THE HON’BLE SRI JUSTICE B PRAKASH RAO AND THE HON’BLE SRI JUSTICE R KANTHA RAO R.C. No. 65 of 1996 JUDGMENT: (Per Sri Justice B Prakash Rao) This reference arising under section 256 (1) and (2) of the Income Tax Act, 1961 raises the question as to “whether on the facts and circumstances of the case, the Income Tax Appellate Tribunal is correct in holding that the annual value of the property, of which the assessee was the legal owner, cannot be assessed in the hands of the assessee under section 22 of the Income Tax Act?” Heard both sides. Before the issue is taken up for consideration, it necessitates to re- extract the facts which gave raise to the present disputed question, as succinctly narrated from the emanating orders. The assessee firm has filed its return of income on 28.9.1988, declaring a loss of Rs.1,272/-. The firm was engaged in real estate business and during the period from 1979 to 1984 it has constructed a commercial complex known as ‘AL KARIM TRADE CENTRE’ at M.G.Road, Ranigunj, Secunderabad and has sold the flats/shops/floor spaces etc. In response to the notices of hearing issued under section 143 (2) and 142 (1) of the Income Tax Act, the counsel appeared and filed details called for from time to time. Mr Syed Ghousuddin, who is supposed to be assisting the assessee firm, and its auditor in their accounts, was present during the course of hearings. The managing partner of the firm, Sri Ghiasuddin Babukhan on oath stated that Mr Syed Ghousuddin has prepared the profit and loss account and balance sheet of the relevant previous year, Mr Ghousuddin also gave statement on oath. Copies of these statements were made available to the assessee firm. There was a search and seizure operations under sections 132 of the Income Tax Act (for short the Act), in the case of the assessee firm, and its partners. The seized books of accounts were examined and the assessee was allowed to take extracts of the seized papers, which would find mention later in this order. After examining the evidence and details furnished and evidence produced, and after giving due opportunity to the assessee firm of being heard, the assessment was completed. The previous year of the assessee firm is the calendar year (the year ended 31.12.1986). The multistoried complex ‘Al Karim Trade Centre’ contains approximately 190 flats/shops/floor places. The construction was completed before the end of the calendar year 1984 and no building activity took place subsequently. Admittedly, no construction account was maintained as seen from the ledgers for the previous years ended on 31.12.1985, 31.12.1986 and even on 31.12.1987. The assessee firm is following the method of accounting whereby the anticipated profit at 20% of the cost of construction incurred during each previous year (from the commencement of the project is computed and added the cost of construction.) From that total, after deducting the cost of construction and other expenses, the gross profit is arrived at. From the gross profit certain expenses are deducted and the net profit is arrived at and the same is offered as income in the returns filed. The cost of construction together with anticipated profit forms the work-in-progress. The work-in- progress each year is added to the opening work-in-progress and the total is carried to the balance sheet at the end of each previous year. This pattern is continued each year, till the venture is completed. This, in effect, means the income offered, which the project is taking shape, is only on an estimate basis, and the real income from the profit will be assessed only in the year of completion of project. As profit assessed on the estimate basis forms part of the work-in-progress, the difference between the total sale consideration and the work-in-progress (cost of construction plus profit assessed in the earlier years) reflects the total income for the venture, which is to be assessed in the year of completion of the project/venture. The same method of accounting is followed by the other firms of the group viz., M/s. Shahzahan Builders, M/s. Hyderabad Builders and M/s. Babukhan constructions, which were managed by the same persons and assisted and advised by the same accountant for filing the income tax returns and representations. The assessee firm vide its letter dated 26.12.1985 has stated that ‘the business activity i.e., the building complex known as ‘Al Karim Trade Centre’ is completed and a few portions are remaining to be registered in the name of the purchasers, which are likely to be over by 31.3.1986 and the balancing profit or loss, if any, is worked out in the Assessment year 1986-87. If not, they have to wait till 30.6.1987 to file return for declaring profit and loss of