1. A Special Bench has been constituted by the Hon'ble President, the Tribunal to dispose of this appeal by the revenue arising out of the order of the Commissioner (Appeals) Rajasthan-II, Jaipur. The relevant accounting period ended on Diwali 1976 (20-10-1976).
2. Shri P.C. Hadia, the IAC, Jaipur and Shri H.R. Lodha, the senior departmental representative put up appearance on behalf of the revenue, while Shri N.M. Ranka and J.K. Ranka, advocates appeared for the assessee. Shri R.L. Goyal and Shri Sunil Goyal appeared as interveners.
3. One of the grievances by the revenue is that the learned Commissioner has erred in deleting the addition of the closing stock.
4. The facts briefly stated are that the assessee-firm derives income from dealing in precious and semi-precious stones. It sells such ready goods after purchase from the market as well as out of its own manufacture. Goods are also sold through the agency of others mostly the sister concerns. It also undertakes to sell goods of others, again mostly of its sister concerns, as commission agents. The sister concerns mainly are K.D. Jhaveri, Jaipur and Mahendra Jewellers, Jaipur. The assessee is mainly an exporter of precious stones. In the jewellery account, on total sales of Rs. 10,18,213 gross profit shown is at Rs. 4,05,603 which reflects a rate of about 40 per cent. The value of the closing stock shown in this account is Rs. 25,58,907. The ITO has observed that proviso to Section 145(1) of the Income-tax Act, 1961 ('the Act') is applicable in the case of the assessee as held by the Tribunal in the assessee's appeal [IT Appeal No. 946 (Jp.) of 1979] for the assessment year 1975-76. The ITO has further observed that 'admittedly, the assessee has been valuing its closing stock at cost.' He also observed that this method has been followed by the assessee year after year. Since the actual cost of each item in the closing stock was not easily ascertainable, the assessee has been working out the value of the closing stock on the basis of the export price. For the assessment year under appeal the export price of the closing stock including the goods in hand in India, according to the assessee, was Rs. 49,29,162. There was, thus, difference of Rs. 23,70,255 in the export value of the goods in the closing stock and the value actually shown in the closing stock. The rate of disparity, thus, works out to 48 per cent. In other words, the export price is reduced by 48 per cent to arrive at the value of the closing stock. According to the ITO, the assessee has been manipulating the value of its closing stock by applying different disparity rates in different years with a view to keep its income at a low level. He also observed that disparity rate had no relation with gross profit shown by the assessee that is to say the gross profit rate shown by the assessee was 40 per cent, while the disparity rate was 48 per cent. He, therefore, held that the assessee had undervalued the closing stock by adopting higher disparity rate. He considered disparity rate of 40 per cent as reasonable as held by the Tribunal in the case of the assessee itself for the assessment year 1975-76. The other aspect which according to the ITO resulted in under valuation of closing stock was the export value of the closing stock adopted by the assessee. He noted that the assessee had valued its closing stock lying abroad at the rate of Rs. 7.50 per dollar up to 30-6-1976 and thereafter at Rs. 8.50 per dollar. According to the ITO the exchange rate of dollar on the closing date of the accounting period, viz., 21-10-1976 was Rs. 8.95 per dollar and, therefore, there was no reason why the assessee should have valued the closing stock at lesser rate of exchange for the dollar while converting the value in Indian rupee. He, therefore, adopted the export price of the closing stock at Rs. 54,61,251 (by taking the exchange rate of Rs. 8.95 per dollar) against the value taken by the assessee at Rs. 49,29,162. The ITO worked out the undervaluation of closing stock by the assessee at Rs. 7,17,844 and made addition to the declared profits, accordingly. He calculated the additions, thus:Value of the closing stock as on 21-10-1976 on the basisthat the rate of dollar on the said date was Rs. 8.95 54,61,251Less : Disparity at the rate of 40 per cent 21,84,500 -----------Less : Value of the closing stock as declared by theassessee 25,58,907 -----------Amount by which the closing stock has been undervalued 7,17,844 ----------- 5. The assessee challenged the above addition before the Commissioner (Appeals) who has upheld the applicability of proviso to Section 145(1) but deleted the entire addition, observing as follows : In my appellate order for 1975-76,1 have carefully perused the orders of the Tribunal in appellant's own case and in the case of Mahendra Jewellers as also the order of the Settlement Commission in the case of K.D. Jhaveri Bros. The arguments of the appellant and the department in all these cases were more or less on the same lines as in the case now before me. The uniform conclusion to which both the Tribunal and the Settlement Commission have come is as follows : (i) When the gross profit rate is held to be reasonable by the department, the closing stock should be treated to have been correctly valued even though there may be no supporting evidence in the form of a verifiable closing stock inventory.
