[FAQs] How to Calculate Gross Receipts and Sales Turnover for Tax Audits – A Detailed FAQ Guide

The calculation of gross receipts, sales, or turnover is crucial for determining the applicability of tax audits under Section 44AB.

Sales Turnover – According to the “Guidance Note on Terms Used in Financial Statements” by the ICAI, ‘sales turnover’ refers to the total amount for which sales are made by an enterprise. This can be classified as gross turnover (before deductions for returns and discounts) and net turnover (after such deductions). Various charges on an invoice may need consideration as to whether they should be included in the sales turnover. The table below details the treatment of common items:

Gross Receipts – While ‘Gross Receipts’ is not explicitly defined in the Income-tax Act, the ICAI’s “Guidance Note on Tax Audit” notes that it includes all earnings from a professional practice. Some receipts may be included or excluded as follows:

Inclusions in Gross Receipts:

1. Out-of-pocket expenses recovered through consolidated fees are included in gross receipts.
2. Cash assistance related to exports under government schemes is included.
3. Duty drawbacks payable under specified export schemes are included.
4. Financial incomes such as interest from money lending, commissions, brokerage fees, service charges, and other incidental charges in the chit fund business are included.
5. Reimbursement of expenses like packing, forwarding, freight, insurance, and travel are included unless accounted for separately; in such cases, only the net surplus is considered.
6. Hire charges for facilities like cold storage are included.
7. Liquidated damages received are included.
8. Insurance claims, unless linked to fixed assets, are included.
9. Sale proceeds from scrap or wastage not included in sales turnover are included, whether or not credited to a miscellaneous income account.
10. Lease rent from operating leases is included.
11. Finance income generated to compensate and reward the lessor for investment and services is included.
12. Hire purchase receipts, including hire charges and instalments, are included.
13. Advances received and forfeited from customers are included.
14. Value of benefits or perquisites, convertible into money or not, arising from business activities or professional practice, are included.

Exclusions from Gross Receipts:

1. Out-of-pocket expenses recovered separately from clients are excluded.
2. Advances for services not yet rendered are excluded until the services are provided.
3. Sale proceeds from the disposal of fixed assets or assets held as investments are excluded.
4. Rental income is excluded unless it is assessable as business income.
5. Dividends from shares are excluded, except for assesses dealing in shares.
6. Interest income is excluded unless it is assessable as business income.
7. Customs duty reimbursements and other charges collected by clearing agents are excluded.
8. Payments to travel agents, unless part of a consolidated charge for package tours, are excluded.
9. Advertising charges recovered by advertising agents are excluded unless they recover the costs from booking advertisement space in bulk.
10. Partners’ share of profits from a firm is excluded from their individual gross receipts.
11. Reversals of payables to creditors or provisions for expenses or taxes no longer needed are excluded.

Special Considerations for Commission Agents:

• If the property or significant risks and rewards of ownership remain with the principal, the commission agent’s turnover includes only the commission earned.
• If ownership risks and rewards transfer to the agent, the entire sale price received or receivable forms part of their turnover.

The term “gross receipts” in professional contexts encompasses all income derived from practising a profession. Professionals such as solicitors, advocates, or chartered accountants often receive out-of-pocket expenses in advance. These funds are typically placed in a separate client account and used to cover expenses like stamp duties, registration fees, and travel costs incurred on behalf of clients. When these out-of-pocket expenses are collected separately, whether in advance or otherwise, they should not be considered part of the gross receipts.

However, if out-of-pocket expenses are included in a consolidated fee charged to the client, the entire amount received should be counted as part of the gross receipts. Under this arrangement, no deductions for the actual expenses paid on behalf of clients should be made from the consolidated fee.

Additionally, any fees received in advance for services yet to be performed are not included in gross receipts. Such advance payments are considered liabilities until the corresponding services are rendered, at which point they can be recognised as receipts.

The turnover for a commission agent, or someone selling goods on a consignment basis, is primarily determined by the transfer of significant risks and rewards of ownership. If the ownership and all significant risks and rewards remain with the principal, then only the commission earned by the agent is included in their turnover. In this scenario, the actual sale price of the goods is not included in the agent’s turnover.

