GP Estimation Based Solely on Subsequent Years’ GP Rate Not Justified: ITAT Allahabad

Jai Bajrang Gur Bhandar Vs ITO (ITAT Allahabad)

The Income Tax Appellate Tribunal (ITAT), Allahabad partly allowed the assessee’s appeal against the order of the Commissioner of Income Tax (Appeals), National Faceless Appeal Centre (NFAC) dated 08.11.2023, which had confirmed the addition of ₹12,25,364 by applying the gross profit (GP) rate of the subsequent assessment year (AY 2018-19) to AY 2017-18. The appeal was confined to the enhancement of gross profit, as the additions relating to estimated net profit and Section 69A had already been deleted by the CIT(A).

The assessee, a partnership firm engaged in wholesale trading of Gur, sugar, dal and other commodities, filed its return for AY 2017-18 declaring a total income of ₹2,38,450. During scrutiny, the Assessing Officer (AO) found that bank transactions were not commensurate with the purchases and sales disclosed, gross profit remained 1.76% despite an increase in sales exceeding ₹2 crore, discrepancies existed in cash-in-hand balances, and the assessee had not produced complete books of account, sales and purchase vouchers, or day-to-day sales records for part of the financial year. The AO also noted that the assessee did not fully comply with notices and that the stock position as on 08.11.2016 could not be verified. Accordingly, the AO rejected the books of account under Section 145(3) and estimated the gross profit at 3.6%, being the GP rate disclosed by the assessee in AY 2018-19. Based on this, the AO made an addition of ₹12,25,364 towards gross profit, an addition of ₹5,80,953 towards net profit, and a ₹45 lakh addition under Section 69A taxable under Section 115BBE.

On appeal, the CIT(A), NFAC upheld the gross profit addition of ₹12,25,364 by accepting the application of the 3.6% GP rate, while deleting the net profit addition and the Section 69A addition. The Tribunal noted that no specific reasons were recorded by the CIT(A) for sustaining the enhanced GP addition.

Before the Tribunal, the assessee contended that application of the subsequent year’s gross profit rate was arbitrary and illegal, and that income should instead have been estimated based on the past history of the assessee or comparable cases relating to the relevant year. The assessee argued that the AO had not issued any show cause notice or sought clarification before adopting the GP rate of AY 2018-19. Reliance was placed on Raj Auto Wheels (P.) Ltd. v. ACIT, where it was observed that results of a subsequent assessment year cannot be applied to a preceding year, and Om Prakash Singh v. ACIT, where the Tribunal estimated income by considering the average trading results of earlier years.

The Department argued that past history cannot be the sole basis for estimating profits where books of account have been rejected under Section 145(3). It relied upon judicial decisions including CIT v. Chadha Automobiles (India), ACIT v. Skyline Builders, Aggarwal Construction Co. v. CIT, and S.P. Construction v. ITO, contending that rejection of books permits estimation on a reasonable basis and that accepted results of earlier years do not create any vested right.

The Tribunal observed that the rejection of books under Section 145(3) had not been challenged by the assessee, and therefore the only issue was the appropriate estimation of gross profit. It held that estimation of gross profit is a question of fact depending upon the circumstances of each case, with judicial precedents serving only as guidance. The Tribunal noted that the AO had inferred a correlation between higher turnover and higher gross profit by relying solely on the GP disclosed in the immediately succeeding year. It also observed that the cases cited by the assessee were factually distinguishable, while the Department’s reliance on CIT v. Chadha Automobiles (India) was more relevant. That decision held that past assessment results cannot be the sole basis where books are rejected, but that both preceding and succeeding trading results should be considered in estimating profits.

The Tribunal further observed that the assessment followed large cash deposits during the demonetisation period, that the assessee failed to produce complete books of account or satisfactory explanations, and that there was an increase of more than 50% in turnover during FY 2016-17 without any explanation. It also noted that gross profit more than doubled in the immediately succeeding year, and no explanation was provided for such increase. The Tribunal held that the succeeding year’s trading results could not be ignored, but at the same time could not be adopted as the sole criterion for determining the gross profit for the year under appeal, particularly when the preceding years’ trading results had been accepted by the Department.