(ii) The basis of valuation of the closing stock by itself cannot lead to any addition because the disparity rate and the gross profit rate cannot be constant and will vary from year to year and from exporter to exporter, depending on innumerable variable factors (already discussed). Since it has been held that proviso to Section 145(1) is applicable, in the absence of day to day qualitywise stock tally and also in the absence of a definite method of arriving at the cost of each lot, it would be proper criterion if the overall gross profit rate is found to be a reasonable.
At this point, I am constrained to make an observation that when an assessing authority is considering an issue which has been the subject of an appellate decision for an earlier year, it is his boundan duty to the decision and give specific reasons why they are making a departure from the said decision, merely making an observation 'here I may say that the disparity rate has no relation with the gross profit disclosed by the assessee' ignoring the enormous amount of material that is available on the subject including the arguments by the appellant and the arguments of the departmental representative and detailed analysis and decision arrived at either by the appellate authority or by the Settlement Commission, would make the appellate proceedings a force.
In the light of the above observations, I have, therefore, to conclude that the reasonableness of the rate of gross profit is the sole criterion that should have been taken into account.
Regarding the rate of exchange to be adopted for the dollar, the arguments of the ITO that the rate prevailing on the closing day of the accounting year would not be applicable for the simple reason that the appellant has the option to adopt the market rate or the cost price whichever is lower and invariably the cost price being lower has been adopted year after year. In fact the discussion in the assessment order as well as in the preceding paragraphs has been focussed on only the manner of arriving at the correct cost price.
As the learned representative has expressed, the proforma invoice price or the asking price is mentioned by them in terms of the dollar as well as the corresponding exchange value in rupees as on the date of signing of the proforma invoice. In other words, the exchange rate adopted at the time of making the proforma invoice is nearer the date of production than the exchange rate prevalent as on the closing day of the accounting year. Therefore, in the fitness of things the exchange rate as adopted in the proforma invoice is simultaneously giving the price both in terms of the dollar and the rupee would be the-most proper. Hence, there is no justification for substituting the rate of Rs. 8.95 per dollar as on the valuation date to convert the closing stock value of the goods lying unsold abroad in terms of dollar into rupee. Hence the addition made in this regard is to be deleted.
6. The revenue is aggrieved against the deletion made by the Commissioner (Appeals). Shri P.C. Hadia, on behalf of the revenue, submitted that the disparity rate adopted by the assessee was imaginary. It had no basis whatsoever and the assessee was changing the same year after year suiting its convenience. He further submitted that the disparity rate of 48 percent adopted by the assessee had no basis, whereas the disparity rate of 40 per cent adopted by the ITO was held to be reasonable by the Tribunal for the assessment year 1975-76. He further pointed out that the finding by the Commissioner (Appeals) that reasonable gross profit will take care of the value of the closing stock and separate valuation thereof was not necessary is also erroneous. He then submitted that the assessee's approach of first assuming the gross profit rate and then fixing the value of the closing stock by deducting from the export price the disparity at the rate of assumed gross profit rate is also erroneous inasmuch as the gross profit is the result after the valuation of the closing stock. In other words, the valuation of the closing stock has to be made first independently. He also supported the order of the ITO regarding rate of conversion of dollar into Indian rupee for arriving at the export price of goods lying in the closing stock.
7. Shri N.M. Ranka, the learned advocate of the assessee strongly supported the order of the Commissioner (Appeals) and pointed out that the disparity rate adopted by the assessee is near about the gross profit rate. He then took us through the 'paper book' pages 182, 183 and 184 to show that the gross profit rate earned by the assessee was 48 per cent or near about and, therefore, the disparity rate of 48 per cent was rightly adopted by the assessee. Pages 182 and 183 are statements of goods purchased, exported and sold in the same form and shape during the accounting period ending Diwali 1976. Shri N.M. Ranka pointed out that according to this, average gross profit works out to 45.3 per cent. Page 184 is a statement of goods belonging to others (goods on Jakhad) showing export invoice value vis-a-vis cost of the Jakhad goods exported during the year ending Diwali 1976. Here the gross profit rate is 46 per cent. He then submitted that the overall gross profit rate was 48 per cent and not 40 per cent. He submitted that over and above the sales of Rs. 10,18,213 reflected in the closing stock, the assessee had also earned profits of Rs. 1,61,535 on account of exchange difference and by taking into account these profits, the gross profit rate by the assessee works out to 48 percent. (Kindly see page 12 of the supplementary paper book filed by the assessee). Shri N.M. Ranka further pointed out that