the following note: "In view of the nature of variation in the values of individual diamonds and the differential in their processing costs, it is not practicable to compute the cost of polished diamonds using either FIFO or weighted average cost. In view of the numerous grades, it is not practicable to use specific costs. The method of valuation used is to that extent a departure from that prescribed AS-2 issued by the ICAI. Finished goods are valued at estimated net realizable value. Closing Stock is taken, valued and certified by Partner. Though it is merely technical matter, we had relied upon it." The learned AR bef ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Substance over form: The accounting treatment and presentation in financial statements of transactions and events should be governed by their substance and not merely by the legal form; (iii) Materiality: Financial statements should disclose all material items, the knowledge of which might influence the decisions of the user of the financial statements." From the above, it is apparent that the accounting standard No. 1 recognize "Prudence" to be one of the major consideration for applying accounting policies. It requires that provision should be made for all known liabilities and losses even though amount cannot be determined with certainty and represents only a best estimate in the light of the available information. In other way, it recognises that anticipate all the losses but not provide for the profit until and unless it is not realised. Valuing the closing stock at cost or market value whichever is lower is a well established method of accounting. This method is based on the principle of prudency. Hon'ble Supreme Court in the case of Chainrup Sampatram v. CIT [1953] 24 ITR 481 accepted this principle. We noted from this decision that the Hon'ble Court explained the reasons ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... inary principles of commercial accounting, unless of course, such principles have been superseded or modified by legislative enactments, unrealised profits in the shape of appreciated value of goods remaining unsold at the end of an accounting year and carried over to the following year's account in a business that is continuing are not brought into the charge as a matter of practice, though, as already stated, loss due to a fall in price below cost is allowed even if such loss has not been actually realised. As truly observed by one of the learned Judges in Whimster & Co. v. Commissioners of Inland Revenue [1926] 12 TC 813, 827. Under this law (Revenue law) the profits are the profits realised in the course of the year. What seems an exception is recognised where a trader purchased and still holds goods or stocks which have fallen in value. No loss has been realised. Loss may not occur. Nevertheless, at the close of the year he is permitted to treat these goods or stocks as of their market value'." No doubt, in view of the prudence and appropriate method of valuation is cost or market value whichever is less. No doubt where there is a fall in the value of the goods and the goods ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1 per cent if the average cost method or the net realizable value is compared. The learned AR when asked for the evidence to support the net realizable value, expressed his inability and pointed out that the net realizable value has been worked out on the basis of valuation as examined by the partner. We cannot believe that the assessee was not keeping the accounts of each piece of diamond. Cut and Polished diamonds are sorted in different lots, sizes, qualities and these details are bound to be maintained according to the 4Cs (cut, carat, clarity and colour) by a person who is dealing in diamond. Whenever rough diamonds are issued, expected yield is noted on the packets and these details are verified by the assessee or its representative when cut and polished diamonds are received from the labourers. In our opinion, the assessee could not run its business without getting the accounts of each and every piece of diamond. The Assessing Officer in this case has valued the stock at average cost which in our opinion will be less than the realizable value as the assessee has shown the gross profit at the rate of 13.81 per cent and valuing the stock at average cost, when it is less than r ..... X X X X Extracts X X X X X X X X Extracts X X X X
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