Assessee can follow different systemsof accounting in respect of different sources of income

It is well established that the choice of method of accounting is that of the assessee as has been laid down by the apex Court in CIT vs. McMillan & Co. (1958) 33 ITR 182 (SC) and reiterated in CIT vs. Chunilal V. Mehta & Sons (P) Ltd. 1973 CTR (SC) 470 : (1971) 82 ITR 54 (SC). In CIT vs. E.A.E.T. Sundararaj (1975) 99 ITR 226 (Mad), it was pointed out that the assessee may employ one method of accounting for one part of his business or one class of customers and different for the other part depending upon the exigencies of business. If such system is regularly followed it should be accepted. No doubt, s. 145 after amendment by the Finance Act, 1995 w.e.f. asst. yr. 1997-98 requires that the assessee should follow either cash or mercantile basis ruling out by implication hybrid system of accounting. But this provision does not nullify the rationale of the decision, where the assessee follows either cash system or accrual system for different parts of the business consistently. The view that there can be different systems of accounting for different sources of income has been endorsed by Allahabad High Court in J.K. Bankers vs. CIT (1974) 94 ITR 107 (All). In this case the issue was with reference to the adoption of different systems for business and other sources.

Here is a complete case wherein it is held that Assessee can follow different systems of accounting in respect of different sources of income

J.K. BANKERS vs. COMMISSIONER OF INCOME TAX

HIGH COURT OF ALLAHABAD

R.L. Gulati & H.N. Seth, JJ.

IT Ref. No. 302 of 1970

24th April, 1972

(1972) 40 CCH 0142 AllHC

(1974) 94 ITR 0107

Legislation Referred to

Sections 254(1), 256(1)

Case pertains to

Asst. Year 1940-41

Decision in favour of:

Assessee Partly, Revenue Partly

Accounts Method of accounting Assessee following different systems of accounting in respect of different sources of income Justified It is open to the assessee to follow one system of accounting in respect of one source and another system in respect of other source Option of assessee is absolute and it cannot be varied at the instance of the Department

Held :

Section 13 gives an option to the assessee to follow whatever method of accounting it likes in respect of income assessable under ss. 10 and 12 of the Act. The income from lease money falls to be assessed under s. 12 as income from other sources while the income earned by the assessee by way of interest in its money-lending business would be income from business assessable under s. 10. It was open to the assessee to follow one system of accounting in respect of one source and another system in respect of the other source. The assessee followed the mercantile system in respect of its income from business. But that does not mean that the assessee could be compelled to adopt the same system in respect of the income falling under s. 12. The option to the assessee is absolute and it cannot be varied at the instance of the Department. It is legitimate to expect that an assessee would exercise the option under s. 13 for his own benefit.

Conclusion :

Option of assessee to follow different methods of accounting in respect of different sources of income is final and cannot be varied at the instance of Department.

Appeal(Tribunal) Powers of Tribunal The Tribunal, in the absence of a cross-appeal or a cross-objection by the Department, cannot enhance assessment on an appeal by assessee A sum of Rs. 30,000 disallowed by ITO No cross  appeal or cross objection by Department contending disallowance should be more Tribunal directed ITO to work out disallowance according to formula (by which disallowance came to Rs. 36,000) and amend assessment order accordingly Not justified It is not open to Tribunal to give a finding adverse to assessee which does not arise from any question raised in appeal, nor can it pass an order which makes appellant’s position worse than it was under the order appealed against

Held :

Under s. 33(4) of the Indian IT Act, 1922, the powers of the Tribunal in disposing of an appeal are stated in very wide terms. It can “pass such orders thereon as it thinks fit”. However, the word “thereon” restricts the jurisdiction of the Tribunal to the subject-matter of appeal and the subject-matter of appeal is stated in the original grounds of appeal and such additional grounds as may be raised by leave of the Tribunal. It is not open to the Tribunal to adjudicate or give a finding on a question which is not in dispute and which does not form the subject-matter of appeal. Unlike an AAC, who has been specifically authorised under s. 31 to enhance an assessment, the Tribunal, in the absence of a cross-appeal or a cross-objection by the Department, cannot enhance an assessment on an appeal by an assessee. Similarly, it is not open to the Tribunal to give a finding adverse to the assessee, which does not arise from any question raised in the appeal nor is it open to it to raise any ground which would work adversely to the appellant and pass an order which makes his position worse than it was under the order appealed against.