Conversely, if the commission agent takes on the ownership, including significant risks and rewards, then the full sale price received or receivable by the agent should be counted as part of their turnover.

Guidelines from ICDS-IV (Revenue Recognition) stipulate that an agent’s revenue should consist solely of the commission earned, rather than the total cash flow or receivables generated through sales. Furthermore, the Central Board of Direct Taxes (CBDT[1]) provides additional clarifications for different types of agents:

• For Kachha Arahtias (agents who do not take the title of the goods), only the gross commission is considered as turnover.
• For Pucca Arahtias (agents who purchase and sell the goods in their own name), the entire sales or turnover of the business must be accounted for in their turnover calculations.

This approach ensures a clear distinction in how turnover is recognised based on the nature of the agency relationship and the level of risk and ownership assumed by the agent.

The turnover of a share broker is determined based on the nature of the transactions they conduct. When a share broker buys or sells securities on behalf of customers, the securities are registered in the name of the customer, not the broker. In these cases, the broker does not take ownership of the securities but merely facilitates the transaction. Therefore, for these client-related activities, only the brokerage fees that are recorded in the broker’s financial books should be considered when calculating the broker’s turnover.

On the other hand, if a share broker conducts transactions on his own personal account, the total sales value of these transactions should be included in the turnover calculation. This includes all securities bought and sold for the broker’s personal benefit.

The calculation method for a sub-broker is similar to that of a main broker; it involves counting only the brokerage fees earned from client transactions towards the turnover, excluding the value of the securities transacted.

A ‘speculative transaction’ is defined as a transaction where the contract for the purchase or sale of commodities or securities is settled without the actual delivery or transfer of the commodity or securities. In these transactions, the settlement often results in either a gain or a loss, depending on market movements.

For accounting purposes, although the full value of the asset purchased or sold is indicated in the contract notes, only the net differences (gains or losses) resulting from these settlements are recorded in the books of account. Consequently, when calculating the turnover for speculative transactions, both positive and negative differences are aggregated to determine the total turnover.

For instance, consider Mr. X, who is engaged in speculative trading and records the following outcomes from securities transactions:

While computing the turnover of Mr. X, all the differences, whether positive or negative, shall be aggregated.

The computation of turnover for transactions involving derivatives, such as futures and options, is not explicitly detailed in the Income-tax Act. However, the 2022 Guidance Note (GN) provided some clarifications in Para 5.14(b), outlining that turnover for transactions in derivatives, futures, and options is determined by:

• Summing the favourable and unfavorable differences as turnover.
• Including any option premiums received in the turnover, but these should not be double-counted in net profit calculations.
• Counting differences from reverse trades as part of the turnover.

This guidance raised several questions, such as how to handle open positions at year-end, implications for delivery-based settlements, and the treatment for the transferor of an underlying asset in such transactions.

The 2023 GN, in Para 5.10(b), provides updated guidance, specifying:

• For squared-off transactions, the turnover includes the sum of favourable and unfavourable differences.
• Premiums received from selling options should be included in turnover, but not duplicated in net profit calculations.
• Differences from reverse trades continue to be part of the turnover.
• For open positions at the financial year-end, turnover from these transactions is recognised in the year they are squared off.
• In delivery-based derivative settlements, the difference between the trade and settlement prices is considered turnover. For transferors holding the underlying asset as stock in trade, the full sale value is recognised as business turnover.

For example, Mr A enters into the following transaction during the financial year 2022-23:

Note 1 – Mr A has an open position in the underlying put option as on 31^st March 2023. Thus, the turnover from such options shall be computed in the financial year in which the transaction is squared off or settled for delivery.

Note 2 – Delivery-based settlement in a Call (Long) option transaction can be made only if the option is “in the money”, which means the market price (settlement price) is above the strike price (trade price). However, if there is a profit/loss in the option premium amount, then it shall be considered in the calculation of turnover.

