M. S. Sanklecha, J. -This Reference in respect of Assessment Year 198586 under Section 256(1) of the Income Tax Act, 1961 (the Act) is made by the Income Tax Appellate Tribunal (Tribunal), seeking our opinion on the following question of law:
“Whether on the facts and in the circumstances of the case, the Tribunal was right in law in setting aside the order of the Commissioner of Income Tax and restoring that of the Income Tax Officer allowing the liability on account of customs duty at Rs. 1,78,83,846/?”.
2. The Respondent-Assessee is a firm. During the Assessment Year 198586, it has purchased 600 metric tonnes of imported synthetic waste from M/s. Ajay Woolen Mills and 350 metric tonnes of cloth with 250 metric tonnes of manufactured TOPS , using imported acrylic staple fiber from M/s. Sanjeev Woolen Mills. These goods were purchased under Agreements dated 4th January, 1984 and 5th January, 1984. The price as agreed in both the cases was the gross costs to the seller with a net profit of Rs. 1/per kg to M/s. Ajay Woolen Mills and Rs. 1.50 kg. to M/s. Sanjeev Woolen Mills. The gross costs included all expenditure incurred by the seller from the opening of letter of credit up to the final execution of the contract for supplying the goods to the appellant. However, as there was uncertainty about the incidence of customs duties, the parties inserted a clause in the two agreements by another agreement. This further clause was to make it clear that any liability with respect to duty of customs payable by the seller, would be a part of the costs and the buyer would pay for the same. The inserted clause read as under :
“To avoid any misunderstanding and confusion at some later date, it is hereby stipulated that although the present stage, C.V.D. which comes to Rs. 36/per kg. is Auxiliary duty, not applicable in terms of Court Orders on the consignments being imported by the seller which the seller, in turn, has agreed to supply to the buyer, but in case at some later stage, any such liability occurs and any duty is required to be paid, the same too, will be the exclusive liability of the Buyer as the same will be nothing but a part of the cost and for this purpose, the buyer has undertaken to stand guarantee in any manner acceptable to the customs or the Bank to the effect that in case any such duty becomes payable at any stage, the same will be the exclusive liability of the buyer and not that of the seller by virtue of this Agreement.”
3. Subsequent to the above agreement, there was an increase in the rate of customs duty payable on the imported goods required for execution of the two contracts by M/s. Ajay Woolen Mills and M/s. Sanjeev Woolen Mills. Consequently, customs duty become payable at Rs. 1.78 Crores on the imports. This amount was payable in terms of the contract by the Respondent-Assessee to its seller as a part of the cost of the goods.
4. Consequently, it debited the sum of Rs. 1.78 crores to its Profit & Loss Account while determining its income chargeable to tax under the Act in its return of Income for Assessment Year 198586. The Assessing Officer while completing assessment under Section 143(3) of the Act, by order dated 8th November, 1985 also accepted the expenditure incurred of Rs. 1.78 Crores (on account of customs duty) being debited to the Profit & Loss Account and determined tax payable by the Respondent-Assessee at Rs. 1.37 lakhs.
5. Thereafter, the Commissioner of Income Tax (CIT) in exercise of its powers under Section 263 of the Act, passed an order dated 24th March, 1988 reversing the Assessment Order dated 8th November, 1985. By the order dated 24th March, 1988, the CIT inter alia, held that the amount of Rs. 1.78 Crores was a contingent liability as the seller of goods i.e. Respondent-Assessee had challenged the same in the Supreme Court and the payment of the same to customs had been postponed and thus, could not be allowed as an expenditure for the subject Assessment Year. Consequently, CIT by order dated 24th March, 1988 directed the Income Tax Officer to revise the assessment and recompute the Respondent-Assessee's income after disallowing the claim of Rs. 1.78 Crores as expenditure debited to Profit & Loss Account in respect of Assessment Year 198586.
6. Being aggrieved, the Respondent-Assessee carried the issue in appeal to the Tribunal. By an order dated 17th July, 1989, the Tribunal allowed the Respondent-Assessee's appeal, inter alia, holding that Respondent-Assessee was following the mercantile system of accounting. Therefore, the liability is to be allowed as the deduction on accrual basis. It further held that the liability was a certain and quantified liability. The amount of Rs. 1.78 Crores had been quantified by the Customs Department. Further, the Tribunal held that the liability to pay the customs duty by the Respondent-Assessee, was a part of the sale price to the two sellers and consequently, ought to be allowed as an expenditure for purchase of goods. In the above view, the Appeal of the Respondent-Assessee was allowed.