on similar basis profits for the assessment year 1975-76 worked out to 39 per cent and that for 1976-77 at 43.2 per cent while the disparity rates adopted by the assessee were 40 per cent and 45 per cent respectively. He then stated that disparity rate has been accepted by the Tribunal for the assessment year 1975-76 while it has been restored to the Commissioner (Appeals) for the assessment year 1976-77. Based on above facts he urged that since the disparity rate adopted by the assessee at 48 per cent is the same as gross profit rate, the closing stock was properly valued by the assessee and as such there was no undervaluation thereof so as to warrant any additions. Shri N.M. Ranka also pointed out that since the export invoice value is the one which is offered by the assessee, it is likely to be below that price on actual sale depending upon the negotiations and at any rate it would not go beyond the export invoice value or the asking price. It is because of this likely fluctuation that cushion of 1 to 2 per cent is kept which is added to the gross profit rate. The disparity rate in such circumstances is a little more than the gross profit rate. Shri N.M. Ranka also referred to the varying disparity and gross profit rates in cases of sister concerns of the assessee as well as in the case of the assessee itself for various assessment years tabulated at page 1 of the compilation, which are as under :Assessment Gross profit shown Disparity between Difference years per cent export invoice value per cent and book value1970-71 27 48.5 21.51971-72 30 43 131972-73 31 40 91973-74 35 44.5 9.51974-75 35 44 91975-76 41.5 45 3.51976-77 46 50 41977-78 45 51 61973-74 37 42.25 5.251974-75 36.3 40.4 4.11975-76 39 40 11976-77 43.2 45 1.81977-78 48 48 Nil He, therefore, submitted that the disparity rate of 48 per cent adopted by the assessee was quite reasonable. He also supported the order of the Commissioner (Appeals) that the reasonable gross profit rate will take care of the valuation of closing stock and no separate valuation thereof was called for. According to him, the gross profit rate of the assessee was most reasonable looking to the assessee's own past history and that of its sister concerns as extracted above as well as other comparable cases. A list of other cases relied upon is at page 185 of the paper book, according to which the following gross profit rates disclosed by those assessee's have been accepted by the ITOs concerned as reasonable for the assessment year 1977-78 :Name and address Total Export Local Gross Gross profit sales sales sales profit rate Rs. Rs. Rs. Rs.3. V.H. Jewellers 24,65,326 Over Below 5,05,452 20.9 per cent 90 per cent 10 per cent Shri N.M. Ranka, therefore, urged that the gross profit rate in the case of the assessee being much more than the above cases accepted by the department, no further addition was called for even though proviso to Section 145(1) may be applicable, technically. He also pointed out that by taking into consideration the addition of Rs. 7,17,844 made by the ITO on account of alleged undervaluation of closing stock, the gross profit rate works out to 125 per cent which is absurd and unsupported by any comparable cases by the revenue. He then referred to the exchange rate for conversion of dollar into Indian rupee. He submitted that at the time of export of the goods abroad export invoice is prepared which indicates the asking price in dollars. At the bottom of this document, the conversion rate in Indian rupee is also given. In this connection he referred to paper book pages 63, 64 and 65. He submitted that the same conversion rates as are indicated in the export invoices from time to time are adopted for the goods not actually sold and lying in closing stock at the end of the year and this method was regularly followed by the assessee year after year and accepted by the department. The ITO had also not recorded any finding that true profits cannot be deduced by following such method consistently. The ITO had also not given any basis for adopting disparity rate of 40 per cent. He was, therefore, not justified in charging the disparity rate adopted by the assessee or the method regularly employed by it. He also submitted that the method employed by the assessee was not unreasonable and it could not be substituted unless a better one was adopted by the ITO. In support of these contentions Shri N.M. Ranka relied upon a number of judicial pronouncements by the various High Courts.
8. Shri R.L. Goyal and Sunil Goyal, advocates, who appeared as interveners objected to the method of valuation adopted by the assessee as well as the ITO to arrive at the cost price of the closing stock.
According to them the most appropriate method to find out the cost price was the cost of purchases of ready goods as in the purchase vouchers and increased by direct expenses. In the case of goods manufactured by the assessee the cost, of raw material consumed and manufacturing expenses like labour wages, etc., would constitute the cost price. They, therefore, urged that no general principles of valuing the closing stock on the basis of the method followed in the case of the assessee should be laid down by the Tribunal. To dispel the fears of the interveners it was made clear that no principles of general application of valuing the closing stock at cost will be laid by us. On the contrary the principles to be laid down by us will be with reference to the peculiar circumstances of the case of the assessee and will apply to the cases of other assessees valuing the closing stock at cost on the lines adopted by the assessee. Shri R.L.
Goyal was satisfied and, therefore, did not argue further.
