It is impossible to attribute the difference in closing stock from previous years to the year under review

Fact and issue of the case

This appeal filed by the assessee is directed against order of the ld. PCIT, Jaipur- 1, Jaipur, dated 27-03-2023 for the assessment year 2018-19 wherein the assessee has raised the solitary ground as under:-.

‘’In the facts and circumstances of the case and in law, the ld. PCIT has erred in assuming jurisdiction u/s 263 when the order of the AO is neither erroneous nor prejudicial to the interest of the Revenue. The action of the ld. PCIT is illegal, unjustified, arbitrary and against the facts of the case. Relief may please be granted by quashing the order passed u/s 263.”

Brief facts of the case as emerges from the assessment order dated 15-03-2021 are that the case of the assessee was selected for Complete Scrutiny assessment under the E-assessment Scheme on the following issues:-

Income from Real Estate Business. 2. Unsecured Loans It is noted that the assessee firm had e-filed its original return of income on 29-092018 declaring total income at Rs.87,79,510/-. The case was selected for complete scrutiny under CASS. Notice u/s 143(2) was issued on 22-09-2019 and e-mailed to the assessee. Further, notice u/s 142(1) with detailed questionnaire dated 9-122020 and 10-02-2021 was issued to the assessee for which compliance was made by the assessee on 08-01-2021, 22-01-2021 and 23-02-2021. It is pertinent to mention that the assessee firm is engaged in the business of construction and development of residential building. During the year under consideration, the assessee has declared revenue from operation at Rs.16,60,84,000/- and other income as rent received at Rs.26,60,000/-. After examination of the reply submitted by the assessee with regard to books of accounts and audit report, disallowances/ additions were made by the AO. Regarding the issue of income from real estate business, the reason for high closing stock was due to the reason that during the year under consideration, the assessee firm constructed 8 storey residential building comprising of 24 flats and out of total 24 flats, the assessee firm could sold 19 flats only till the end of the relevant financial year and remaining 5 flats were shown as closing stock as on 31-03-2018 by the assessee. Regarding the issue of unsecured loan, the assessee has submitted list of loan providers alongwith copy of ITR, confirmation and bank accounts of the loan providers and the details of squared up of loans during the year. It is also noted from the assessment order where in connection with above main issues the explanation offered and details submitted by the assessee had been examined and found acceptable by the AO.

On examination of the assessment order, the ld. PCIT observed that the AO failed to apply his mind on the material available on record and failed to invoke the applicable provisions of law. Thus the ld. PCIT observed that order passed by the AO is erroneous in so far as it is prejudicial to the interest of Revenue for the purpose of Section 263 of the Income Tax Act. The ld. PCIT noted that the said assessment order passed by the AO is in a routine and casual manner and it is without verification of the issue. The relevant paras of the ld. PCIT as to passing of order u/s 263 of the Act is as under:- ‘

The reply of the assessee has been considered and perused carefully but the same was not found tenable for the following reasons.

7.On perusal of assessment records, it was noticed that in the financial statement for the financial year 2017-18, the assesse has shown closing stock of Rs.8,11,67,724/- whereas it was to be shown Rs.8,28,26,764/- as mentioned in para 3 above. Thus,inventoriesofRs.16,59,040/-[Rs.8,28,26,764/-minus Rs.8,11,67,724/-] were under stated in the financial statement which reduced the profit for the financial year 2017-18 by Rs.16,59,040/-.

Further, in schedule PL (Profit & Loss) and BS (Balance sheet) of the Income Tax Return, the land valuing Rs.56,82,707/- was shown as closing stock and in the schedule BS of the ITR, no investment was shown by the assessee. Also, in the form 3CD certified by the Tax Auditor, value of the above land was included with the inventory. Thus, stock of land valuing Rs.56,82,7071-shown as investment was to be treated as stock-in-trade (closing stock) for the assessment year 201819. The above issues as not verified by the AO during the course of assessment proceedings.

As discussed above, the Assessing Officer failed to apply his mind on the material available on record and failed to invoke the applicable provisions of law. This is turn has resulted in passing of an erroneous order by the Assessing Officer in the case due to non-application of mind to relevant material, an incorrect assumption of facts and an incorrect application of mind to the law which is prejudicial to the interest of the revenue and hence liable for revision under section 263 of the Income Tax Act. The Hon’ble Supreme Court in the case of Malabar Industrial Limited Vis CIT 243 ITR it has held as under- ‘’

…. An incorrect assumption of facts or an incorrect application of law will satisfy the requirement of the order being erroneous. In the same category fall orders passed without applying the principles of natural justice or without application of mind.”

Considering all the facts and circumstances of the case and for the reasons discussed above, the assessment order dated 15.03.2021 for A.Y, 2018-19 passed by the AO is held erroneous in so far as it is prejudicial to the interests of the revenue for the purpose of section 263 of the Income Tax Act, 1961. The said order has been passed by the Assessing Officer in a routine and casual manner without verification of the issues discussed above. The Assessing Officer was required to make the disallowances discussed in the paras above which he failed to do. The order of the Assessing Officer is, therefore, liable to revision under the explanation (2) clause (b) and clause (a) of section 263 of the Income Tax Act, 1961. The assessment order is set aside to be made afresh in the light of the observations made in this order. The AO is required to make necessary verification and finalize the assessment in accordance with the prevailing low to determine the correct income of the assessee liable to tax for the A.Y.2018-19 after allowing reasonable opportunity to the assessee.”