Thus, the turnover of Mr A shall be as follows:

Para 5.10(b) of the 2023 GN clarifies that the above guidance for the determination of turnover “is only and only for the purpose of computing’ turnover’ for tax audit”.

When an assessee operates multiple businesses, the total turnover or gross receipts should be calculated by aggregating the sales turnover or gross receipts from all individual businesses. However, there is an exception for businesses that opt into the presumptive taxation scheme. For these businesses, their turnover should not be included in the total sales turnover or gross receipts used to determine the overall financial figures of the assessee. This approach ensures that the calculations align with tax regulations and provide an accurate reflection of the assessee’s total business activity.

According to the ICAI’s guidance note on tax audits, if an assessee operates both a business and a profession, a tax audit is necessary if the turnover or receipts from either activity exceed the prescribed threshold limits. Importantly, the gross receipts from the business should not be combined with those from the profession when assessing if these limits are surpassed.

Example 1 – If an assessee has professional receipts of Rs. 54 lakhs and a business turnover of Rs. 72 lakhs, both the profession and business accounts require auditing since the professional receipts exceed the Rs. 50 lakh threshold.

Example 2 – Conversely, if the professional receipts amount to Rs. 42 lakhs and the business turnover to Rs. 86 lakhs, only the professional accounts need auditing, as the business receipts do not cross the threshold limit.

Mr. A, a partner in a firm, received a remuneration of Rs. 12 crores during FY 2023-24. Under Section 28(v) of the Income Tax Act, payments such as interest, salary, bonus, commission, or remuneration received by a partner from a firm are taxable as business income if these payments were considered while calculating the firm’s taxable profits. However, judicial precedents provide clarity on the need for auditing such remuneration.

The Bombay High Court in Perizad Zorabian Irani v. PCIT [2022] 139 taxmann.com 164 (Bombay) established that remuneration received by a partner who does not conduct any separate business activity should not be treated as gross receipts of the partner. Thus, the partner is not required to get the accounts audited under section 44AB for such remuneration. Similarly, the Madras High Court in Anand Kumar v. ACIT [2020] 122 taxmann.com 252 (Madras) ruled that remuneration and interest from a partnership firm should not be considered the turnover of the individual partner.

In light of these rulings, Mr A, who solely functions as a partner and is not involved in independent business activities, is not required to audit his accounts under Section 44AB since his remuneration from the firm does not constitute gross receipts or turnover.

Para 9.29 of the 2022 Guidance Note stated,

“… but an internal auditor of the assessee cannot conduct tax audit if he is an employee of the assessee”.

This sentence is omitted from the 2023 Guidance Note, as it created confusion by contradicting the very next sentence, which sets out the correct extant legal position that

“The Council of ICAI in its 281^st meeting held from 3^rd to 5^th October 2008 decided that an internal auditor of an assessee, whether working with the organisation or independently practising chartered accountant or a firm of chartered accountants, cannot be appointed as his tax auditor”.

Para 9.29 of 2022 GN is now renumbered as Para 9.27 in 2023 GN. Thus, an internal auditor cannot be appointed as a tax auditor.

According to Para 9.12 of the 2022 Guidance Note, an Assessing Officer (AO) or any other authorised authority can issue a notice under Section 131 of the Income Tax Act to a tax auditor. This allows them to summon the auditor to provide evidence or produce documents related to the audit. Additionally, if an accountant provides incorrect information in Form 3CA, Form 3CB, or Form 3CD, they may be subject to penalties by the AO, CIT (Appeals), or JCIT (Appeals) under Section 271J.

However, the 2023 Guidance Note has omitted Para 9.12. The omission of this paragraph concerning penalties under Section 271J is not explicitly explained, especially since Section 271J itself has not been removed from the legislation. The rationale for deleting the paragraph related to summoning the tax auditor may be clearer. There are concerns about whether a Chartered Accountant, acting in the capacity of a tax auditor, can be compelled to produce books of account. This action could potentially breach confidentiality obligations outlined in clause (1) of Part I of the Second Schedule to the Chartered Accountants Act, 1949, without specific immunity provisions similar to those in Section 143(13) of the Companies Act, 2013.