9. Shri H.R. Lodha, the senior departmental representative in reply did not controvert the factual data included in the paper books filed by the assessee and further argued that by applying imaginary percentages of disparity rates, suiting the convenience of the assessee, the value of the closing stock may even be taken as zero thereby deflating the profits. He also contended that on the basis of the principles of accountancy the valuation of the closing stock was necessary to arrive at the correct gross profit. He also argued that the closing stock is first to be valued and the result will be the gross profit. He also urged that the disparity rates in the sister concerns of the assessee relied upon by the assessee were also without any basis and imaginary and, therefore, those cases could not be relied upon. Similarly, he pointed out that other comparable cases relied upon by the assessee could not be compared in the absence of complete details and the nature of the business done by the assessee and the mode of valuation of the closing stock in those cases. Regarding the exchange rate for conversion of dollar in respect of goods in the closing stock, Shri H.R. Lodha, supported the order of the ITO.10. From the above submissions made by the rival parties, the following points emerge for our consideration : a. When the gross profit shown is reasonable, whether it would still be necessary to value the closing stock to arrive at the gross profit b. Whether the closing stock is to be valued first to arrive at the gross profit rate and disparity rate is then to be adopted.
c. Principles to be followed for adopting the gross profit and disparity rates for arriving at the cost price with reference to export invoice value (EIV) (asking price) d. Whether the assessee has adopted the correct diparity rate in valuing the closing stock 11. Before answering the above points, we would like to state in brief the method followed by the assessee in arriving at the cost price of the closing stock. As stated earlier, the assessee is a trader in precious and semiprecious stones. It purchases ready goods from the market and sells the same without any processing. It also manufactures its own goods from the raw material purchased from the market. Major part of the goods are sold abroad on consignment basis. At the time of export, an export invoice is prepared in which the value asked by the assessee is indicated. In business parlance it is known as EIV or the asking price. The foreign buyers may accept the goods at the offered price or the negotiated price which according to Shri N.M. Ranka has to be less than the asking price. The goods not accepted and sold be reimported to India. Before purchasing the goods, the buyers may accept the goods in the whole lot or in part. The case of the assessee is that the assortment, reassortment, combinations, permutations, matchings, etc., of various goods and sizes have to be made to make the goods more attractive for the buyers. In this process the assessee is unable to keep track as to from which lot the goods were taken for the above processes and it becomes difficult to find out their cost price from the purchase vouchers. It is a common ground between the parties that the assessee is regularly valuing the closing stock at cost. The method for arriving at the cost followed by the assessee is that it first adopts the export invoice value of the unsold goods which were sent abroad and lying in the closing stock. Out of this value it deducts certain percentages to arrive at the cost price. This percentage of deduction is known as the disparity rate. The basis of the disparity rate is in dispute. In EIV the rate of exchange at which dollar is converted into Indian rupee is also indicated. The rate of conversion is at Rs. 7.50 per dollar up to 30-6-1976 at Rs. 8.50 thereafter. When the goods are actually sold to foreign buyers, the sale price is adopted at the same rate of conversion as given in the EIV and not with reference to actual exchange rate prevalent on the date of sale. The sale consideration is received in the foreign currency. When the sales realisations are, subsequently, remitted to India, the conversion is done at the actual exchange rate prevailing on the date of remittance.
In this process there may be gain or loss with reference to the sale price recorded in the account books. The gain or loss in conversion will cover two situations, viz., (i) gain or loss of exchange rate on the dates of actual sales with reference to exchange rate mentioned in EIV, and (ii) gain or loss on account of revaluation or devaluation of currencies on the date of remittances as compared to the exchange rate on the date of actual sale. This will be clear from the following illustrations. The exchange rates adopted in EIV are Rs. 7.50 and Rs. 8.50 per dollar. Let us take exchange rate in the EIV of Rs. 7.50 per dollar. Suppose on the date of actual sale the exchange rate is Rs. 8.50 per dollar and on the date of remittance to India at Rs. 9.75. The gain of Re. 1 per dollar (Rs. 8.50 minus Rs. 7.50) will fall under the first category and that of Rs. 1.25 (Rs. 9.75 minus Rs. 8.50) under the second category. Remittances during the accounting period may be for sales during the same year or even of the earlier year.
12. With this background we shall consider the above questions. Our answers to the above questions are that the value of the closing stock on the principles of accountancy has to be made to arrive at the correct gross profits. Simply because the assessee is showing reasonable profits with reference to the past history of the case or other comparable cases in the same line of trade would not lead to the conclusion that the profits shown are correct. The correct profits can be worked out only after valuing the closing stock. The closing stock is to be valued first to arrive at the correct gross profit. Whatever may be the result after valuing closing stock correctly would reflect the correct gross profit, of course, subject to our comments in the subsequent paragraphs with regard to purchases and sales reflected in the trading account. The asking price is the price akin to sale price.
