Income – Accrual of income – Difference between accrual and receipt – Specified amount retained under contract to ensure there are no defects in execution of contract – Amount retained did not accrue to assessee Business loss – Bank guarantee for satisfactory execution of contract – Contract cancelled and bank guarantee encashed – Loss due to encashment of bank guarantee was deductible

42.  CIT vs. Chandragiri
Construction Co.; [2019] 415 ITR 63 (Ker.) Date of order: 13^th
March, 2019; A.Ys.: 2002-03 to 2005-06; and 2007-08

Income – Accrual of income – Difference between accrual and receipt –
Specified amount retained under contract to ensure there are no defects in
execution of contract – Amount retained did not accrue to assessee

Business loss – Bank guarantee for satisfactory execution of contract –
Contract cancelled and bank guarantee encashed – Loss due to encashment of bank
guarantee was deductible

The assessee entered into a contract and furnished
a guarantee for satisfactory execution of the contract. There was a defect
liability period reckoned from the date of completion of the contract for which
period the awarder retained certain amounts for the purpose of ensuring that
there arose no defects in the work executed by the assessee. The assessee
claimed that the amount retained did not accrue to it. This claim was rejected
by the AO. The contract was cancelled by the awarder and the bank guarantee was
encashed. An arbitration proceeding was pending between the awarder and the
awardee. The assessee claimed the bank guarantee amount as business loss. The
AO disallowed the claim holding that till the arbitration proceedings were
concluded the assessee could not claim the amount as business loss.

The Tribunal allowed both the claims of the assessee.

On appeal by the Revenue, the Kerala High Court
upheld the decision of the Tribunal and held as under:

‘i)   Accrual
and receipt are two independent incidents and their matching or correspondence
in time in a given case, if so occurring, is purely a matter of coincidence,
both immaterial and irrelevant for the purpose of determining the fact of
accrual, which has to be on its own terms.

ii)    By the specific terms of the contract itself, the awarder was
entitled to retain the amount so as to rectify any defects arising in the
period in which as per the terms of the contract the amount was retained. There
could be no accrual found on the completion of contract, since the assessee’s
right to such amount would depend on there being no defects arising in the
subsequent period during which the awarder was enabled retention of such
amounts.

iii)   The
assessee did not have the amounts with it and the bank guarantee had been
encashed and it was a loss which occurred in the A.Y. 2007-08. It was
deductible.’