Applying the principles laid down in CIT v. Chadha Automobiles (India), the Tribunal held that the appropriate methodology was to consider both the previous and succeeding years’ gross profit rates. Accordingly, it estimated the gross profit at 2.68% of gross receipts, being the average of the gross profit rates declared before and after the assessment year under consideration. The appeal was partly allowed to this extent.

FULL TEXT OF THE ORDER OF ITAT ALLAHABAD

This appeal has been filed against the order of the ld. CIT(A), NFAC under section 250 of the Income Tax Act, 1961 on 8.11.2023, wherein the ld. CIT(A) has confirmed the order of the ld. ITO-1(2), Allahabad to the extent of upholding the enhancement of gross profit. The grounds of appeal are as under:-

“i. Because the Ld. Commissioner of Income Tax (Appeals) has wrongly confirmed the addition of Rs. 12,25,364/- which was made by application of subsequent year (A.Y. 2018-19) Rate of Gross Profit disclosed by the Appellant.

The addition is arbitrary & illegal being based on the subsequent year rate rather than the Past History or a comparative case of the concerned year, the addition deserves to be deleted.

ii. Because the order is bad in the eyes of law and against the facts.”

2. The facts of the case are that the assessee is a partnership firm deriving income from the business of wholesale trading of Gur, Sugar, Dal etc,. It filed its return of income for the assessment year 2017-18 on 31.10.2017, declaring a total income of Rs. 2,38,450/-. The case was selected for scrutiny under CASS. During the assessment proceedings, after examination of the books of accounts, the ld. AO observed that the debit and credit entries in the bank account were not commensurate with the purchases and sales, as declared by the assessee. The ld. AO also observed, that despite an increase in sale by more than Rs 02 Crores during the financial year 2016-17, the gross profit still remained at 1.76%, which was the identical figure for the financial year 2015-16. The Assessing Officer also observed discrepancies between the cash in hand as on 31.03.2016, reflected in the cash book and in the audit report, which in his view showed that the books of accounts that assessee maintained, were not authentic. The Assessing Officer also observed, that the assessee had only filed copy of cash book, ledger and day to day sale for the period 9.11.2016 to 31.12.2016, but had not filed any sales / purchase vouchers or accounts of day to day sale for the period 1.04.2016 to 8.11.2016. He brought on record the fact that during the course of assessment, the assessee was either non­compliant to notices or filed incomplete submissions, which were not fully compliant with the information called for in the notice. The Assessing Officer records that on account of this, he could not verify the status of stock as on 8.11.2016. Therefore, he rejected the books of the assessee under section 145(3), holding that he was not satisfied about the correctness or completeness of the accounts in view of the fact that they were not produced and furthermore, satisfactory explanations were not filed in response to his notices. He observed that there was a huge / abnormal increase in the sales and cash received during the demonetization period and that the sales of the assessee were more than Rs. 02 Crores from the sales figures of 2015-16, yet there was no change in the gross profit rate. He reproduced a comparative chart of the assessee’s sale, gross profit, gross profit rate, net profit and net profit rate over the past three years and after rejecting the books of accounts adopted the gross profit rate shown by the assessee in the subsequent assessment year, i.e. 3.6%, as the estimated gross profit for this year and on that account he made an addition of Rs. 12,25,364/- to the income of the assessee on account of gross profit and addition of Rs. 5,80,953/- on account of net profit. He also made an addition of Rs. 45 Lacs under section 69A and brought the same to tax at an enhanced rate, as per the provisions of section 115BBE.

4. Aggrieved with the said additions, the assessee went in appeal to the ld. CIT(A), Allahabad. Subsequently, the appeal was migrated to the National Faceless Appeal Centre. Upon considering all the grounds of appeal preferred before him, the ld. CIT(A) NFAC upheld the determination of gross profit at 3.6% of total gross receipts and thereby the addition of Rs. 12,25,364/-. However, he quashed the addition of Rs. 5,80,953/- on account of estimated net profit addition and also the addition of Rs. 45 lacs made under section 69A. While confirming the addition on account of enhanced gross profit, the ld. CIT(A) did not record any specific reasons in his order. The assessee is aggrieved at this sustenance of enhanced gross profit and has accordingly come in appeal before us.