To arrive at the cost with reference to the sale price, one has to deduct therefrom the gross profit embedded in the sales. In other words, the cost price will be the sale price minus the gross profit embedded therein. The disparity rate as such would be the rate of gross profit. In other words, the disparity rate and the gross profit rate will be the same. We have said earlier that closing stock is to be valued first to arrive at the correct gross profit. For valuing the closing stock, asking price is to be reduced by the gross profit, percentage embedded therein. In the absence of any other details, the only method would be to work out the average gross profit rate with reference to the transactions from the books of the assessee chosen at random in all the months which may also be confronted to the assessee and its objections considered before being adopted. It may not be possible to work out the gross profit rate in this fashion from all the transactions particularly when in the case of the assessee there is assortment, reassortment, combinations, permutations, matchings, etc.
Working of such gross profit may be possible from the transaction where ready goods have been purchased and sold in the same shape and form without any processing. The margin of gross profit in the manufactured goods is generally more than in trading in ready goods. The assessing authority has to work out the margin of gross profit in such goods separately. Taking into consideration the proportion of manufactured goods included in the total sales, gross profit should be increased further to arrive at an average figure of the gross profit. The gross profit percentage so arrived at should be deducted from the asking price to arrive at the cost price. Whatever rate of gross profit is arrived at, that rate will also be the disparity rate. There will, therefore, be no difference between the disparity rate and the gross profit rate. To strengthen our view that closing stock is to be valued first to arrive at the correct gross profit rate and the correct valuation of the closing stock would reflect the correct gross profit (of course subject to other considerations) and that the disparity rate and the gross profit rates have to be the same, we shall give the following illustrations of three different assumed trading accounts.Purchases including open- Sales (15 items) 20,000ing stock (20 items at the Closing stock (5 items atrate of Rs. 1,000 each) 20,000 cost, i.e., at the rate ofGross profit 5,000 Rs. 1,000 each) 5,000 ----------- ---------Gross profit percentage with respect to sales 25 per centGross profit percentage with respect to cost 33.33 per cent Trading Account (II)Purchases including open- Sales (15 items) 20,000ing stock (20 items at the Closing stock (5 items atrate of Rs. 1,000 each) 20,000 cost, i.e., at the rate ofGross profit 9,000 Rs. 1,000 each) 9,000 ----------- --------Gross profit percentage with respect to sales 37.5 per centGross profit percentage with respect to cost 60 per cent Trading Account (III)Purchases including open- Sales (15 items) 20,000ing stock (20 items at the Closing stock (5 items 2,000Gross profit percentage with respect to sales 25 per centGross profit percentage with respect to cost 40 per cent In the first and second trading accounts, the closing stock has been valued at cost. In the third trading account, the value of the closing stock is less than the cost price. In the first trading account, the gross profit rate has been worked out at 25 per cent with reference to the sales. 5 items were left in the closing stock, the value of which has been placed at Rs. 5,000 at cost (purchase price). If we follow the method adopted by the assessee, the asking price of 5 items left in the closing stock would be at Rs. 6,666 taking the basis of the sale price of 15 items sold. The gross profit rate is at 25 per cent. If 25 per cent from the asking price of Rs. 6,666 is deducted, the balance cost will be at Rs. 5,000 which is otherwise adopted on the basis of the purchase price reflected in the vouchers. This shows that there is no difference between the gross profit rate and the disparity rate. Coming to the second trading account, it may be pointed out that the gross profit rate in this account is at 37.5 per cent. The asking price of 5 items left in the closing stock at the sale rate adopted in the second trading account would work out to Rs. 8,000. After adopting 37.5 per cent thereof being the gross profit or disparity rate, the cost price would work out to Rs. 5,000. This illustration also shows that the gross profit rate and the disparity rate have to be the same. In the third trading account, the value of the 5 items in the closing stock has been adopted at Rs. 2,000 whereas it should have been at Rs. 5,000 at cost. In this account the gross profit rate works out to 25 per cent. If closing stock had been valued correctly at Rs. 5,000 as in the second trading account, the gross profit rate would have been at 37.5 per cent. In this case, the closing stock is undervalued but the reasonable gross profit rate of 25 per cent as in the first trading account is maintained. Even though, there is reasonable gross profit in the third account as compared to the first trading account but the profits are understated, by Rs. 3,000. The inferences to be drawn, therefore, are that closing stock has to be valued for arriving at the correct gross profit and the resultant figure will be the correct gross profit. We shall now test the accuracy of the above principles by working out the market price from cost price. The cost price in the first trading account of 5 items left in the closing stock is at Rs. 5,000. From this value, we have to arrive at the market price. The gross profit rate in the first trading account is at 25 per cent with reference to the sale price and 33.33 per cent with reference to the cost price. For arriving at the market price from the cost price, the cost price has to be increased by 33.33 per cent which would give the figure of Rs. 6,666, as we have worked out the asking price for the purpose of deducting the disparity rate therefrom. In the second trading account, the gross profit with reference to the cost is at 60 per cent. The cost price of Rs. 5,000 being the value of the goods in the closing stock is, therefore, to be increased by 60 per cent so as to arrive at the market price or the asking price. This would give the figure of Rs. 8,000 as we have already worked out earlier.
