ELCA Cosmetics Pvt Ltd Vs DCIT (ITAT Delhi)
Summary: The Income Tax Appellate Tribunal, Delhi Bench, in ELCA Cosmetics Pvt Ltd Vs DCIT, considered whether an addition of ₹6,00,12,038 relating to a provision for sales returns could validly be made through rectification proceedings under Section 154 of the Income-tax Act, 1961. For AY 2015-16, the assessee had filed a revised return declaring a loss of ₹3,60,48,027. The assessment under Section 143(3) determined income at ₹99,60,767 after disallowances aggregating to ₹4,60,08,794. Subsequently, the Assessing Officer passed an order under Section 154 read with Section 143(3), adding the provision for sales returns and increasing the assessed income to ₹6,99,72,798. The CIT(A) upheld the addition. The Tribunal first considered the delay of 1,751 days in filing the appeal. It accepted the assessee’s explanation that the CIT(A) had passed a consolidated order concerning the original assessment and rectification proceedings, and that the Tribunal’s earlier decision dated 14 February 2025 had granted liberty to challenge the rectification order separately. As the present appeal was filed promptly thereafter, the delay was condoned.
The assessee explained that it marketed cosmetic products with an approximate shelf life of 36 months and was contractually required to accept returns of unsold products from distributors. It had created the provision using historical and current sales-return trends and argued that subsequent actual returns supported the estimate. The assessee compared the liability with warranty provisions estimated on a scientific basis and relied on Bayer Bioscope and Hero Cycles. The Revenue supported the orders of the lower authorities. The Tribunal observed that the treatment of sales-return provisions required examination of the regularly followed accounting method, applicable accounting standards, historical trends and subsequent sales returns. Referring to the reasoning reproduced from Bayer Bioscope concerning Section 145 and the recognition of anticipated losses, it held that the issue required factual and legal deliberation.
The Tribunal further relied on the Supreme Court’s decision in Hero Cycles P. Ltd., which held that a matter requiring examination of facts and law cannot be treated as a mistake apparent from the record. Consequently, the Tribunal concluded that the tax treatment of the ₹6,00,12,038 provision was a debatable issue falling outside the limited scope of Section 154. It directed the Assessing Officer to delete the addition and allowed the assessee’s appeal. The decision turned on the impermissibility of deciding a debatable issue through rectification proceedings, rather than a fresh determination of the provision’s deductibility in regular assessment.
Cases Discussed
- Bayer Bioscope (ITAT Mumbai); ITA No. 5388/M/2009; 21/04/2016: Relied upon regarding the accounting treatment of provisions for sales returns and the need to examine the method of accounting and applicable accounting standards.
- Hero Cycles P. Ltd. (Supreme Court); (1997) 94 Taxman 271; 28/08/1997: Relied upon for the principle that a matter requiring factual and legal examination cannot be rectified as a mistake apparent from the record.
- Decision of ITAT Mumbai in ITA No. 7123/M/2011: Quoted through Bayer Bioscope concerning Section 145, mandatory accounting standards, anticipated losses and provisions for sales returns. The supplied order does not identify the parties or date of this decision.
FULL TEXT OF THE ORIGINAL ORDER OF ITAT DELHI
This appeal by the assessee is preferred against the order of ld. CIT(A)-3, New Delhi dated 04.03.2020 for A.Y 2015-16.
2. It was submitted that the Registry of the ITAT found that the appeal is barred by 1751 days. The assessee explained vide its letter dated 26.03.2025 that the CIT(A) passed a consolidated order dated 4.03.2020 for appeal against the AO’s order u/s 143(3) and order u/s 154. The appeal against the CIT(A) order dated 4.03.2020 was decided by the ITAT on 14.02.2025 wherein it gave liberty to challenge the order u/s 154 separately which was immediately filed on 17.03.2025. We find that the delay in filing the appeal is therefore, adequately explained and hence the same is condoned.
3. The grounds raised by the assessee is two-fold:
(i) addition on account of provision for sales return of Rs. 6,00,12,038/-, and
(ii) treating the said provision as a subject matter of rectification u/s 154 of the Act.
4. Briefly stated, the facts of the case are that the assessee filed its revised return of income for the year under consideration on 31.03.2017 declaring a total loss of Rs 3,60,48,027/- The said ROI was selected for scrutiny and assessment proceedings were concluded vide assessment order dated 18.12.2017 under section 143(3) of the Income-tax Act, 1961 [the Act, for short] assessing the total income u/s 143(3) at Rs 99,60,767/- making disallowances aggregating to Rs 4,60,08,794/-.
Subsequently, the Assessing Officer sought certain clarifications in respect of provision for sales returns amounting to Rs 6,00,12,038/- created during the A.Y under consideration and finding the explanation as not sufficient, the Assessing Officer passed an order under section 154 read with section 143(3) of the Act, adding the provision created for sales return amounting to Rs 6,00,12,038 to the total income of the assessee, thereby computing the total income of the appellant at Rs 6,99,72,798/. The AO’s order was confirmed by the CIT(A) and hence, the assessee is before us.