7. Mr. Chhotaray, learned Counsel appearing for the Revenue in support of the appeal makes the following submissions :
(a) The amount of Rs. 1.78 Crores being the customs duty which is payable as a part of consideration of goods, was not reflected in the bill of seller. Consequently, same was not offered to tax by the seller of the goods. Thus, the Respondent-Assessee could not claim an expenditure of Rs. 1.78 Crores to reduce to its profit which was chargeable to tax;
(b) The amount of Rs. 1.78 Crores is not an ascertained liability but a contingent liability. This is for the reason that the seller of the goods has challenged the levy of customs duty and the issue was at the relevant time, pending before the Supreme Court which had granted a stay of the payment. It is therefore submitted that the liability had not accrued during the subject assessment year and, therefore, could not be allowed as a deduction; and
(c) Reliance is placed on the decision of the Apex Court in Mcdowell and Co. Vs. ITO 154 ITR 148 to contend that it covers the issue completely in favour of the Revenue. Thus, the question as raised be answered in its favour.
8. As against the above, Mr. S. P. Goyal, partner of the Respondent-Assessee, appearing inperson in support of the impugned order of the Tribunal submits as under:
(a) The present Reference has been made in 1998 i.e. nine years after the date of the order of the Tribunal on 18th July, 1989. Therefore, time barred; and
(b) On merits, reliance is placed upon the reasons mentioned in the order dated 17th July, 1989 of the Tribunal to contend that the question of law as framed should be answered in favour of the Respondent-Assessee;
9. The objection of the Respondent-Assessee that the Reference made to this Court is time barred, is without substance. It is not the case of the Respondent-Assessee that the Reference Application before the Tribunal was not made within 60 days by the Commissioner of Income Tax from the receipt of the order dated 17th July, 1989 passed by the Tribunal. The time taken by the Tribunal to dispose of the Reference Application filed by the Revenue, cannot be held against the Revenue. Thus, the objection taken by the Respondent-Assessee to answer the question posed for our consideration is without any merit.
10. Now, turning to the merits of the issue, it is seen that this is a case of an Assessee being charged to tax on its profits and gains of business under Section 28 of the Act. The charge of income tax in such a case is not on the gross income / receipts but only profits and gains of business. Section 29 of the Act provides the manner in which the profits and gains of business or profession is to be computed i.e. in accordance with Section 30 to 43D of the Act. Section 37 of the Act is a general / residury provision which allows all expenditure incurred wholly and exclusively for the purposes of the business to be deducted from income in computing profits and gains of business. The expenditure which is incurred for purchase of goods for the purpose of sale would be an expenditure allowable for the purpose of computing the profits and gains of business. One more feature which must not be lost sight of i.e. an assessee is entitled to determine its profits and gains of business either on receipt basis or on mercantile basis (Section 145 of the Act). Where an assessee maintains its books of account, on receipt basis, the same only takes into account the amounts actually received and amounts actually expended / spent to determine the profits and gains for the Assessment Year. On the other hand, where the books of accounts are maintained on Mercantile system of Accounting, it is as explained by the Apex Court in Keshav Mills Vs. CIT 23 ITR 230 to be “that system which brings into credit what is due, immediately it becomes legally due and before it is actually received and it brings into debit expenditure the amount for which legal liability has been incurred before it is actually disbursed”. Thus, a liability which has occurred during the year has to be taken into account even though it may be discharged / paid – in the future. However, a liability that is not ascertained or that which is contingent is not an expenditure which is available for deduction even under Mercantile System of Accounting. It has to be an actual liability in the present duly ascertainable though payable in future for deduction to be allowed as expenditure. Thus, a disputed liability depending upon the facts of the case may not be considered to be a liability in the present though payable in the future. So far the liability to payment of tax is concerned, the Apex Court in Kedarnath Jute Mills Co. Ltd, v/s. CIT 82 ITR 363 – has, inter alia, held that once a liability to pay Sales Tax is attracted (on purchase / sale of goods) merely because the Assessee has taken proceedings to wipe out and/or reduce the liability by approaching the Court, it would not cease to be a liability till such time as an higher Authority or Court wipes out the liability. It must be pointed out that w.e.f. 1st April, 1984, Section 43B of the Act provides no deduction of any services payable as tax would be allowed unless it is actually paid in the subject Assessment Year.