the firm for the period ending 31.12.1986, if not changed. Accordingly, the assessee firm has requested for change of previous year from 31.12.1985 to 31.3.1986. However, the request for change of the accounting year has not been acceded to by the department. By another letter dated 4.1.1986, the assessee firm has stated that they can register some of the unsold portion before March, 1986 and complete account can be drawn up for the Assessment year 1986-87 and the venture can be closed if the change of the previous year from 31st December to 31st March is allowed as requested by them. These two letters show that the venture was completed by 31.3.1986 itself and only a few portions remained to be sold as on that date. As on 31.12.1986 i.e., at the end of the accounting year, relevant for the Assessment year 1987-88, all but two portions viz., 23-A and 703 were sold and registered. The plan for the building ‘Al Karim Trade Centre’ seized during the course of the search does not show portion 23-A indicating that it is a subsequent addition. Physical verification has shown that it is in fact a space below the stair case converted into small portion. From the balance sheet filed along with the return of income filed for the Assessment year 1987-88, it is seen that the work in progress was shown at Rs, 1,09,22,118/- and the advance for sale of flats was shown at Rs.1,21,37,700/-. The work in progress was shown at the same figure even in the balance sheet No.B-304/87-88 dated 26.2.1990. As on 31.12.1987 as per the balance sheet filed along with the return of income for the assessment year 1988-89. In fact, the same position is continued even for the Assessment year 1989-90. In the books of accounts for the years ended 31.12.1985 and 31.12.1986 (including the seized books), the amounts received towards sale of flats and shown as ‘Advance for sale of flats’ in the balance sheet are not adjusted towards the sale consideration even in respect of the flats registered, and no entries were passed in the ledger accounts, which show that the books of account of the assessee are incorrect and incomplete. Hence, rejected under section 145 (2) of the Act. It was stated that even assuming for a moment, the income assessable under the Act cannot be properly deduced from the books of accounts of the firm or from the method employed by the assessee. In fact, neither the Managing Partner, Sri Ghiasuddin Babukhan, nor Mr.Ghousuddin , the Accountant, who prepared the profit and loss account and the balance sheet for the Assessment year 1986-87 onwards could say as to when the firm would treat the sale consideration as income and offer the same to tax. It was stated by them that they are filing returns and preparing the statements, i.e., profit and loss account and balance sheet as per the advice given. Thus, though the project was completed and the income has accrued and was realized by the firm, no income was offered for taxation. Hence, the method of accounting followed by the firm, which is not fully explained by them, cannot be accepted, even if it is consistent. As the correct income assessable under the act cannot be deduced therefrom. Hence, the provisions of section 145 (1) applied basing on the books of accounts and the evidence available for computation. The assessee firm is engaged in the construction and sale of flats and it is seen that all the shops/flats/floor spaces are generally sold only for commercial purposes. As the assessee firm does not maintain records to show the stage or the extent to which the construction work is completed, the construction account and the anticipated profit shown by the assessee firm have been accepted upto Assessment year 1985-86. But the position is different for the Assessment years 1986-87 and 1987-88. In this connection, it would be appropriate to refer to the Accounting Standard AS-7 published by the Institute of Chartered Accountants of India in 1985 describing the accounting for construction contracts. This accounting standard applies for construction contracts undertaken by the contractors. There, the contractor undertakes to do a specific construction work for others on specified terms and conditions. In the case of the assessee firm, the assessee firm does a construction work for itself. The only difference is in the case of the construction contracts, there is no sale whereas in the assessee’s case there is a sale of the construction portions, i.e., flats , portions etc. As per the Accounting Standard AS -7, basis for recognizing the revenue on construction contracts can be done in either of the two methods (a) percentage of completion method and (2) completed contract method. PERCENTAGE COMPLETION METHOD: Under the percentage of completion