13. We have said earlier that the gross profit rate and disparity rate will be the same. This will be so when the actual sale price is shown in the sales account converting dollars at the exchange rate prevailing on the dates of sales and not the exchange rates shown in EIV. If for arriving at the gross profit, the exchange rates mentioned in the EIV are adopted, on the actual dates of sales further cushion will not be necessary to be provided for fluctuations in the price on actual sales.
If sales have actually been made at the prices lower than the EIV, the rate of gross profit will have to be increased further by the same percentage by which actual sale price has decreased compared to EIV to arrive at the disparity rate. On the other hand, if the actual sales have been made at prices more than those shown in the EIV, the gross profit percentage is to be reduced by the same percentage by which the actual sale price has increased as compared to EIV. This again has to be worked out with reference to actual sales transactions at random spread over all the months, as pointed out earlier for the purpose of finding out the gross profit embedded in the sales.
14. The other point for consideration is as to whether the EIV of goods in the closing stock should be valued at the exchange rate prevailing on the last date of the accounting period or the value as shown in EIV should be adopted out of which deductions are to be made for disparity.
This issue does not require much discussion. The answer is that if the gross profit and disparity rates are to be worked out with reference to the exchange rates on the dates of actual sales, ignoring the EIV, then the conversion of EIV has to be made with reference to the exchange rate prevailing on the last day of the accounting period, i.e., the valuation date. On the contrary if the gross profit and disparity rates are to be adopted with reference to EIV, then the EIV will remain unchanged. The adoption of uniform rates of exchange for converting dollars into rupees at the rate of Rs. 7.50 per dollar up to 30-6-1976 at Rs. 8.50 thereafter, in our opinion is not a correct approach. The correct approach should be to record the sales by converting the price in dollars at the exchange rates prevailing on the actual dates of sales. The argument on behalf of the assessee that the exchange conversion gains of Rs. 1,61,535 will take care of this situation, will only be partly correct. We have pointed out earlier in paragraph No.11, the two components of such gains or losses. Only the gains or losses falling under the first category and that too on account of part sales made during the accounting period will cover this situation. This will not reflect gain or loss of sales for the entire accounting period. It will partly cover gains of periods prior to the accounting period. Then there is no basis to sort out as to what remittances related to arrears of earlier period and which to sales of current accounting period. The proper course, therefore, would be to work out sales with reference to the exchange rates prevailing on the actual dates of sales. By adopting this method, there will be no change in the method of working out the gross profit inasmuch as the assessee has tried to cover this situation by adding exchange rate difference to the gross profit so as to arrive at the gross profit rate of 48 per cent which though does not fully cover the situation. This will also give a fair idea of difference in EIV and the actual sale so as to arrive at the cushion addition or deduction from the gross profit to arrive at the disparity rate. If the actual sale is less than EIV, then certain percentage will have to be added to the gross profit rate. On the contrary, if the actual sale is more than the EIV, then certain percentage has to be deducted from the gross profit. The resultant percentage will be the disparity rate. We have already discussed above how to work out this percentage. This would appear to be a cumbersome process. To avoid this, the scientific approach would be to adopt the sales at exchange rate prevailing on the dates of actual sales. Since in this way, the gross profit will be based on the actual sale rates in the market and not on the assumed rates mentioned in EIV the necessary corollary would be to take the value of the goods in the closing stock at the exchange rate prevailing on the date on which it is to be valued, i.e., Diwali 1976 (20-10-1976) and not the value shown in the EIV.15. We are in agreement with the learned departmental representative that other comparable cases on gross profit rates or disparity rates will be of no help when the details and basis thereof are not available. In the cases of sister concerns of the assessee, we are not aware as to how the disparity rate was arrived at and how the assumed gross profit was adopted. It is for these reasons that it is not considered necessary to rely upon these comparable cases." 16. Applying the above test we have now to consider whether the closing stock in the case of the assessee has correctly been valued. Shri N.M.Ranka, the counsel of the assessee pointed out before us that raw material of the value of Rs. 1,34,267 is included in the jewellery purchases account. This material was transferred from precious and semi-precious stones account separately maintained. Further, wages of Rs. 38,630 for manufacturing finished goods from the above raw material is also debited to this account. In other words, the assessee's own manufactured goods of the value of Rs. 1,72,897 (1,34,267 plus 38,630) are also included in the jewellery account. We have pointed out earlier that in own manufactured goods, the profit rate is generally more than the ready goods. The quantity of manufactured goods included in the jewellery trading account is much less as compared to the ready goods.