5. A written submission has been filed by the assessee through his Authorized Representative, Sh. Sanjay Kumar, Advocate. The same is reproduced below:-

“B) Facts in Brief

“1. That the Appellant is a partnership firm of more than 40 years and deriving income from the Business of wholesale Trading of Gur, Galla, Dal, Sugar etc. The Case of the appellant was selected for Scrutiny because there was Information with the Department that there were huge deposits made by the appellant during the Demonetization period i.e. 09/11/2016 to 31/12/2016.

2. That while passing the Assessment Order dated 27/12/2019 the Ld. Assessing Officer rejected the Books of Accounts due to the reason mentioned in the Assessment Order and made addition of Rs. 45,00,000/- u/s 69A (Page And further made Addition applying the proviso to Section 145(3) of Rs12,25,374/- applying the Subsequent year(A.Y.2018-19) rate of Gross Profit and also adding Rs. 5,80,953/-applying the rate of Net profit Rate.

3. That in the Appeal before the NFAC, the Appeal was partly allowed and only the addition of Rs 12,25,374/- was confirmed by the Commissioner of Income Tax Appeals vide Order dated 08/11/2023 against which the Appeal has been filed before the. Hon’ble Income Tax Appellate Tribunal.

4. That the Comparative Sales, G.P. & N.P. with Rate of Past two years and the concerned year (AY. 2017-18) of the appellant is as under :-

The Comparative Gross Profit Rate of the year and 2 past years are as under :-

The Trading Result for subsequent year i.e. A.Y. 2017-18 are as under:-

For your kind reference the Copy of Audited Profit & Loss Account of above 4 years is enclosed for your reference as Annexure 1 to 4.

C) Submissions

The only issue in Appeal is the Estimation of Income by Application of subsequent year Rate of GP on the preceding year and making an addition of Rs 12,25,364/-

1) It is humbly submitted that the Ld. Commissioner of Income Tax (Appeals) has wrongly, arbitrarily & illegally confirmed the Addition of Rs.12,25,364/- which was made by Application of Subsequent Year (A.Y.2018-19) Rate of Gross Profit disclosed by the Appellant.

Rather than arriving at the Estimate of Income on the basis of Past History or Comparative case of the concerned year.

2) The Ld. Assessing Officer never sought any clarification from the Appellant or issued a Show Cause before applying the enhanced Rate of Gross Profit of subsequent year (A.Y.2018-19) in the concerned year (A.Y.2017-18) The addition is wrong, arbitrary and illegal.

Case Laws relied upon ;-

A) Result of subsequent year cannot be applied

In the Appeal of Raj Auto Wheels (P) Ltd Vs ACIT (ITAT Jaipur) Appeal Number: ITA No. 929/JP/2016 vide Order dated Date of 09/11/2022 for the A.Y.2009-10, The Hon’ ITAT in last few lines of Page 20 observed that

“Coming to the correctness of the application of the GP rate of 3.25% by the AO, we find that the AO in this year, taking the declared GP rate at 0.05% and considering the case of Rellan Motors Pvt. Ltd for AY 2013-14 which has declared GP rate of 3.92%, applied 3.25%. Firstly, we find that it was a case of AY 2013-14 which is later to the year under consideration. Needless to say, that the result of the subsequent year cannot be applied in the preceding year.

The Copy of Judgment is enclosed as Annexure 5.

B) Average Rate of Gross Profit Applied considering the Past History and Comparable cases.

The Agra Bench of the Hon’ble Income Tax Appellate Tribunal in I.T.A No. 331/Agra/2016 of A.Y.2011-12 in the case of Shri Om Prakash Singh, 2307, Jheengur Pura, Mathura. PAN: ADMPS3229F (Appellant) Vs.. Asst. Commissioner of Income Tax, Circle-3, Mathura. (Respondent), while partly allowing the Appeal relied upon the Past History & comparable cases and applied the average Rate of past two years (A.Y.2009-10 AND A.Y.2010-11) Kindly see Para 9 onwards of the Judgement which is reproduced below

“9. We have heard both the sides, perused the material on records and the judgments relied upon. We agree with the argument of the learned Sr. D.R that estimation is a pure question of fact. It is also a fact on record that books of account are rejected by invoking provisions of Section 145(3) of the Act, pointing out discrepancies regarding details of sundry creditors, incomplete balance sheet, and no detail of sundry debtors. The assesse has not objected to the rejection of the books of account. Therefore, in absence of any challenge by the assesse the rejection of accounts is final. Thus, after rejection of accounts keeping in mind the judicial guideline available on issue, that after rejection of accounts, the income of the assesse is to be estimated on some reasonable basis for which comparable case and history of the assesse can be taken as a guide.