method, the amount of revenue recognized is determined by reference to the stage of completion of the contract activity at the end of each accounting period. The complete details of the method are given in the extracted portion from the accounting standard AS-7 as per annexure. Suffice it to state that all the relevant factors have to be taken into consideration to determine the stage of the completion of contract at the end of the accounting period. COMPLETED CONTRACT METHOD: Under this method, revenue is recognized when the contract is completed or substantially completed. Here also, all the relevant factors are taken into consideration for computing the revenue. The relevant portion is again extract, and given in the annexure. The assessee firm has constructed a multi storied building known as ‘Al Karim Trade Centre’ at M G Road, Secunderabad during the period 1980 to 1984 and the building consists of about 190 flats/portion/floor spaces and at the end of the accounting year ended 31.12.1986 all such portions except two have been sold, and registered and consideration was received before the registration as per the agreements entered into with various purchasers of such portions. Thus, it is clear that 99.5 % of business activity is completed, and the agreements entered into with the flat buyers have been fulfilled and executed. As the assessee firm has entered into contractural agreement with the flat buyers for the construction, and sale and handing over possession, and as mentioned above such handing over and sale was completed in all but two cases. It can be concluded that 99.5 % of the contractual agreements are completed. Even in respect of the unregistered portions, it is clear from the details furnished by the assessee that advances have been received. The amounts were received in full for portion 703 and for portion 23-A out of the total consideration of Rs.45,700/- receivable (for 235.6 sq ft) , Rs.47,000/- was received before 31.12.1986. Therefore, the business activity, i.e., the construction and sale of flats of the assessee firm is completed by 31.12.1986 or it can be definitely said that the contract is substantially completed and the revenue from the business activity should be recognized in the accounting year ended on 31.12.1986 by applying either of the methods, i.e, percentage completion method or completed contract method, as the assessee has completed 99.5 % approximately of its business activity as discussed. The assessee has, thus not only received the income but the income also accrued to the assessee firm in respect of all the flats sold by 31.12.1986. In the assessee’s case, application of either of the above methods of recognizing the revenue will give the same result because 99.5 % completion can also be considered as substantial completion. Hence, the income from the sale of flats upto the end of the accounting year 31st December, 1986 can be computed as below; Total sale consideration received for the portions sold and registered upto the end of the accounting year 31.12.1986 ( i.e., 99.5 % of the total) (This is arrived at by deducting the advance received for the unsold portion from the total advances, which are not adjusted in the books of accounts) LESS: The work in progress (including the cost of construction and the anticipated profit brought to tax upto the end of the accounting year 31.12.1985 ) after deducting the proportionate cost of construction for the unsold flats based on the plainth area for two portions mentioned above 1,19,57,750 1,07,74,861 11,82,889 The difference between the two amounts shown above is to be treated as the income of the assessee firm for the accounting year ended 31.12.1986 (Assessment year 1987-88) i.e., the year of completion of the construction and 99.5 % of the sale. As the sale consideration for the remaining two flats i.e., 703 and 23-A was also received (as seen above) before 31.12.1986 and the entire construction activity was completed long back the income from the sale of these two flats would also become liable for tax in the assessment for the Assessment year 1987-88 itself and income can be computed from the sale of these two flats, as below; Advance for flat No.703 Advance for flat no. 23-A 1,34,250 47,000 1,81,250 LESS: Cost of these two flats: 23-A 236 Sq.ft 703 901 sq ft --------------- 1137 sq ft Cost of 1137 sq ft @ Rs 99.25 per sq ft (The cost of construction per sq ft is worked out as per the books of accounts and statements filed by the assessee from the Assessment year 1981 -82 to 1985-86 1,12,847 68,403 During the search in the assessee’s business premises, these are found in file NO. MBP-(B)-(2) (M/s. Moghul Builders and Planners are the selling agents for the flats fo