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TMI Blog2012 (12) TMI 134X X X X Extracts X X X X X X X X Extracts X X X X ..... ailable for reasonable distribution among the subscribers at each instalment of the chit. Given the rights of the subscriber, when Section 21 provides for 5% chit amount to be given to the foreman, the same is stated therein as commission, remuneration or for meeting the expenses of running the chits. Thus, going by these provisions, when dividend to the foreman has to come only from out of the discount, we do not find any justifiable ground to agree with the Revenue that the assessee cannot claim completed contract method for income recognition. As far as the expenditure of the company is concerned, it is seen that the same related both to the administrative costs as well as to the advertisement costs. Taking note of the business of the assessee, we agree with the assessee's contention that the expenses cannot be viewed as relatable to the particular series alone, but as relating to the running of the business. Thus it has to be revenue expenditure to be considered in the year in which the same is incurred. Assessee is justified in following the mercantile system of accounting and adopting the completed contract method, to arrive at the real income. - Decided in favour o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e without meeting the cost of services to be provided till the end of the chit period and the cost of bad debts? 3. Whether in law, the dividends received by the appellant as a chit subscriber is exempt from taxation on grounds of mutuality between all the chit subscribers including the appellant ? 4. Whether in law, the proper course open to the ITAT was to refer the matter to a larger Bench especially when the case law cited in the grounds of appeal is in favour of appellant?" 2. The facts in all these cases are one and the same. The assessee is engaged in the business of running chits. Till 31.12.1985, the assessee was following mercantile system of accounting as regards the commission earned by it in its capacity as foreman, conducting the chit activity. However, there after wards, while following mercantile system of accounting, the assessee changed the system of accounting to completion contract method of accounting, that the commission earned by foreman was accounted for on completion of each series of chits. The Revenue did not accept the change on the ground that on the date the auction was conducted, the right to receive the commission in the capacity as Foreman ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... bad debts cannot be termed as a speciality of the business. Thus, remuneration or commission of the foreman accrues at the end of chit draw and it becomes due to him and is payable to him from out of the monthly subscriptions. The accrual of income as commission together with the right to receive it, is related to each draw and gets completed on that basis. In the circumstances, the Tribunal held that the foreman's commission has to be related to and determined on the basis of every auction and not to be postponed to the completion period. Thus, the assessee's appeal was dismissed. Aggrieved by this, the present appeals are filed by the assessee. 5. Learned counsel appearing for the assessee, while taking us through the decision of the Supreme Court in the case of M/s.Shriram Chits Investment (P) Ltd., Vs. Union of India and others reported in AIR 1993 SC 2063, pointed out to the various obligations, responsibilities and liability to be discharged by the foreman and submitted that each group or each series of chit is one transaction and the foreman has statutory responsibilities and risks relating to the conduct of the chit of the series. Apart from the conduct of the chits, ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... dicator as to the income that the assessee is likely to receive in the future months. Thus, there could be no question of estimating profit in the line of business before the end of the series; in the circumstances, he submits that the Tribunal committed serious error in rejecting the assessee's case. As regards the claim for deduction on expenditure, he pointed out that the expenditure incurred by the assessee in running the chit business cannot be apportioned to any particular chit group during any particular period and considering the nature of business carried on by the assessee, the advertisement expenditure to keep the business growing are very much part of the business expenditure, which has to be allowed as a deduction in the year in which it was incurred. 7. Referring to the amendment to Section 145 of the Income Tax Act, 1961 with effect from 01.04.1997 in the Finance Act, 1995, learned counsel pointed out that the accrual method of accounting continued as a system of accounting too. Thus, even though the assessee followed the mercantile system of accounting, yet, business necessities call for following the completed contract method and hence, due regard has to be giv ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ovisions in Accounting Standard relating to construction contracts AS-7 and AS-11, learned Standing counsel submits that even though strictly speaking, this may not have a binding character in deciding the question, yet, for the purpose of understanding the concept of completed contract method, guidance should be taken from the accounting standards as well