We, therefore, presume that sales of such goods included in the total sales are also of small quantity. Since the quantity of own manufactured goods which may have been included in the total sales is very small, it shall not materially vary the gross profit rate. We have already said earlier that gross profit rate and the disparity rate would be the same. Shri N.M. Ranka from pages 182 to 183 and 184 tried to show that the gross profit or the disparity rate in respect of the assessee's ready goods was 45.3 per cent and in respect of Jakhad goods at 46 per cent. Perusal of statement at pages 182 and 183 would show that total purchases shown therein are Rs. 18,884.15 and EIV at Rs. 34,631.81. The statement further shows that sales shown therein are at exchange rates of Rs. 7.50 or 8.50 per dollar and not exchange rates of the actual dates of sale. The gross profit worked at 45.3 per cent is, therefore not correctly reflected. This rate of 45.3 per cent is with reference, to EIV. If the overall gross profit rate is 45,3 per cent why the gross profit is around 40 per cent is not understood. This would only show that the assessee has tried to bring on record transactions near about the disparity rate to justify the deduction at that rate, which in fact is not correct. A minute study of this statement would further reveal that sales made were only at Rs. 20,247 and not Rs. 34,532 inasmuch as sales of EIV of Rs. 14,285 (against serial Nos. 2, 6 to 10 and 22) did not take place. The corresponding purchases against sales of Rs. 20,247 as per the statement work out to Rs. 12,630. The gross profit, thus, works out to Rs. 7,617 on EIV sales of Rs. 20,247 reflecting gross profit rate of 37.6 per cent. Even for this reason this cannot be accepted as the correct statement of profits of 45.3 per cent. Total EIV sales as per this statement are at Rs. 20,247 which are negligible against total sales of over Rs. 10 lakhs and, therefore, not representative. Assuming, while not conceding, that 45.3 per cent is a representative and correct rate of profit earned throughout the year, then it contradicts the assessee's own stand. The claim is that exchange profits of Rs. 1,61,535 are also part of gross profit. Total sales are shown at Rs. 10,18,213. Added to this, exchange profits of Rs. 1,61,535, total sales, will be at Rs. 11,79,748. These account for about 14 per cent of sales, of Rs. 11,79,748. 45.3 per cent profit stated on behalf of the assessee is without taking into consideration these profits. In other words, the rate of gross profit including exchange rate gains should be at 59 per cent whereas such profits are said to be at 48 per cent. We have also pointed out earlier that exchange rate profits will consist of two components. The second component on account of remittance being the difference from the date of sale to the date of remittance will not be the part of trading receipt. On the other hand, it will be a gain on account of appreciation in money value lying abroad and separately includible in the profit and loss account. We are not aware of the volume of such appreciation of money value included in the exchange rate gains. This will affect the gross profit rate on the lower side of 59 per cent. At any rate we do not accept these statements as the correct reflection of the gross profits earned by the assessee.
17. The gross profit in the jewellery account as per the copy of account filed in the paper book of is about 40 per cent. By adding exchange rate gains of Rs. 1,61,535 the gross profit rate works out to 48 per cent, which as pointed out earlier has not been controverted by the departmental representative. We have also held earlier that gross profit rate and the disparity rates have to be the same. Since the gross profit rate and disparity rate in the present case are materially the same, it presents no difficulty. Since the revenue has not brought on record the component of the exchange rate gains representing the appreciation in money value, we take the gross profit rate of 48 per cent as nearly correct. In this view of the matter, we hold that disparity rate of 48 per cent adopted by the assessee calls for no interference. The second point for consideration is the value to be adopted in converting the asking price. We have pointed out earlier that the scientific approach would be to adopt the exchange rate prevailing on the last day of the accounting period, but this will result in higher profits without giving the assessee the benefit of similar approach for valuing the opening stock also. No such exercise has been done by the ITO for the opening stock while enhancing the value for the closing stock. In the absence of any details before us, we presume that such an exercise for the opening stock will off set the increase in the closing stock, resulting in no addition on this account. That being so we do not find any justification for enhancing the asking price of the closing stock. For these reasons, we refrain to interfere with the order of the Commissioner (Appeals) in deleting the addition of Rs. 7,17,844. Since the ITO has not ventured to disturb the sales with reference to exchange rates on the actual dates of sales, not pointed out any omission in sales or closing stock or inflation in purchases, we refrain to go into these aspects. 18. The second ground of appeal reads as under : The learned Commissioner (Appeals) has erred in holding that since the export sales constitute 75 per cent of the total sales, it would be reasonable to treat 75 per cent of the expenses as relating to export instead of 50 per cent thereby directing the ITO to modify the computation accordingly.