the assessee firm). These statements were put to Sri S Ghousuddin, who was examined on oath on 5.10.1988. He has identified the seized documents as having prepared by him on the advice of Mr Abdul Razack, Tax Consultant of the Assessee firm. At page 7 of these papers, the profit of the firm for the period 1.1.1985 to 30.11.1985 was computed at Rs.11,78,283/-. At page 9, the income for the purpose of advance tax estimate for the accounting year 1985-86 was shown at Rs.7 lakhs and in fact, an advance tax estimate was filed for the Assessment year 1987-88 on 15th September, 1986 showing income at Rs.7 lakhs. This also conforms to the earlier two letters of the assessee dated 26.12.1985 and 4.1.1986 wherein it was mentioned that the project would be completed by 31.3.1986 and the accounts would be drawn up. The above method of computation and the reasons discussed for the same were communicated to the assessee by this office letter dated 7.11.1988 and the assessee was asked to furnish objections for the same. The assessee has furnished its objections by its letter dated 5.12.1988. It was claimed that the method of accounting is regularly employed by the assessee firm. There is no change and true profits have been and can be deduced therefrom. But the firm wanted to know whether the provisions of Section 145 (1) or section 145 (2) are being invoked. But in reply is silent on how and when the true profits have been deduced. The firm claims that the Accounting Standard AS-7 is not applicable to its case. The firm relied upon the decision of the Gujarat High Court reported in 133 ITR 55 cited at page 8 of this order to claim that every receipt is not income. The firm has stated as to how can sale consideration less work in progress can be taken as their income chargeable to tax. For the same reasons, it has also objected to treat the advances received for the sale of flats 703 and 23-A as income of the previous year (Rs.68,403/-). It was claimed that flat no. 703 was not registered upto 31.12.1986 as the purchaser was awaiting for an auspicious day for registration and the flat no. 23-A was not sold. The firm anticipated that all the portions of the building would be completed and sold before 31.12.1986, and had also prepared an estimate accepting the profit and paid first instalment of advance tax in time. Immediately thereafter there was a search at their premises on 26.9.1986 which had created a fear and scare in the market and also the purchasers. One of the purchasers had cancelled the portion, he has purchased and which was still remained unsold till 5.12.1988. After filing the estimate of advance tax the municipal corporation of Hyderabad also issued a notice memo No. 3539/M1/83 dated 20.9.1986 followed by another demolition notice NO. 348/TP/Sd/AS/77 dated 17.10.1986 which had created a lot of confusion and panic among the partners and also with the purchasers as the demolition notice issued by MCH included some of the portions which were sold and registered. After receipt of notice from the municipal corporation of Hyderabad, some of the purchasers started pressurizing for refund of the amounts paid towards the purchase consideration and demanded payment of damages for the same. They have filed a civil suit and also obtained a stay from the High Court against the demolition till the disposal of the civil suit. Under the circumstances, it was impossible for the firm to judge the final profit as they would not have got any profit at all if the part of the building is demolished. The firm claimed that perhaps they might end in a loss, if they are made to pay huge damages to their purchasers, and the situation is the same as on the date of letter also i.e., 5.12.1988. The assessee firm was asked to furnish evidence in support of the claim for the deviations made and the alleged demand for refund of amounts from the purchasers etc and the assessee firm has furnished a reply dt 6.1.1989. However, rejecting these objections, it was treated that the assessee’s contention that the true profits can be deduced from the method of accounting has no relevance because every year the income is shown by estimating the anticipated profit. However, in the year of completion of the venture the method should be different i.e., the total income from the venture should be computed by taking the total sale consideration received and deducing therefrom the total cost of the construction plus anticipated profit shown as work in progress in the accounts. Hence, section 145 (1) is applicable and the income can be determined in a rational manner. The assessee’s explanation that they have filed advance tax estimate in anticipation that all the portions were sold by 31.3.1986 and that due to the