During the course of hearing, the ld. AR of the assessee argued that NFAC has exercised the quasi judicial power vested in it in accordance with law and arrived at a conclusion which cannot be considered as erroneous as the ld. PCIT is not satisfied with the conclusion arrived at by the AO. To this effect, the ld. AR of the assessee filed the following written submission with the prayer that the ld. PCIT has grossly erred in assuming jurisdiction u/s 263 of the Act and such proceedings initiated by the ld. PCIT needs to be quashed.

Observation of the court

We have heard the rival contentions and carefully perused the facts of the case, material on record, including the impugned order of the ld. PCIT, passed under Section 263, and also the order of the National Faceless Appeal Centre (NFAC). It is noted that there were two issues which were raked up by ld. PCIT, for assuming jurisdiction under Section 263, against the order dated 15.03.2021, passed by NFAC. First issue is regarding the difference in the value of closing stock, of Rs. 16,59,040, for the year under consideration, shown by the assessee firm vis-a-vis the working, as carried out by ld. PCIT, in the order under Section 263. Second issue is in relation to the disclosure made in the Income Tax Return Form of Investment in land of Rs. 56,82,707, converted from stock in trade, during the year under consideration.

As regards the first issue of difference in the value of the closing stock, during the course of hearing before us, ld. AR stated that the assessee firm is engaged in the business of Real Estate Development. During the year under consideration, the assessee firm was undertaking construction of a Residential Project in Jaipur, which got completed in the subsequent years. Before us ld. AR relied upon the working, as also submitted during the course of proceedings before the ld. PCIT, to state that the difference in the working of the assessee firm and that considered by ld. PCIT, to arrive at the figure of closing stock, is nothing but on account of the apportionment of certain expenses between the area sold and unsold in the project. It has been stated that such methodology adopted for apportionment of the expenses, for the year under consideration, has been consistently followed by the assessee firm during the past years, which have been also accepted by Income Tax Department for the immediately preceding year, in which order was passed under Section 143(3), without any additions being made. As per the methodology adopted by the assessee firm, expenses incurred, except finance cost, have been added to the closing stock in the ratio of the unsold area, as at the end of the year, taking the total project area as the base whereas, ld. PCIT has apportioned the expenses, considering the unsold area in the project at the beginning and at the end of the year under consideration. The reason for adopting such methodology, by the assessee firm, has also been elaborately submitted before us by the assessee firm. It was further stated by ld. AR that the difference in the closing stock for the year under consideration was nothing but on account of the difference in the opening stock. Accordingly, it was submitted that the difference in the value of the stock was on account of the working/methodology so adopted by the assessee firm in the preceding years and not on account of the working for the year under consideration. Emphasizing on the fact that in the preceding years, such working was already accepted, it was stated that the difference should not be considered for the year under consideration. In this regard, elaborate working was also submitted before us as mentioned in the written submission. After having gone through the working and the factual position put forth by the ld. AR, we note that the difference in the closing stock of Rs. 16,59,040/- is emanating from the difference in the working for the preceding years and that such difference cannot be attributed for the year under consideration. Moreover, assessee firm has been consistently following the same methodology for appropriating the expenses which has also been accepted by the Income Tax Department in the past. Considering such factual position, we note that the NFAC accepted the difference and did not make any addition in this regard. NFAC had taken a conscious decision of accepting the working of the assessee firm and the order passed by NFAC cannot be said to be without due application of mind as has been set out by ld. PCIT. Considering the factual and the legal position involved, we do not find that the order of the NFAC, as regards issue number one, is erroneous.

Now, we take up the second issue. From the facts placed on record, along with the relevant documentary evidences, we note that the assessee firm had a land, as part of Stock in Trade, of the value of Rs. 56,82,707/-. The said land, thereafter, during the year under consideration, had been converted from stock in trade into investment. In this regard, the assessee firm had made appropriate disclosure in the Audited Financial Statements, wherein, such factual position was duly disclosed. However, while filing the return of income, in the Income Tax Return Form the land was continued to be shown as part of stock in trade. Audited Financial Statement of the assessee firm was duly submitted to the NFAC, which duly accepted the factual position of such conversion of stock in trade to investment, even though inadvertently, the disclosure in this regard was not made in the Income Tax Return Form by the assessee firm. Ld. AR of the assessee firm, before us, submitted that as per the law in force, during the year under consideration, any conversion from stock in trade into investment was not taxable. Ld. AR, further submitted that even though the appropriate disclosure was not made in the return form, however, the same was made in the Audited Financial Statement which after due application of mind was accepted by NFAC. Considering the factual and legal position involved, we are of the view that that we do not find any error in the order of the NFAC. Also, since the conversion from stock in trade into investment, was not taxable, during the year under consideration, there is no prejudice which has been caused to the Income Tax Department. Since, the conversion has taken place during the year under consideration, ld. PCIT was not correct in treating this conversion to be falling in the subsequent year. Accordingly, for both the issues we hereby set aside the order of the ld. PCIT, passed under Section 263 and sustain the order dated 15.03.2021, passed by NFAC. Thus the appeal of the assessee is allowed as indicated hereinabove

In the result, the appeal filed by the assessee is allowed as indicated hereinabove.

Order pronounced in the open court on 5/07/2023.