11. In the context of the above position in law, we shall now consider the submission on merits.
12. The first submission made on behalf of the Revenue is that the amount of Rs. 1.78 Crores cannot be allowed as expenditure incurred for purchase of goods, as the same was not shown in the bill of seller. However, this is not factually correct as the impugned order of the Tribunal at page 4 para 6 thereof reads as under:
“6:Observation of the CIT that the bills did not include this liability is also not correct in view of his own statement that the following note was appended at the end of the bill:
“Subject to your liability of Rs...... against custom claim under dispute.”
This in our opinion, is a clear acknowledgment by the assessee as well as the sellers that consideration for the sale was the price plus the custom duty.”
In any case, the agreements between the parties provides that the consideration payable for the purchase of goods included within it, duty of customs payable on the imported goods, as a part of the costs incurred by the seller. Therefore, so far as the Respondent-Assessee is concerned, the costs of purchase of goods is not only the expenses incurred by the seller from the opening of letter of credit but continue to run till the execution of the contract. The inserted clause only explicitly provides that customs duty paid/payable for the raw materials would also be included in the costs of the goods. The bills which were issued by the seller, specifically provides that the bills have been issued subject to the liability of the buyer to pay customs duty which is under dispute.
13. The contention of Mr. Chhotrary that the seller had not shown the aforesaid consideration of Rs. 1.78 Crores as his receipt of sale of the goods and, therefore, the buyer of the goods i.e. Respondent-Assessee cannot claim the same as a deduction is not sustainable. The remedy, if any of the Revenue to bring to tax the income of Rs. 1.78 Crores in the hands of the seller of the goods. There is nothing on record to indicate that the seller of the goods has not shown the aforesaid consideration in its return of income and offered it to tax. This submission on the part of Mr. Chhotrary, is not supported by the facts on record. In any case, the buyer of the goods cannot be made liable to tax on the consideration paid by him to the seller of goods only because the seller of goods has failed to take it into consideration as a part of his income while discharging its obligation to pay tax under the Act. Thus, there is no merit in the first submission made on behalf of the Revenue.
14. It is next submitted that the amount of Rs. 1.78 Crores payable by the Respondent-Assessee to the Appellant is a contingent liability as the seller of the goods was disputing the customs duty payable with the Customs Department and the Apex Court had also granted a stay of recovery of the dues of customs from the sellers of the goods. It cannot be disputed that the Customs Department had raised a demand of Rs. 1.78 Crores upon the seller of the goods i.e. M/s. Ajay Woolen Mills & M/s. Sanjeev Woolen Mills. This amount was a part of the consideration payable by the Respondent-Assessee to the seller of goods. The mere fact that the seller of the goods had obtained a stay, would not by itself result in the same being considered as an unascertained and unqualified liability. The stay granted by the Supreme Court has merely kept in abeyance demand of Rs. 1.78 Crores payable by the seller to the Customs Department. The liability to pay the customs duty to the State under the Customs Act is undisputedly of the seller of the goods. The nonpayment of customs duty by the seller of the goods would invite penalty, prosecution etc. upon the seller of the goods who had imported the raw materials. The Respondent-Assessee is liable to pay to the sellers the price of the goods which in terms of the bargain is cost plus Rs. 1/per kg. or Rs. 1.50/per kg. The entire consideration of customs duty which has been demanded by the Customs Department of the seller of the goods is part of the price so far as the seller and the Respondent-Assessee is concerned. Moreover, as the Respondent-Assessee is admittedly following the Mercantile Systems of Accounting and as held by the Apex Court in Kedarnath Jute Mills (supra), mere challenge to the demand by the seller may not by itself lead to the liability ceasing. Although, the seller of the goods may not be able to claim/obtain a deduction on the above account as the same has not been paid in terms of Section 43B of the Act. However, this does not in any way deprive the RespondentAssesse of the deduction of the amounts paid for purchase of goods. Thus, we are not able to accept the submission on behalf of the Revenue. Thus, the Respondent-Assessee would be entitled to deduct the aforesaid amount of Rs. 1.78 Crores as consideration paid for the goods in the subject Assessment Year. In any case, as observed by the Tribunal, if the Apex Court holds that no custom duty is payable and quashes the demand of the Customs Department, then the consideration payable for the goods would stand reduced by virtue of Section 41 of the Act, the very amount of Rs. 1.78 Crores or the extent to which the Apex Court sets aside the demand. Therefore, Respondent-Assessee would be liable to pay tax under Section 41 of the Act on remission as its liability to pay for the goods purchased from the seller would stands reduced.