5. The ld counsel of the assessee submitted that the assessee sells Aramis, Clinique, Tomford, MAC Cosmetics, Estee Lauder, etc. products in India. Such products typically have an expiry period of 36 months from the date of manufacture. As per an arrangement with its distributors, if the distributors are unable to sell the products procured from the appellant within the expiry period, the appellant is liable to accept such unexpired goods from the distributors. Thus, the assessee had a liability to accept the expired products from its distributors incurred during the course of its regular business and provided for such liability by computing the same on a scientific basis during the captioned year, based on historic and current trend of actual sales return during the period. It is the say of the ld. counsel for the assessee that the provision for sales return is computed on a scientific basis, based on past trends.
6. Further the ld. counsel for the assessee contended that the Assessing Officer has passed order u/s 154 of the Act by adding the amount on account of provision of sales return which is a debatable issue and the same cannot be adjudicated u/s 154 of the Act. It was also contended that the actual sales returns in subsequent years were also in line with or more than the aforesaid provision for sales return created. Further, the proposition that provisions for warranty which have been reasonably estimated based on historical trends are considered as ascertained liabilities and not a contingent liability, and hence, should be allowable as a deduction, has been accepted under various judicial precedents.
7. The ld. counsel for the assessee argued that the said judicial precedents could be applied in the case of the assessee considering the provision for sales return of expired unusable goods as similar to warranty costs, which includes, inter-alia, replacement of defective goods. The ld. counsel for the assessee placed reliance on the decision of the co-ordinate bench in Bayer Bioscope in ITA No. 5388/M/2009 order dated 21.04.2016 and the decision of the Hon’ble Supreme Court in the case of Hero Cycles 94 Taxmann 271 order dated 28.08.1997.
8. On the other hand, the ld. DR relied upon the orders of the authorities below.
9. We have heard the rival submissions and have perused the relevant material on record. We find that the co-ordinate bench in the case of Bayer Bioscope [supra] has extensively dealt with the issue of taxability of provisions of sales return where the AO has to examine the method of accounting followed regularly by the assessee and the mandatory accounting standard to be followed. The sales which have been returned in the subsequent years are issues which requires deliberations and enquiries in the facts of the case. The ITAT in Bayer Bioscope [supra] at Para 16 of its order relied on the decision of the Mumbai Bench of the ITAT in ITA No. 7123/M/2011 which has held as under:
“16. Section 145 of the Income Tax Act, as it stands now, inter alia lays down that business income has to be computed “in accordance with the cash or mercantile system of accounting as regularly employed by the assessee”. The only rider to this statutory requirement regarding method of accounting is that “the Central Government may notify, in the official gazette from time to time, accounting standards” and the applicable accounting standards will have to be followed by the assessee in the method of accounting followed. One of these mandatory accounting standard, notified vide notification no. 9949 dated 25th January 1996, inter alia provides that “provisions should be made for all known liabilities and losses even though the amount cannot be determined with certainty and represents only a best estimate in the light of available information”. This approach requires all anticipated losses to be taken into account in computation of income taxable under the head ‘profits and gains from business and profession’. Unlike in the pre amended section, as it stood before 1.4.1997, which provided that “in any case where the accounts are correct and complete to the satisfaction of the Assessing Officer but the method employed is such that, in the opinion of the Assessing Officer, the income cannot properly be deduced therefrom, then the computation shall be made upon such basis and in such manner as the Assessing Officer may determine”, there is no enabling provision now which permits the Assessing Officer to tinker with the profits computed in accordance with the method of accounting so employed under section 145 and as long as the mandatory accounting standards are duly followed. It is not even Assessing Officer’s case that the mandatory accounting standards have not been followed. This analysis of Section 145, read with applicable accounting standards, apart, even on first principles, deduction in respect of anticipated losses, as a measure of prudent accounting principles, cannot be declined. It is only elementary that the accountancy principle of conservatism, which has been duly recognized by the Courts, mandates that anticipated losses are to be provided for in the computation of income but it does not permit anticipated profits to be taken into account till the profits actually arise. Even an anticipated loss, even if it may not have crystallized in the relevant previous year, is to be allowed as a deduction in the computation of business profits. There is no dispute that sales have been returned in the subsequent year and this fact is known before the date of finalization of accounts. Therefore, there is no point in first taking into account income on sales, which never reached finality, and then accounting for loss on sales return in the subsequent year i.e. in which sales return did take place. In our considered view, the approach of the assessee is in consonance with the well settled accountancy principles and the Assessing Officer was not justified in rejecting the same. The disallowance for provision for sales return is, accordingly, deleted.”
10. Respectfully following the same, we are of the considered opinion that provision for sales return and its determination of whether the same is income or not in the instant year, is a debatable issue which cannot be encompassed under the provisions of section 154 of the Act. There are catena of judicial pronouncements which hold that the AO has no power to add any amount to the income u/s 154 of the Act on issues which requires deliberations and enquiries with respect to its facts and law and is debatable. The hon’ble Supreme Court in the case of Hero Cycles P Ltd (1997) 94 Taxman 271(SC) has held that the point which is not examined on facts and in law can not be dealt with as mistake apparent from record. Accordingly, we direct the Assessing Officer to delete the said addition. Grounds raised by the assessee are allowed.
11. In the result, the appeal of the assessee in ITA No. 1571/DEL/2025 is allowed.
The order is pronounced in the open court on 19.08.2025.