as research reports and financial statements prepared by the Institute of Chartered Accountants of India. Referring to the old provisions contained in Accounting Standard AS-7 relating to construction contracts - Disclosure of Accounting Policies and Accounting Standard AS-9 - Revenue Recognition, learned Standing counsel submitted that even if chit transaction is to be taken as one single transaction, revenue recognition requires revenue as measurable at the time of running of service. In other words, going by the provisions of the Chit Funds Act, a reasonably determinable nature of receipts would discount the claim of the assessee to prefer the completed contract method as regards its receipts. He pointed out that the services of the assessee are provided every month; hence, certain determinable results, particularly with refer ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... sults in revenue escapement. He further pointed out that even though the assessee's business is chit business, yet, the salary paid and the overhead charges are actually involved in running the particular chit series claimed as deduction in the year of incurring expenditure, thus, makes the claim of the assessee totally unscientific; hence, the system of accounting should be rejected. In this context, he placed reliance on the decision of Supreme Court in the case of Commissioner of Income Tax Vs. Bilahari Investment P.Ltd., reported in (2008) 299 ITR 1 (SC) and the decision of this Court in the case of G.Padmanabha Chettiar and Sons Vs. Commissioner of Income Tax reported in (1990) 182 ITR 1. 11. Learned Standing Counsel pointed out that what the assessee had followed is cash system for expenditure and accrual system for income, which, in fact, clearly distorts the income chargeable to tax. Thus, when the assessee has certainty of income, one by way of dividend as per Sections 28, 29 and 31 of the Chit Funds Act and the commission arising out of the conduct of the business, one may note that the ultimate income of the assessee has to be worked out only by the matching of inc ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ber of chit series and transactions conducted by the assessee itself being the business of the assessee, necessarily, the assessee has overhead expenses, expenses relating to business advertisement, for the purpose of running its business. Even though a particular advertisement refers to the start of a new chit series, yet, the expenditure could not be restricted to the particular chit. On the other hand, the expenses incurred are for running of the business; thus, by applying the matching principle, the expenditure incurred cannot be postponed to the end of the chit period. Hence, given the nature of the chit transaction with each series running through the number of months, the income arising out of the particular series of chit transaction could be identified only at the end of the transaction, which may consist of a series of activities and at any intermediate stage of the chit transaction, there is no possibility of identifying the income, but has to be postponed to the last performance. In the circumstances, the decision of the Apex Court in the case of CIT Vs. Bilahari Investment P. Ltd (cited supra) supports the case of the assessee that the income of the assessee on the di ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... duties of the prized subscribers. Section 31 states that the prized subscriber has to furnish security for the due payment of future subscription in the event of the subscriber not offering to deduct the future subscriptions from out of the prize amount. 16. A reading of the rights of the subscribers and responsibilities of the foreman points out to the duty cast on the foreman to conduct the chit to a duration assured and in the event of any default of payment of any one of the instalments, the foreman has the responsibility to make good that loss. In the end of the chit period, the subscriber is assured of the amount for which he participated in the scheme. Thus, in the background of these provisions, read in the context of the definition of "discount" and "dividend", it is evident that on every auction, the discount that is arrived at is taken for the purpose of meeting the expenses of running the chit. The expenses normally include all expenses apart from the commission payable to the foreman and the dividend that are payable to the subscriber, which are normally carried to the end of the chit period. 17. Given the fact that every chit is an independent transaction ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ts. The completed service contract method is relevant to these patterns of performance and accordingly revenue is recognised when the sole or final act takes place and the service becomes chargeable." 