15. It was next contended on behalf of the Revenue that in any case, the decision in Mcdowell & Company Ltd. (supra) would cover the issue in favour of the Revenue. It is submitted that the entire exercise undertaken by the Respondent-Assessee was only to avail deduction in respect of customs duty payable which the importer/seller of the goods would not get in the absence of making payment of duty of customs on import of the goods in view of Section 43B of the Act. It is submitted that this entire exercise has been done only to evade payment of tax. It is submitted that even in case of Mcdowell & Company Ltd. (supra), such an exercise was not permitted. This submission fails to notice difference in facts in this case from the facts in Mcdowell & Company Ltd. (supra). In anycase, the Apex Court in UOI v/s. Azadi Bachao Andolan 2004 (10) SCC 1 an act which is otherwise valid in law, cannot be treated as nonest on the basis of subjective assessment by the Assessing Officer of the real motive of the Assessee. In this case, the plain bargain between the parties in respect of the price of goods is costs + Rs. 1 or Rs. 1.50 per kg. The costs include customs duties payable on imported goods. The further insertion of a clause in the Agreements is only to ensure that increase in the customs duty payable on the imported goods would also be considered to be a part of the costs i.e. purchase price. This in fact is finding of fact arrived at by the Tribunal and no issue in respect of it being perverse, is referred to us. In any event, we are unable to understand how the agreement arrived at between the parties is a colourable device or a dubious method resorted to by the Respondent-Assessee. Thus, the decision in Mcdowell & Company Ltd. (supra) has no application to the present facts.
16. Moreover, the facts in Mcdowell & Company Ltd., (supra) was that a manufacturer of liquor was required to pay Sales Tax on the basis of its turnover. Under the State Excise Act, the excise duty was payable on removal of liquor from the distilleries and only if the excise duty has been paid to the Excise Authority of the State, the goods could be removed. This excise duty element was also to be included in the turnover of M/s. Mcdowell & Company Ltd. (supra). However, M/s. Mcdowell & Company Ltd. (supra) asked the buyers of liquor to pay directly to the State the excise duty on the liquor and obtain pass in respect of the liquor it is seeking to remove from the Appellant's factory. On receipt of the pass, the liquor would be removed from the manufacturing premises and sold to the wholesaler. By this mode, M/s. Mcdowell & Company Ltd. (supra) sought to reduce sales tax by not including the excise duty paid in its turnover. The Court frowned upon the entire exercise to hold that this arrangement was done only so as to avoid payment of tax by colourable device. This in the context of the Sales Tax Act, State Excise Act and Rules made thereunder, particularly the amended Rules 76 & 79 of the Distillery Rules. In that view of the matter, the Supreme Court held that the sales tax is payable on the entire turnover which include the excise duty which was paid by the buyer of the liquor to the State Government directly without it ever becoming a part of M/s. Mcdowell & Company Ltd. (supra) turnover. We are are unable to understand how the facts of the aforesaid case has any application to the present case. The customs duty, if any, is payable by the importer at the time of import and clearance of the goods. The selling price of the goods is on the basis of costs + Rs. 1/. The costs includes amongst other things, the customs duty which has been paid or which would have to be paid on the import of the goods. Thus, the Respondent-Assessee is obliged to pay the consideration in accordance with the terms of contract entered into between the Respondent-Assessee and its sellers. Thus, the decision in M/s. Mcdowell & Company Ltd. (supra) is not applicable to the present facts and does not conclude the issue in its favour as contended by the Revenue.
17. In view of the above, we answer the question as framed for our opinion in the following terms:-
In the affirmative i.e. in favour of the Respondent-Assessee and against the Revenue.
18. Reference Application is disposed of in the above terms. No order as to costs.