The comparative position of trading results as appearing in the impugned order is reproduced as under:

It is seen that rate applied by the authorities below is without any basis, no case comparable to the case of the assesse has been cited, application of N.P rate @ 8% is applied without any material on records, ignoring the past trends of NP rate which shows that in A.Y 2009-10 on turnover of Rs.1,90,10,186/- Net Profit of Rs. 3,56,830/-was shown giving N.P rate of 1.88%, and in A.Y 2010-11 upon turnover of Rs. 8,36,63,967/- Net Profit of Rs. 17.04,930/- was disclosed, giving N.P rate of 2.04% as against above in the year under consideration i.e. A.Y. 2011-12 upon Turnover of Rs. 14,35,07,199/-Net Profit of Rs. 29,32,732/- was disclosed which gives N.P rate of 2.04%. Thus, Net Profit of the assesse in filed Returns ranges from 1.88% to 2.04% in the consecutive three assessment years. In A.Y 2010-11, assessment was framed under section 143(3) of the Act vide order dated 2010-11 where income was estimated by application of N.P rate of 5.25%. However, the past history of the assesse on the basis of Returns filed ranges from 1.88% to 2.04% except in A.Y 2010­11 where assesse agreed for being assessed at 5.25%. Keeping in mind the entire factual matrix of the case and finding no evidence or reason for application of N.P rate of 8% we consider it fair, reasonable and logical to apply an average rate of two years referred above i.e. (A.Y 2009-10 N.P rate of 1.88% and A.Y 2010-11 N.P rate of 5.25%) which gives N.P rate of 3.50% as against 2.04% shown by the assesse on turnover of Rs. 14,35,07,199/-. This view of ours is in conformity with the view recently adopted by the Division Bench of Agra ITAT, in ITA No. 330/Agra/2016, order dated 14.05.2018, in the case of Smt. Archana Dutta Vs ACIT, Circle-3, Matura for A.Y 2011-12 in which one of us was the party to the Bench. In this case after due consideration of past history average N.P rate was arrived and applied by the Division Bench. In the referred case, material facts have been found to be same, as assesse therein was also from Mathura and the Assessing officer being the same in person, impugned order was also on same lines and so is the Assessment Year i.e. A.Y. 2011-12. This decision of ours is after consideration of the past history of the assesse and comparable case. Similar view was taken by the Agra Bench in the case of M/s Sri. Siddheshwar Engineers India (P) Ltd. Vs ACIT, Firozabad in ITA No.

We also make it clear that assesse shall not be entitled for any other deduction such as depreciation and interest paid. Thus, ground of appeal No.1 to 4 is partly allowed.”

The Copy of the Judgment is enclosed as Annexure 6.

Prayer:-

In view of above facts and law, it is humbly prayed that the addition made of Rs. 12,25,374/- by Application of Subsequent year Gross Profit Rate deserves to be deleted and such other Orders as deemed fit be passed..”

7. In response to the same, Sh. A.K. Singh, Sr. DR (hereinafter referred to as ‘ld. Sr. DR’) argued that past history could not be the sole basis for determining the gross profit where the book results had specifically been rejected under section 145(3) and past history would not give a vested right to the assessee. He, therefore, prayed that the appeal of the assessee be dismissed. He also filed written submission which is also reproduced below:-

“SUBMISSION

“1. (2011) 13 taxmann.com 152 (Delhi) CIT v. Chadha Automobiles (India) (Encl/pp 1-4) Wherein the Revenue pleaded (Para 8) that the GP declared by the assessee in the last five years was not the safe basis for arriving at the GP rate of year in question as it cannot be presumed that in last five years proper books were maintained. “Held (Parall & 12)- that “The Tribunal could not have made the returns of last five years as the sole basis for arriving at GP rate in the year in question, when the books of accounts are specifically rejected.”…”we have also to keep in mind that in the subsequent two years, higher GP rate was accepted.”