search at their premises on 26.9.1986 there was a scare in the market , have no basis or relevance. The fact remains that all but two portions were completed, sold and either registered or possession was handed over. Out of the remaining two flats one is an additional construction not found in the original plan. Though the assessee claims that one of the purchasers has cancelled the agreement for purchase in its reply dt 6.1.1989 it claimed that two parties viz M/s. Ghiasuddin Babukhan Family Trust and M/s. Babukhan Family Trust cancelled their agreements. But it admits that there is no written cancellation. IN fact, there two parties are assessee’s own family trusts, intended for the beneficiaries of the children of the two managing partners, and thus, the assessee’s plan has no basis and deserves no merit. The assessee’s admission in its letter dated 6.1.1989 that none of the intending purchasers have filed any written claim for damages or for refund of consideration claim itself, shows that its earlier claims were all false and misleading. The plea that in view of the apprehension of the firm that the municipal authorities might demolish a part of the building, it was not possible for them to judge the final profit, is wrong and totally incorrect. The assessee was following mercantile system of accounting, and offering anticipated profit every year. The project is completed and the income has to be offered for the assessment. The assessee has offered the income from this venture i.e., ‘Al Karim Trade Centre’ in the Assessment year 1989-90. The income shown was Rs.17, 05,517/-. It may be interested to mention that even here the cost of construction is shown as Rs.1,09,22,118/- which is the same amount, which was shown in the balance sheet from 31.3.1984 onwards till 4.1.1989. The assessee has added provisions for lifts and municipal fees, which show that it has not incurred any additional expenditure. The sale consideration shown also is Rs.1,21,01,300/- which is only marginally different from the total sale consideration . (Rs.1,21,39,000) adjusted earlier. Coming back to the question, for convenience sake, it requires to refer to section 22 of the Income Tax Act, which reads as follows; 22 Income from house property .- The annual value of property consisting of any buildings or lands appurtenant thereto of which the assessee is the owner, other than such portions of such property as he may occupy for the purposes of any business or profession carried on by him the profits of which are chargeable to income-tax, shall be chargeable to income-tax under the head "Income from house property". On the reading of the above provision the question revolves as to the incidence of ownership and the income arising there from. Though, in the normal parlance, the right, title and ownership are synonymous, however, simultaneously it does involve or simultaneously run with other interests, which however, do not have any botheration for considering the present situation. It is now well established that in respect of assets movable or immovable there can be association of varied rights in complete or in quite, yet it does not take away the incidence of complete ownership or rights. In this connection, the parties relied upon the decision of the Supreme Court in COMMISSIONER OF INCOME TAX, BOMBAY AND OTHERS Vs. PODAR CEMENT PVT LTD AND OTHERS [1], wherein considering almost similar situation in the backdrop of section 27 and 22 of the Act, held as under; ( 26 ) IN our opinion, the above observations of this Court clearly fixes the liability on a person who receives - or is entitled to receive the income from the property in his own right. In spite of this, the assessing officers of various circles instead of uniformally following the ratio laid down in this case have taken different diametically opposite views depending upon the pronouncements of the concerned High Courts in the circles on the scope of Section 22 of the Act. The High Courts of Allahabad, Punjab and Haryana, Rajasthan, Calcutta and Patna have taken the view by correctly understanding the ratio laid down in Jodha Mal's Case (AIR 1972 SC 126) and the High Courts of Bombay, Delhi and Andhra Pradesh have taken a different view wrongly distinguishing on facts in Jodha Mal's case. ( 37 ) THE law laid down by this Court in Jodha Mals's case (AIR 1972 SC 126), according to us, has been rightly understood by the High Courts of Punjab and Haryana, Patna, Rajasthan, etc. The requirement of registration of the sale deed in the context of the Section 22 is not warranted. ( 46 ) WE have seen that the High Courts are sharply divided on this issue, one set of High Courts taking the view that the promoters/ contractors after parting with