TAX CASES No.22 OF 1999 Against the order dated 4.2.1999 passed by Income Tax Appellate Tribunal, Patna Bench, Patna in R.A. No. 187/Pat/98 arising out of order in ITA No. 263(Pat)/1994 relating to assessment year 1977-78; COMMISSIONER OF INCOME TAX--------------Applicant Versus M/S B.S.FOOD & CIVIL SUPPLIES---------Respondents CORPORATION,PATNA For the applicant:-Mr. Harshwardhan Prasad,Senior Standing Counsel of Income Tax & Mrs. Archna Sinha,Junior Standing Counsel For Corporation:- Mr. R.S.Pradhan,Senior Advocate & Mr. A.N.Rai,Advocate P R E S E N T THE HON'BLE MR. JUSTICE CHANDRAMAULI KUMAR PRASAD THE HON'BLE DR. JUSTICE RAVI RANJAN Prasad & Ranjan,JJ:- The assessee-Bihar State Food & Civil Supplies Corporation,Patna deposited a sum of Rs.62.45 lakhs between February,1977 to 25th of March in its saving account with United Commercial Bank. A sum of Rs.57895 was credited in its account after the close of accounting year relevant to the assessment year,on 23.6.1977.The 2 assessee did not show this amount of interest in the assessment year 1977-78. Auditors of the assessee in its report disclosed that on the bank deposit of Rs.3,80,25,092 the interest to the tune of Rs.5,52,000/- had accrued in the financial year 1977-78. The assessee also did not show this amount in the assessment year 1977-78 but disclosed in the following year i.e. 1978-79. It is common ground that assessee maintained its account under the mercantile system. The Assessing Officer added both amount of interest in the total income of the assessee in the assessment year 1977-78 which was confirmed on appeal by the Commissioner of Income Tax (Appeals). On further appeal by the assessee the Tribunal deleted both the additions on the ground that the amount had been taxed in the following year, then there was no need to upset the accounting practice followed by the assessee in the said year. 3 The revenue filed application for making reference to this Court, which prayer was declined. Thereafter the revenue filed application before this Court under Section 256(2) of the Income Tax Act, hereinafter referred to as the Act. This Court in exercise of the power under Section 256(2) of the Act by order dated 10.1.2000 called upon the Patna Bench of the Income Tax Tribunal to draw up statement of case and refer the question drawn by it for opinion. Accordingly, the Tribunal has drawn up the statement of case and referred the following question for our opinion:- (i) Whether in the facts and circumstances of the case and in law the Hon‟ble Tribunal was justified in deleting the addition of Rs.57,895/- whereas on accrual basis the assessee should have returned this income irrespective of the fact whether the bank passed the entry in the subsequent year? (ii) Whether in the facts and circumstances of the case and in law Ld. Tribunal was justified in deleting the addition of Rs.5,37,852/- in this asstt. Year whereas on accrual basis, it should not have been deleted. Whether on the basis of auditor‟s 4 report para 2.06”interest accurued on such deposit amounting to Rs.5,37,852/- was per our calculation has also not been accounted for” and on the reason cited in Sl.No.1 above, Tribunal was justified in deleting the addition? (iii) Whether in the facts and circumstance of the case the Tribunal was justified in making disallowance of Rs.5,30,196/- being interest of earlier period debited to P & L A/C whereas para 8.04 of auditor‟s report in respect of the prior period adjustment reads as “ A sum of Rs.1,21,239/- has been debited and Rs.5,97,722/- credited on account of „prior period adjustment‟”and no evidence details etc. was produced before A.O., First Appellate Authority? Mr. Harshwardhan Prasad, Senior Standing Counsel, Income Tax, appearing on behalf of the revenue submits that the assessee maintained its account on mercantile basis and admittedly the interest having accrued in the financial year 1977-78 it required to be disclosed in that year and the Tribunal erred in setting aside the order of the Assessing Officer as affirmed by the Commissioner of Income Tax in appeal. Mr. R.S.Pradhan, Senior Advocate appearing on behalf of the assessee, however, contends that even under the mercantile system accrual of real 5 income in the Commercial sense only was chargeable and this must accrue in substance according to the realities of situation. He points out that the interest earned by the assessee has been entered by the bank in the subsequent year. In view of the rival stand the question which falls for determination is as to whether on the theory of real income, interest which had accrued legally to an assessee following the mercantile system of accountancy can be kept out of the net of taxation. In this Country ordinarily two systems of the account keeping are followed. One is the cash system and other the mercantile system. The cash system postulates actual receipt of money whereas the mercantile system is one where accounts are maintained on the basis of entitlement to credit and/or debit. In our opinion, in mercantile system income accrues to the assessee when it becomes due. The fact that the amount of income was received by the assessee later on could not detract or affect the accrual of income. It is 6 well settled that under the cash system it was only actual cash receipts and actual cash payment that were recorded as credits and debits whereas under the mercantile system credit entries are made in respect of the amount due immediately they become legally payable and before they were actually received. The Supreme Court had the occasion to consider this question in the case of State Bank of Travancore Vs.C.I.T.(158 ITR 102) in which it has been held as follows:- “An acceptable formula of co-relating the notion of real income in conjunction with the method of accounting for the purpose of the computation of income for the purpose of taxation is difficult to evolve. Besides, any strait-jacket formula is bound to create problems in its application to every situation. It must depend upon the facts and circumstances of each case. When and how does an income accrue and what are the consequences that follow from accrual of income are well-settled. The accrual must be real taking into account the actuality of the situation. Whether an accrual has taken place or not must, in appropriate cases, be judged on the principles of real income theory. After accrual, non- charging of tax on the same because of certain conduct based on the ipse dixit of a particular assessee cannot be accepted. In determining the question 7 whether it is hypothetical income or whether real income has materialized or not, various factors will have to be taken into account. It would be difficult and improper to extend the concept of real income to all cases depending upon the ipse dixit of the assessee which would then become a value judgment only. What has really accrued to the assessee has to be found out and what has accrued must be considered from the point of view of real income taking the probability or improbability of realization in a realistic manner and dovetailing of these factors together but once the accrual takes place, on the conduct of the parties subsequent to the year of closing an income which has accrued cannot be made “no income.” The Supreme Court in the said case has observed as follows:- “We were invited to abandon legal fundamentalism. With a problem like the present one, it is better to adhere to the basic fundamentals of the law with clarity and consistency than to be carried away by common clichés. The concept of real income certainly is a well-accepted one and must be applied in appropriate cases but with circumspection and must not be called in aid to defeat the fundamental principles of the law of income-tax as developed.” In view of the authoritative pronouncement of the Supreme Court in the case of State Bank of 8 Travancore(Supra), there is no escape from the conclusion that when the assessee is keeping its book of account under the mercantile system the interest has to be calculated on the accrual basis irrespective of the fact that the bank had made the entry in the subsequent year. In view of the discussion aforesaid, we answer both the questions in negative, in favour of the revenue and against the assessee and hold that in the facts and circumstances of the case the Tribunal was not justified in deleting the addition of Rs.57,895/- and Rs.5,37,582/-. This case stands disposed off accordingly. Let a copy of this opinion be forwarded to the Income Tax Tribunal,Patna. (Chandramauli Kr.Prasad,J.) (Dr. Ravi Ranjan,J.) Patna High Court Dated the 31st of July,2008 A.Kumar/NAFR