2. Past history cannot be the sole basis where book results are specifically rejected u/s 145(3) and past history would not give a vested right to the assessee-

(2010) 194 Taxman 61 (Cochin Trib), ACIT v. Skyline Builders (Encl/pp 5-11) (2011) 198 Taxman 476 (P&H) Aggarwal Construction Co. v. CIT

(Encl/pp 12-13) (Encl/pp 14-17) (2016) 390 ITR 314 (P&H) S.P. Construction v. ITO

Wherein the assessee inter-alia raised the following substantial question of law:- “(iv) whether….ITAT is justified in applying a net profit rate of 9% on the total gross receipts… especially when in the case of appellant itself, the net profit rate of 2.48% had been accepted by the department for the A.Y. 2005-06 ?” The Hon’ble High Court however observed (Para 5) that “the assessee did not produce relevant details and evidences before the AO and hence dismissed the assessee’s appeal (Para 6),”

8. We have duly considered the facts of the case and the legal precedents cited by both the parties. It is observed that the assessee has not questioned the act of the ld. AO in rejecting the books of accounts under section 145(3). Therefore, this issue is final and accepted by both sides. The only issue that requires determination is what the estimate of gross profit should be, after the rejection of the books of accounts. The estimation of gross profit is purely a question of fact and must necessarily depend on the facts of each case, rather than decisions of higher authorities. At best, those decisions can act as a guide in helping us towards a fair estimation of the assessee’s profits, after considering the facts of the case in question. From a perusal of the order, it appears that, in view of the assesse declaring a higher gross profit in the subsequent year on a higher turnover than previous years, the ld AO has derived a correlation that the increase in turnover would translate into higher gross profits. The assessee has not questioned the rejection of the books of account but challenged the decision of the Ld CIT(A)to confirm the addition of Rs. 12,25,364/- by the application of the rate of gross profit of a subsequent year that had been disclosed by the assesse, rather than arriving at the estimate of income on the basis of past history or comparative case of the concerned year. The assessee’s arguments are based on two decisions of the Hon  ITAT in the cases of Raj Auto Wheels and Omprakash Singh . We have duly considered both these cases

9. The case of Raj Auto Wheels Pvt. Ltd. vs. ACIT ( ITA no 929/JP/2016 is a case wherein the Hon’ble ITAT has held that the addition made on account of gross profit declared by a comparable case i.e. M/s Rellen Motors Pvt. Ltd. was not justified because the assesse was not confronted with the material used against him, because the actual GP rate after considering target incentives was more than that of M/s Rellan Motors and because the authorities below had not rebutted the comparable case cited before them , M/s Ajmer Auto Agency , wherein a loss had been declared in GP rate . It was also stated inter alia, that it was a case of a subsequent assessment year to the year under consideration and the result of a subsequent year could not be applied to a preceding year. There is however no discussion in the order on why the Ld Tribunal held so . The case of Om Prakash Singh vs. ACIT Circle-3, Mathura (ITA No 331/Agra/2016) was a case in which the Assessing Officer had rejected the books of account and applied a rate of 8% as the Net Profit rate .The Hon’ble ITAT Agra Bench, while partly allowing the appeal, held that the Net Profit rate of 8% was applied without citing any comparable case and was applied without any material on record . It therefore estimated the net Profit of the assessee on the average rate of Net Profit shown over the last two years Thus it is observed that the facts of these two cases are somewhat different from that of the assessee. One is a case in which there was inadequate appreciation of the actual gross profit being offered by an assessee and an estimation based on the comparison with another assessee’s trading results in a subsequent year while the other case was where the assessing officer had adopted a flat 8% rate without considering the trading results offered by the assessee in other years, which stood accepted by the Department.