In the instant case, the subject-matter of appeal was the sum of Rs. 30,000 which had been disallowed by the ITO and the AAC. The assessee was aggrieved and filed a second appeal before the Tribunal. There was no cross-objection or cross-appeal by the Department that the disallowance should have been more than Rs. 30,000. In these circumstances the Tribunal, if it found that the disallowance should have been more than Rs. 30,000, could only confirm the findings of the income-tax authorities and dismiss the assessee’s appeal on that ground but it had no jurisdiction to pass an order either directly or indirectly to place the assessee in a worse position by disallowing a sum of Rs. 36,000 is place of Rs. 30,000.—V. Ramaswamy Iyengar vs. CIT (1960) 40 ITR 377 (Mad) : TC8R.1148#1, Puranmal Radhakishan & Co. vs. CIT(1957) 31 ITR 294 (Bom) : TC8R.598 and Pathikonda Balasubba Setty vs. CIT (1967) 65 ITR 252 (Mys) : TC8R.440 relied on.

Conclusion :

The Tribunal, in the absence of a cross-appeal or a cross-objection by the Department, cannot enhance assessment on an appeal by assessee.

Counsel appeared:

V.B. Upadhya, for the Assessee : Dr. R.R. Misra, for the Revenue

GULATI, J.

This is a reference under s. 66(2) of the Indian IT Act, 1922. It is a consolidated reference relating to asst. yrs. 1940-41 to 1946-47. The question No. 1 relates to the asst. yr. 1940-41 alone. The question No. 2 relates to all the assessment years while question No. 3 relates to asst. yrs. 1940-41 to 1944-45. The questions are:

“1. Whether, in the circumstances of the case, the Tribunal was competent to direct the ITO to calculate the amount of interest again and to pass a fresh assessment order so as to disallow out of interest a sum in excess of Rs. 30,000, when the assessee appealed against the disallowance of Rs. 30,000 ?

2. Whether, in the circumstances of the case, the Tribunal was right in including in the taxable income of the assessee the sum of Rs. 15,000, due as rent from M/s J.N. Cocolas & Co. Ltd. when the assessee’s case was that in respect of that source of income it followed the cash system of accounting and not the mercantile system which it followed in respect of its business income ?
3. Whether, in the circumstances of the case, the Tribunal was right in including in the assessable income of the assessee a sum of Rs. 2,181, as the assessee’s share of income in another firm of the name and style of Gopal & Co. ?”
4. The facts giving rise to question No. 1 are these. While examining the account books of the assessee relating to asst. yr. 1940-41, the ITO found that out of its borrowed capital the assessee-firm had advanced a sum of about Rs. 9 lakhs to its partners but did not charge any interest on such advances. Out of the total interest claimed by the assessee as a deduction, the ITO disallowed a sum of Rs. 30,000 representing the interest on the advances made to the partners on the ground that the capital advanced to the partners had not been utilised for business purpose. The assessee’s appeal on this point was rejected by the AAC. The assessee then appealed to the Tribunal. The Tribunal found that out of the total borrowings amounting to Rs. 83,39,903 a sum of Rs. 11,25,572 was advanced to the partners and, as such, the assessee was entitled to a deduction of 72.5/83.3 of the total interest paid and the balance was to be disallowed. The Tribunal accordingly directed the ITO to work out the amount of disallowable interest according to this formula and to amend the assessment order accordingly. The disallowance in this manner works out to Rs. 36,000 as against Rs. 30,000 disallowed by the ITO. The question No. 1 is as to whether the Tribunal was competent to issue such a direction to the ITO.
5. Under s. 33(4) of the Indian IT Act, 1922, the powers of the Tribunal in disposing of an appeal are stated in very wide terms. It can “pass such orders thereon as it thinks fit”. However, the word “thereon” restricts the jurisdiction of the Tribunal to the subject-matter of appeal and the subject- matter of appeal is stated in the original grounds of appeal and such additional grounds as may be raised by leave of the Tribunal. It is not open to the Tribunal to adjudicate or give a finding on a question which is not in dispute and which does not form the subject-matter of appeal. Unlike an AAC, who has been specifically authorised under s. 31 to enhance an assessment, the Tribunal, in the absence of a cross-appeal or a cross-objection by the Department, cannot enhance an assessment on an appeal by an assessee. Similarly, it is not open to the Tribunal to give a finding adverse to the assessee, which does not arise from any question raised in the appeal nor is it open to it to raise any ground which would work adversely to the appellant and pass an order which makes his position worse than it was under the order appealed against.
6. The Madras High Court in V. Ramaswamy Iyengar vs. CIT (1960) 40 ITR 377 (Mad) : TC8R.1148 has held that in such cases the Tribunal cannot exercise the power of remand with a view to enhancing the assessment. In Puranmal Radhakishan & Co. vs. CIT (1957) 31 ITR 294 (Bom) : TC8R.598 the Bombay High Court has taken a similar view. In that case the assessee had claimed a loss on the sale of certain shares on the basis of the difference between cost price and sale price of the shares. The ITO and the AAC held that the assessee was entitled to claim loss on the basis of the difference between the market price on the date of purchase and the sale price. The market price was determined at Rs. 715 per share. The Tribunal on appeal by the assessee gave a finding that the market price was at Rs. 524-6-0. The Bombay High Court held that the Tribunal has no jurisdiction to give such a finding. In Pathikonda Balasubba Setty vs. CIT (1967) 65 ITR 252 (Mys) : TC8R.440 the Mysore High Court has held that the powers of the Tribunal are limited to the subject- matter of appeal and that the Tribunal had no jurisdiction to make an enhancement beyond the figure fixed by the ITO.
7. Dr. Misra, the learned counsel for the Department, contends that the powers of the Tribunal are subject to no limitations and, as such, should be treated to include the power of enhancement. He has relied on three cases. The first case is that of Hukumchand Mills Ltd. vs. CIT (1967) 63 ITR 232 (SC) : TC8R.1010. It is difficult to appreciate how that case supports the contention of the learned counsel. There the Supreme Court, after stating that the powers of the Tribunal in dealing with appeals are expressed in s. 33(4) in the widest possible term, went on to observe:

“The word ‘thereon’ of course restricts the jurisdiction of the Tribunal to the subject-matter of the appeal. The words ‘pass such orders as the Tribunal thinks fit’ include all the powers (except possibly the power of enhancement) which has been specifically conferred on the AAC by s. 31 of the Act.”

6. The next case relied upon by the learned counsel is that of New India Assurance Co. Ltd. vs. CIT (1957) 31 ITR 844 (Bom) : TC8R.1004. There the Bombay High Court held that the Tribunal has power to give leave to the appellant to raise a new ground and in that connection it was stated that the position of the Tribunal was the same as that of a Court of appeal under the CPC. The Bombay High Court nowhere says that the Tribunal has the power of enhancement.
7. The last case relied upon by the learned counsel is that of ITO vs. M.K. Mohammed Kunhi (1969) 71 ITR 815 (SC) : TC8R.1460. In that case the Supreme Court held that the Tribunal in exercise of its statutory powers under s. 254 of the IT Act, 1961 [corresponding to s. 33(4) of the Indian IT Act, 1922], had the power in proper cases to pass orders staying the recovery proceedings pending an appeal before the Tribunal, and it is in that connection that the Supreme Court observed that under s. 254 of the IT Act, 1961, the powers of the Tribunal were of widest amplitude. Obviously, the Supreme Court was not dealing in that case with the question which we are called upon to decide in the present case.
8. Now, in the instant case, the subject-matter of appeal was the sum of Rs. 30,000 which had been disallowed by the ITO and the AAC. The assessee was aggrieved and filed a second appeal before the Tribunal. There was no cross-objection or cross-appeal by the Department that the disallowance should have been more than Rs. 30,000. In these circumstances the Tribunal, if it found that the disallowance should have been more than Rs. 30,000, could only confirm the findings of the IT authorities and dismiss the assessee’s appeal on that ground but it had no jurisdiction to pass an order either directly or indirectly to place the assessee in a worse position by disallowing a sum of Rs. 36,000 in place of Rs. 30,000.

Now, coming to the next question, the facts are that the assessee had leased out one of its factory premises to one Messrs. J.M. Cocolas and Company Ltd. for an annual lease rent of Rs. 15,000. The assessee claimed that it was not able to realise the lease rent in the years under consideration and that it should, therefore, be assessed on that income only when it actually realised the same. In other words, the assessee’s contention was that in respect of that source of income it followed the cash system of accounting and, as such, could be taxed only when such income was received. Now, the Tribunal has taken the view that the assessee had advanced certain loans to this party and, in respect of those loans, it was following the mercantile system, inasmuch as it used to debit to the party the amount of interest every year without its being realised. The Tribunal thought that, in such circumstances, the assessee was not justified in not offering for assessment the rent which had occurred in its favour even though it had not been realised. In our opinion, the Tribunal was not right in its approach.

