State of Kerala v. C. Velukutty (1966)

Best judgment assessment is the Act's answer to a taxpayer who does not file, does not comply with a notice, or does not co-operate with scrutiny. The officer is then to assess to the best of his judgment. The danger in such a power is obvious: having been given a free hand because the assessee was at fault, an officer may treat the assessment as a punishment and pick a figure.

Velukutty is the authority that says he may not, and it says so in words that are easy to carry into an answer. It is the case for the proposition that best judgment is judgment, not guesswork.

The respondent had two offices in Kozhikode: the head office at Court Road, which did retail business, and the branch office at Big Bazar, which did wholesale business. They maintained separate accounts. Goods sent from the branch to the head office were entered as transfers; the head office kept accounts of the goods so transferred and of the goods it purchased locally, and the branch also had transactions with other customers.

For the assessment year 1955-56 the respondent was assessed on a net turnover of Rs 9,30,565. Later, on a surprise inspection of the head office, some books and records were recovered. On the basis of these secret books the Sales Tax Officer issued a notice proposing to determine to the best of his judgment the turnover that had escaped assessment.

The respondent agreed to the head office turnover being assessed on the basis of the recovered books, but objected to a fresh assessment of the branch office. The objection was rejected, and the officer reassessed as follows: he found that the transactions disclosed in the secret books were 135 per cent of the turnover recorded in the regular accounts of the head office, and added 135 per cent to that office's recorded turnover; he then applied the same percentage to the branch office, adding 135 per cent to the turnover in its regular accounts. The total turnover of the two offices was assessed at Rs 19,71,805 and tax of Rs 16,269.37 was levied. The appeal to the Appellate Assistant Commissioner and the further appeal to the Sales Tax Appellate Tribunal both failed.

The assessment year 1956-57 followed the same pattern, and the two matters came to the Supreme Court together.

The High Court of Kerala set aside the Tribunal's orders for both years so far as the branch office was concerned, holding the finding of escaped turnover there to be an error of law because it was based on conjecture, and declining to remand. The State appealed.

The State's appeal failed. The estimate for the branch office could not stand.

The Court adopted the Privy Council's statement in Laxminarayan Badridas: the assessing authority "must not act dishonestly, or vindictively or capriciously because he must exercise judgment in the matter", and "though there must necessarily be guess-work in the mater, it must be honest guess-work." (The words in the mater stand in the reported text.)

To that the Court added its own formulation, and it is the sentence to memorise: "Though there is an element of guess-work in a ―best judgment assessment,‖ it shall not be a wild one, but shall have a reasonable nexus to the available material and circumstances of each case."

And it disposed of the argument from the assessee's default: a default "does not enable the assessing authority to function capriciously without regard for the available material."

The power is a judicial power, not a licence. The statute says best judgment, and the word judgment is doing work. An officer exercising judgment must act honestly, must not act vindictively and must not act capriciously.

Guesswork is permitted, but only honest guesswork. The Court did not pretend that an estimate can be exact; estimation is the nature of the exercise. What it required is that the guess be tethered — that it have a reasonable nexus to the available material and to the circumstances of the particular case.

The assessee's default does not enlarge the power. This is the step that decides the case against the Revenue's submission. The Revenue argued that since the head office had kept secret books, the branch must have done the same and had suppressed them. The Court refused to let suspicion take the place of material: the officer had material about the head office, and he used a percentage drawn from that material to fix the turnover of a different office doing a different kind of business and keeping separate accounts. There was no material connecting the one to the other. The estimate therefore had no reasonable nexus and was conjecture.

And the appellate check is real. The High Court's jurisdiction ran to questions of law, and the Court accepted that an estimate resting on conjecture rather than material raises such a question. An estimate with no rational link to the facts can be set aside.

It opens every question on best judgment assessment: when it may be made, what it requires, and how far it may be challenged.

The steps: set out the occasions for a best judgment assessment — failure to furnish the return, failure to comply with the inquiry notice or direction, or failure after filing to comply with the scrutiny notice; note the procedural safeguards, the show cause notice and the opportunity of being heard; note that the officer must take into account all relevant materials which he has gathered; then apply Velukutty to the quality of the estimate.

The proposition to state: best judgment is a consequence of non-co-operation, not a penalty at large. The officer must use material, must give a hearing, and must produce an estimate bearing a reasonable nexus to that material. An estimate with no such nexus can be set aside in appeal.

It disposes of the Revenue's argument that a defaulting assessee has forfeited any complaint about the figure, and the practice of extrapolating from one source, branch or period to another with nothing to connect them.

It does not decide that an estimate must be accurate, or that the officer may not draw inferences; nor does it prohibit the use of local knowledge — the Privy Council statement it adopted also allows the officer to use local knowledge and repute, a point that reappears in the debate over faceless assessment, where the units are said not to know local conditions.

The commonest error to avoid, and it is worth stating expressly in an answer: treating best judgment as a guess. It is judgment, and judgment must rest on material.