10. The ld. DR, in his submission , has also drawn our attention to several case laws wherein the Hon’ble Courts have upheld the decision of the Assessing Officer to estimate a higher rate of gross profit / net profit in cases where the books of accounts had been rejected under section 145(3), despite the fact that lesser rates of gross profit/ net profit had been accepted by the Department in earlier assessment years. Among the decisions relied upon by the ld. Sr. DR, in our view the decision of the Hon’ble Delhi High Court in the case of CIT vs. Chadha Automobiles (India) (2011) 13 taxman.com 152 Delhi is of particular relevance to the arguments raised by the ld. Sr. DR. In the said order, the Hon’ble High Court has laid down that accounts of the past assessment years could not be the sole basis for arriving at a G.P. rate for the year in question because during the year in question, the books of accounts had been specifically rejected finding discrepancies therein. The Court observed that the discrepancy was found in respect of stock and cash entered into the books of accounts and discovered during survey, due to which the assessee had offered the unexplained amount to tax. The Court further observed that the decision of the Tribunal in considering the gross profit declaration of the last five assessment years, while ignoring the gross profit shown by the assessee in the same year pertaining to the post survey period was incorrect. Therefore, in the opinion of the Court, the proper methodology to determine the gross profit rate was to not only consider the gross profit rate of the previous period but also consider the gross profit rate of the post survey period, because in the subsequent two assessment years, the gross profit rate offered by the assessee had been accepted by the Department. Another noteworthy judgment cited by the learned Sr DR, is the judgment of the ITAT Cochin Bench in the case of ACIT, Circle-2(2), Ernakulam vs. Skyline Builders (2010) 194 Taxman 61 (Cochin) (MAG)/[2010] 4 ITR(T) 48 (Cochin)[12.03.2009] In this case, where the assessee relied heavily on the history of past assessment, the Hon’ble tribunal held that the basic legal proposition was that there is no res judicata for assessment of different assessment years. It held, that while the thread of consistency must be protected as far as possible, there may be situations (like a survey which unearthed discrepancy in the books of account) where the history of past assessment and rule of consistency may not be so relevant and in such circumstances ,it held that the Assessing Officer has sufficient reason to do a deeper scrutiny of the accounts of the assessee. In our view, both these judgments are concerned with situations where the previous accounts of the assessee have been found to be unreliable on account of facts discovered during a survey, but they also lay down the proposition that there is no hard and fast rule that the estimation of Gross Profit must always be done on the basis of the past trading results of the assessee.

11. After analysis of the facts of the assessee’s case, we are of the opinion that the facts of the assessee’s case direct us towards estimating the income of the assessee in the manner laid down by the Hon’ble Delhi High Court the case of CIT vs. Chadha Automobiles (supra) . Assessment done by the assessing officer post deposit of large amount of cash during demonetization, coupled with failure of the assessee to produce any books of accounts or satisfactory replies to justify the trading results claimed by it to explain such deposit , led the assessing officer to reject the books of account as incorrect and incomplete. The Assessee was unable to bring out, at any stage of the proceedings, any special circumstances that could have suddenly led to the enhancement of its turnover in FY 2016-17 by over 50%, leading to an apprehension that it was suppressing its turnover and profits in the years preceding demonetization. Moreover, it is observed that in the year subsequent to demonetization, the assessee more than doubled its gross profit. Again no explanation was ever provided as to the reason for this sudden increase in gross profit that could explain it, as an aberration. Thus, like in the case of CIT vs. Chadha Automobiles (supra), the assessee displayed trading results in the immediately succeeding year that stood accepted by the department. Any fair estimation of the gross profit of the assessee must therefore necessarily take into account the trading results declared by it in the immediately succeeding year . However, we are not in agreement with the Ld AO or the Ld CIT(A) when they adopt the latter years gross profit as the sole criteria to determine the gross profit of the assessee for this assessment year , while ignoring the previous year’s trading results. In doing so they omitted to consider that those rates of preceding years stood accepted by the Department. As pointed out by the Hon Delhi High Court in the case of CIT vs. Chadha Automobiles (supra), the proper methodology should have been to take into consideration the GP rate of the previous period, but at the same time, also consider the GP rate that was offered by the assessee on the same set of facts ,for the succeeding assessment year. Therefore after considering the legal precedents and the facts of the case, we feel that it would be in the interest of justice if the average of the gross profit rate, declared prior to and post the current assessment year, is taken as the estimated gross profit for the year under consideration. We, therefore, estimate the gross profit of the assessee for this assessment year at 2.68% of gross receipts, based on the assessee’s own trading results declared before the Department and accepted by it in previous and subsequent assessment years. Consequently appeal of the assessee is allowed to this extent.

12. In the result, the appeal is partly allowed.

Order pronounced on 12.07.2024 at Allahabad, U.P.