19. As is evident from the reading of both these methods, while in proportionate completion method, revenue is recognised proportionately by referring to the performance of each act, the possibility of revenue recognition in the proportionate completion method being a fairly determinable one, in the completed services contract method, the difficulty in determining the revenue arises by reason of the significant nature of the services yet to be performed in relation to the transaction that normally, the revenue recognition is taken to the end of the performance. Thus, even while advocating the proportionate completion method, where there is every possibility of identifying the revenue vis-a-vis the extent of services completed, there is a line of caution stated that when there is a better method available to assess the better performance, the same may be adopted to the straight line basis for ascertaining the income. However, when the services yet to be performed are so significant ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... t the discount was not an amount paid in advance like rent or interest, but was a single amount giving rise to a single liability not only legally enforceable but also actually enforced by the foreman by deducting it from the chit amount and by paying only the balance to the prized subscriber as the prized amount; once the prized subscriber offered the highest bid, his liability for the discount became crystallized, adjusted and totally discharged and the chit discount which was payable and adjusted against the bid amount leaving only the prized amount to be disbursed to the prized subscriber, did not leave any scope for showing a part of the discount as an advance referable to the remaining period of the respective chit and it would be a misconception to call the discount amount as a time based liability and it would be legally untenable to dissect it on time basis. The assessees also contended that in the mercantile system of accounting, the liabilities were incurred irrespective of the date of payment, whereas, in the instant case, by virtue of the provisions of the Chit Funds Act and the agreement entered into between the foreman and the assessees, the liability by way of disco ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... te. Under the said method, costs are accumulated during the course of the contract. The profit and loss is established in the last accounting period and transferred to the profit and loss account. The said method determines results only when the contract is completed. This method leads to objective assessments of the results of the contract. 17. On the other hand, the percentage of completion method tries to attain periodic recognition of income in order to reflect current performance. The amount of revenue recognised under this method is determined by reference to the stage of completion of the contract. The stage of completion can be looked at under this method by taking into consideration the proportion that costs incurred to date bears to the estimated total costs of contract. " 24. A reading of the judgment thus points out that the principal difference between these two methods is that in the proportionate completion method, there is possibility of a periodic recognition of income with reference to the stage of performance of the transaction; that the proportionate costs and income to the possible cost of the contract enables one to identify the income with reference to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... gh the series and it is not aborted in the midst of the series either on account of a default committed by the prized subscriber or on account of the non-prized subscriber. As already seen, Section 21 speaks about the rights of the foreman. Section 21(1)(b) of the Act speaks about the entitlement to receive commission, remuneration or for meeting the expenditure of running the chit at the rate not more than 5%. Thus, at a given point of time, a foreman cannot, with any certainty, assert that his commission be paid irrespective of the expenses that he may have to incur for the conduct of the transaction. As held in the decision in the case of M/s. Shriram Chits Investment (P.)Ltd Vs. Union of India reported in AIR 1993 SC 2063, the Chit Funds Act itself is one of the socio-economic legislations which had been enacted primarily and predominantly to safeguard the interests of the chit subscribers who are gullible and unwary public and who have been subjected to exploitation by chit foreman. The Act is intended to regulate and to bring in financial discipline in the chit business, as the foremen deal in and dabble with the funds of the subscribing public. 28. As rightly pointed o ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... no hesitation in setting aside the order of the Tribunal. 30. As far as the expenditure of the company is concerned, it is seen that the same related both to the administrative costs as well as to the advertisement costs. Taking note of the business of the assessee, we agree with the assessee's contention that the expenses cannot be viewed as relatable to the particular series alone, but as relating to the running of the business. Thus it has to be revenue expenditure to be considered in the year in which the same is incurred. The fact that the advertisement referred to the beginning of a new series, per se, does not mean that it is not relatable to the conduct of the business of the assessee in general. The advertisement is more in the nature of information as to the business of the assessee and for its promotion. Hence, the contention of the Revenue based on the observation in paragraph 16 in the case of CIT Vs. Bilahari Investment P.Ltd., (cited supra) does not, in any manner, find favour with us. 31. It may also be pointed out that even though the Revenue took the plea that the change in the system of accounting is not a bona fide one, it is only a plea taken without mat ..... X X X X Extracts X X X X X X X X Extracts X X X X
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