S. 145 — Accounting Standard 7 issued by ICAI — In case of an assessee following mercantile system and ‘percentage completion method’ deduction is allowable of ‘foreseeable losses’ on incomplete projects in respect of which a major part of work was not co

ITAT ‘J’ Bench, Mumbai

Before N. V. Vasudevan (JM) and

Mehar Singh (AM)

ITA No. 335/Mum./2007 & 336/Mum./2007

A.Ys. : 2002-03 & 2003-04. Decided on : 26-5-2009

Counsel for assessee/revenue : Sunil Lala & Aliasger
Rampurwala/Ajay

Per Mehar Singh :

Facts :

The assessee was engaged in the business of executing works
contracts and was following the mercantile system of accounting and the
‘percentage completion method’. During the previous year relevant to the A.Y.
2002-03 the assessee had debited to P & L and had claimed a deduction of
Rs.18,73,568 being provision for future losses. The AO while assessing the
total income of the assessee held that this sum did not represent actual loss;
under mercantile system of accounting it is only an existing liability which
is deductible and not a liability which will come into existence upon
occurrence of certain events; the decision of the Apex Court in Tuticorin
Alkali Chemical & Fertilisers Ltd. does not contemplate deduction of such an
amount. He, accordingly, disallowed Rs.18,73,568 claimed by the assessee as
provision for foreseeable losses.

The CIT(A) observed that since the work completed during
the year under consideration was not a major part of the contract such a
provision was not allowable as according to him it cannot be established that
such a loss had been fully anticipated. He held that since several parameters
were accounted for only on estimate it was not plausible to anticipate the
result. The CIT(A) confirmed the action of the AO.

Aggrieved, the assessee preferred an appeal to the
Tribunal.

Held :

The Tribunal considered Para 13.1 of Accounting Standard 7
(AS-7) which mandates that a foreseeable loss on the entire contract should be
provided for in the financial statements, irrespective of the amount of work
done and the method of accounting followed. The argument on behalf of the
Revenue that AS-7 has not been notified by the Central Government as an
accounting standard for the purposes of S. 145(2) did not find favour with the
Tribunal. The Tribunal held that in principle, anticipated losses on
incomplete projects are allowable as deduction subject to their being
calculated as per AS-7. However, for the purposes of calculation and
quantification of the said loss in terms of AS-7 it restored the matter to the
file of the AO.

Cases referred :

(1) Tuticorin Alakali Chemcial & Fertilisers Ltd. v.
CIT, (227 ITR 172) (SC)

(2) ITA No. 9701/Bom./1991, dated 10-8-2001

(3) DCIT v. OTIS Elevator Co. India Ltd., (284 ITR
173) (AT) (Mum.)

(4) Aarts Module v. ITO, (ITA No. 9302/Bom./1992)

(5) Mkb (Asia) (P) Ltd. v. CIT, (294 ITR 655) (Gau.)

(6) Metal Box Co. of India Ltd. v. Their Workmen,
(73 ITR 53) (SC)

(7) Gopal Purohit v. DCIT, (20 DTR 99)

(8) CIT v. India Discount Co. Ltd., (75 ITR 191)
(SC)

(9) Kedarnath Jute Mfg. Co. Ltd. v. CIT, (82 ITR
363) (SC)

(10) Sinclair Murray And Co. P Ltd. v. CIT, (97
ITR 615) (SC)

(11) Mazagoan Dock Ltd. v. JCIT, (2009) (29 SOT
356) (Mum.)

(12) Arawali Construction Co. Pvt. Ltd. (124 Taxman 146)
(Raj.)

(13) CIT v. Elecon Engineering Co. Ltd., (1987)
(SC)

(14) Amway India Enterprises v. DCIT, (2008) (111
ITD 112) (Del.) (SB)

(15) Vithal Health Care Pvt. Ltd. v. ITO, (ITA No.
1754/M/04) (AY 01-02)

(16) CIT v. Shirke Construction Equipments Ltd.,
(246 ITR 429) (Bom.)

(17) M/s. Cambay Electric Supply & Industrial Co. Ltd.
v. CIT, (113 ITR 84) (SC)