The assessee claimed weighted deduction under Section 35B of the Act on expenditure aggregating to Rs. 69,770 under various heads as detailed below :--------------------------------------------------------------------------------Head of account Amount of expenses Amount in respect of debited under th which weighted deduc---------------------------------------------------------------------------------Shop expenses 20,401 7,000Postage 19,344 15,000Salaries 17,825 12,000Travelling expenses 26,237 22,897Rent 1,200 1,000Stationery 1,981 1,200Conveyance 7,975 1,000Commission 9,680 9,680 ------------ ------------ 19. The ITO after considering the expenditure under various heads came to the conclusion that expenses of Rs. 42,425 alone could be considered for weighted deduction under Section 35B. Details of his working of admissible expenses of Rs. 42,425 are as under :(i) Advertisement expenses 6,419(ii) Commission 9,680(iii) Foreign travelling expenses 10,000(iv) Postage 11,647(v) Salaries 17,825(vi) Rent 1,280(vii)Stationery 1,981 ---------On behalf of these 16,326 --------- The weighted deduction at the rate of one-third of expenses of Rs. 42,425 was allowed by the ITO. The ITO observed that the assessee was mainly engaged in the export of precious stones. During the accounting period relevant to the assessment year under appeal, total sales were at Rs. 15,79,947 out of which export sales were to the extent of Rs. 12,50,280. The ITO, therefore, observed that the export activities of the assessee appeared to be half of the total business. In view of this position, he was of the opinion that expenses on postage, salary, rent and stationery to the extent of half of the claim could only qualify for deduction under Section 35B. This is how the ITO worked out the qualifying amount for deduction under Section 35B at Rs. 42,425. The assessee aggrieved against the above working of the ITO went up in appeal before the Commissioner (Appeals). One of the claims was that the export sales were more than 75 per cent of the total sales and, therefore, the ITO was wrong in observing that only 50 per cent of the expenditure was admissible for weighted deduction under Section 35B.The Commissioner (Appeals) accepted this contention and held that since the export sales constituted 75 per cent of the total sales, it would be more reasonable to treat 75 per cent of the expenses as relating to export instead of 50 per cent as adopted by the ITO. He, therefore, directed the ITO to modify the computation for deduction under Section 35B accordingly.
20. The revenue is aggrieved against the above direction given by the Commissioner (Appeals). Shri H.R. Lodha, the learned departmental representative did not seriously argue this ground of appeal. It may be pointed out that while allocating the expenses between qualifying and non-qualifying expenses under Section 35B, the ITO took into consideration that export sales included in the total sales were at 50 per cent. The ITO has also mentioned the figures of total sales at Rs. 15,79,946 and the export sales included therein at Rs. 12,50,280. The ITO's findings that export sales constitute 50 per cent of the total sales seem to be arithmetically incorrect. The percentage of export sales with reference to the total sales roughly worked out to about 80 per cent whereas the Commissioner (Appeals) has apportioned such expenses as covered under Sections 35B to 75 per cent. In such circumstances, we do not find any justification to interfere with the order of the Commissioner (Appeals) on this account.
1. I entirely agree with my learned brother Shri Ram Rattan that the appeal should be dismissed. However, I wish to add a few lines in further support of his conclusions.
2. In this case, the ITO accepted the gross profit rate disclosed by the assessee. I wonder how the ITO can interfere with the valuation of the closing stock. He has not touched either the opening stock, the purchases or the sales and having accepted the gross profit, there was nothing left for him except to accept whatever was the closing stock disclosed by the assessee. In a trading account, no doubt the gross profit is the resultant factor taking into account the opening stock, the purchases on one side and sales and closing stock on the other.
There are altogether 5 items. The ITO accepted four of the items as disclosed by the assessee and the fifth one is an automatic resultant.
In this case it so happened that the opening stock, the purchases, the sales and the gross profit have been accepted and, therefore, the fifth resultant factor, namely, the closing stock has to be accepted.
3. I may also add that the exercise of the ITO in tinkering with the closing stock is futile, inasmuch as, the closing stock of this year will have to be taken as opening stock of the next year and this process goes on with no benefit to the revenue. In a case of this nature, the only and proper method would be to find out whether the gross profit disclosed by an assessee is reasonable. Once it is found that the gross profit disclosed is reasonable, by and large, nothing further need be made unless there are very compelling circumstances.
1. I concur with the conclusions reached by the learned Accountant Member and the Vice President.