Undisclosed income

Surcharge — The Proviso to s 113 imposing surcharge on block assessments is retrospective in operation.

The assessee is a manufacturer of hosiery goods and has branches at various places in the country. A search was conducted at the office premises of the assessee and an inventory was prepared of the stock at some of the locations and a portion of the stock was seized. The assessee filed the return of income and as per the return of income, the cost of the closing stock was Rs. 18.87 crores. The AO found that the quantity of physical stocks was in agreement with the books of account. The AO, however, required the assessee to furnish the value of the closing stock at the wholesale price of the stock and after making certain corrections, the same was determined at Rs. 33,01,24,963/-, deducting therefrom the discounts allowed by the assessee to its customers, and the gross profit ratio at 25.53% instead of 29.13% as claimed by the assessee at the average discount rate. The difference was assessed as undisclosed income on the allegation of suppression of valuation of stock. In an appeal, the CIT(A) allowed the appeal of the assessee stating that the AO should have accepted the discount of 29.13% since the books of accounts were found to be correct. Since the stock physically found was in agreement with the books of account, there was no scope for holding that there was any suppression. The CIT(A) did not adjudicate the ground against the levy of surcharge. The Tribunal held that the discount should be allowed at 27%, being the average discount of the preceding two years, and the surcharge was leviable according to the provisions of the Finance Act. Being aggrieved, the assessee has filed the present appeal.

The issue is whether in a case where the AO accepts the physical quantity of the stock and also the books, any undisclosed income can be determined under s 158(b) read with s 158BB on the allegation of undervaluation of stock in the absence of any material and/or finding that the books of account were not correct or did not include and/or reflect any element making up the cost. Whether the rate of tax specified in s 113 was liable to be increased by the surcharge levied under the Finance Act even prior to the insertion of the proviso in s 113 of the Act by the Finance Act, 2002 with effect from 1 June 2002.

The AO had accepted the position that the books of account of the appellant were found to be correct. He further found that the Trial balance sheet and the Profit and Loss account tallied and the gross profit rate of the appellant was also found to be acceptable. The Department had not found the entire stock but it was the appellant who volunteered to give the full facts on those stocks not covered by the search operation. The AO also found from examining the third parties that the discount rates varied between 18.5% and 33. 81% and it varied from party to party, region to region and even from product to product. However, none of any of such instances was found to be incorrect. Therefore, the CIT(A) rightly held that as the stocks were found to be as per the books there was no scope of suppression of stocks or estimation of discount percentage.

In the absence of any finding that any portion of the books of account maintained by the assessee was fictitious or contained wrong entry, the AO was not entitled to make an average of discount without discarding the actual discount given by the assessee for the relevant year as appearing from the books of account. An assessee has a right to give different rates of discount to his different customer depending upon his relation with such customer or on the basis of business policy depending upon the time of sale, particular item of sale or the region or the place of sale, and unless any of the entries relating to such discounts is found to be wrong, the AO is bound to accept the actual discount given by the assessee.

The surcharge is leviable on the rate of tax specified in s 113 as held by the Supreme Court in the case of CIT v Rajiv Bhatara.

If AO accepts the physical quantity of the stock and also the books, no undisclosed income can be determined under s 158(b) read with s 158BB on the allegation of undervaluation of stock in the absence of any material and/or finding that the books of account were not correct — as held by KolHC in Rupa and Co. Ltd. v CIT — In favour of: The Assessee (Partly) ; ITA No. 28 of 2005

Decided on: 19 May 2011