Sec. 13 of the Act gives an opinion to the assessee to follow whatever method of accounting it likes in respect of income assessable under ss. 10 and 12 of the Act. Now, admittedly, the income from lease money falls to be assessed under s. 12 as income from “other sources” while the income earned by the assessee by way of interest in its money-lending business would be income from business assessable under s. 10. It was open to the assessee to follow one system of accounting in respect of one source and another system in respect of the other source. The assessee followed and another system in respect of the other source. The assessee followed the mercantile system in respect of its income from business. But that does not mean that the assessee could be compelled to adept the same system in respect of the income falling under s. 12. The opinion to the assessee is absolute and it cannot be varied at the instance of the department. It is legitimate to expect that an assessee would exercise the option under s. 13 for his own benefit.

Now, in the instance case, if the assessee thought that it would be more advantageous to it to follow the cash system in respect of its income assessable under s. 12 and to follow the mercantile system in respect of its income assessable under s. 10, it was entitled to do so.

Now, we take up the question No. 3. The Singhania group to which the partners of the assessee-firm belonged and the Gupta group of Kanpur owned between themselves a company of the name of Laxmi Ratan Cotton Mills Company Ltd., Kanpur. There was another firm of the name and style of Gopal and Company. This firm had the selling agency of the Laxmi Ratan Cotton Mills. Among the partners of Gopal and Company were two persons, by the names of Dilsukh Rai and Sitaram. The ITO held that those two persons were dummy partners and were benamidars of the assessee-firm so that the income falling to their share was included in the income of the assessee. In other words, the ITO included in the assessee’s income a sum of Rs. 2,181 for the asst. yr. 1940-41 and varying amounts for other assessment years. The assessee appealed on this point first to the Appellate Asstt. CIT and then to the Tribunal, but remained unsuccessful. The assessee’s contention is that it was not a partner in the firm of Gopal and Company. Its name was not in the partnership deed. The finding that Dilsukh Rai and Sitaram were benamidars of the assessee was recorded in the assessment proceedings of Gopal and Company of which the assessee was given no notice. The Appellate Asstt. CIT held that although the assessee’s name did not appear in the partnership deed, yet in the circumstances of the case it was clear that the assessee was the real owner of the shares allotted to Dilsukh Rai and Sitaram. It further held that, although no formal notice was given to the assessee, yet the assessee was fully aware of the case. Before the Tribunal no ground was raised with regard to the want of notice. All that was contended before the Tribunal was that in the circumstances of the case it could not be held that the assessee was liable to be taxed in respect of the share income of Dilsukh Rai and Sitaram.

The finding recorded by the Tribunal is that Dilsukh Rai and Sitaram were benamidars of the assessee. This is a finding of fact and cannot be challenged in a reference under s. 66(1) of the Act unless the finding is assailed on the ground that it is based on no material. The sufficiency of material cannot be a question of law.

Now, the Tribunal has endorsed the finding on the reasoning given by the Appellate Asstt. CIT. When we turn to the order of the Appellate Asstt. CIT, we find that he based his finding on the following circumstances and material :

(i) That the original capital of Rs. 1 lakh contributed by Dilsukh Rai and Sitaram was supplied by the assessee-firm and subsequently entries were passed in the books of account of the assessee’s sister concern at Calcutta showing the sum of Rs. 1 lakh loan to Dilsukh Rai and Sitaram.

(ii) It is inconceivable that the lucrative business of the selling agency of Laxmi Ratan Cotton Mills could have been transferred by the assessee-firm in favour of Dilsukh Rai and Sitaram without any tangible consideration.

(iii) That Gopal and Company had filed an appeal in respect of their assessment but the constitution of the firm as taken by the ITO was never challenged.

Now, it cannot be said that the circumstances relied upon by the Appellate Asstt. CIT and endorsed by the Tribunal are irrelevant. The capital contributed by these two partners in order to become partners of the Gopal and Company was supplied by the assessee firm and entries were passed in the books of account of the assessee’s sister concern at Calcutta showing that the sum of Rs. 1,00,000 was advanced to these two persons by way of loan by the Calcutta firm. These entries were treated by the IT authorities to be a camouflage to cover up the real transaction. In the circumstances, it is not possible to hold that the finding of the Tribunal on this point is vitiated by any error of law.

We, accordingly, answer the three questions as follows :

Question No. 1. : No.

Question No. 2. : No.

Question No. 3. : Yes.

As the success of the parties is divided, we make no order as to costs.