(187.8 KiB, 262 DLs)

Validity of s. 147 reopening has to be determined on the basis of law prevailing on date of issue of s. 148 notice and not on retrospectively amended law

In respect of AY 2004-05, the assessee computed its book profits u/s 115JB by claiming a deduction for provision for doubtful debts and advances and the same was allowed vide order u/s 143 (3). On 18.7.2008 (within 4 years), the AO issued a notice u/s 148 inter alia on the ground that the provision for doubtful debts had to be added back to the book profits. The assessee filed a writ petition to challenge the reopening. HELD allowing the Petition:

(i) U/s 115JB as it stood at the relevant time, the AO was authorized by cl (c) of Expl (1) to s. 115JB to add back “amounts set aside to provisions made for meeting liabilities, other than ascertained liabilities”. In HCL Comnet Systems 305 ITR 409 the Supreme Court held that a provision for doubtful debts was a provision for diminution in the value of the assets and did not fall under the said provision. To supercede this judgement, cl (i) was inserted in the Expl to s. 115JB by the FA 2009 w.r.e.f 1.4.2001 to provide that even amounts set aside as provision for diminution in the value of an asset had to be added to the book profits.

(ii) The retrospective amendment was of no avail because it was enacted after the issue of the s. 148 notice. In Max India 295 ITR 282, the SC held in the context of s. 263 that the validity of the revision order had to be determined on the basis of the law on the date the order was passed. This principle is applicable to s. 147 as well and the validity of the reopening has to be determined on the basis of the law as it stands on the date of issue of the s. 148 notice. As the retrospective amendment to s. 115JB was not and could not have formed the basis for reopening the assessment, the same could not be relied upon to justify the reopening. The validity of the s. 148 notice must be determined with reference to the recorded reasons and the same cannot be allowed to be supplemented on a basis which was not present to the mind of the AO and could not have been so present on the date on which the power to reopen the assessment was exercised. Consequently, the reopening was without jurisdiction.

(68.2 KiB, 426 DLs)

Delayed payment of employees’ PF contribution allowable u/s 43B

The assessee paid the employees’ contribution to PF and ESIC after the grace period but before the due date for filing the return. The AO disallowed the payment u/s 36(1) (va) and held that s. 43B had no application. This was confirmed by the CIT (A). On appeal, HELD deciding in favour of the assessee:

In Alom Extrusion Ltd 319 ITR 306 the Supreme Court held that the omission of the second proviso to s. 43B by the Finance Act 2003 operated retrospectively w.e.f. 1.4.1988. The Court held that the contribution payable by the employer to the P.F/Superannuation Fund or any other Fund of welfare of the employees was allowable if paid before the due date of filing the return. Consequently, the issue is covered in favour of the assessee and the deduction is allowable u/s 43B.

(98.2 KiB, 208 DLs)

ITAT has no power u/s 254 (2) to re-evaluate correctness on merits of earlier decision

The assessee claimed deduction u/s 80HHC which was allowed to the extent of Rs. 32.17 crs by the AO. The claim included DEPB license sale proceeds. The CIT revised the assessment u/s 263 on the ground that s. 28 (iiia) did not apply to a DEPB license and its proceeds were not eligible for deduction u/s 80HHC. The assessee filed an appeal before the Tribunal where it relied on the judgements in Pratibha Syntex Ltd vs. JCIT 81 ITD 118 and Pink Star vs. DCIT 27 ITD 137 to argue that the DEPB license would form part of the incentive and had to be considered for s. 80HHC deduction. However, the Tribunal held that these judgements were distinguishable and dismissed the appeal. The assessee thereafter filed a MA u/s 254(2) for rectification. The Tribunal allowed the application and recalled its order. The Tribunal further allowed the assessee’s appeal and set aside the CIT’s s. 263 revisional order. The Tribunal relied on Pratibha Syntex and Pink Star to hold that when the assessment order was passed, there was no dispute as to whether export incentives by way of a DEPB license were eligible for deduction u/s 80HHC. The department filed an appeal where it argued that the Tribunal’s MA order was a review of the earlier order and that it had no jurisdiction to do so u/s 254 (2). HELD allowing the appeal:

(i) S. 254(2) empowers the Tribunal to rectify a mistake apparent from the record. In Honda Siel Power Products 295 ITR 466 (SC) it was held that s. 254(2) is based on the fundamental principle that a party appearing before the Tribunal should not suffer on account of a mistake committed by the Tribunal. It was held that the Tribunal would be regarded as having committed a mistake in not considering the material which is already on record;

(ii) However, in the present case the Tribunal in the original order specifically dealt with the decisions in Pratibha Syntex and Pink Star and held them to be distinguishable. However, in the s. 254(2) order, the Tribunal virtually reconsidered the entire matter and came to the conclusion that in view of Pratibha Syntex and Pink Star a DEPB license was eligible for deduction u/s 80HHC. This amounted to a re-appreciation of the correctness of the earlier decision on merits. This was impermissible. Re-evaluating the correctness on merits of an earlier decision lies beyond the scope of the power conferred u/s 254(2).

(iii) The power u/s 254(2) is confined to a rectification of a mistake apparent on record. S. 254(2) is not a carte blanche for the Tribunal to change its own view by substituting a view which it believes should have been taken in the first instance. S. 254(2) is not a mandate to unsettle decisions taken after due reflection. It is not an avenue to revive a proceeding by recourse to a disingenuous argument nor does it contemplate a fresh look at a decision recorded on merits, however appealing an alternate view may seem. Unless a sense of restraint is observed, judicial discipline would be the casualty. That is not what Parliament envisaged.

(127.3 KiB, 326 DLs)

Speculation loss can be set off against delivery based profits

The assessee earned a profit on sale of shares held as stock-in-trade. This profit was offered as profit from a ’speculation business’ and was set off against a ’speculation loss’ brought forward from an earlier assessment year. The AO took the view that the profit from sale of shares was not from a ’speculation business’ on the ground that the assessee had settled its transaction of sale and purchase of shares through physical delivery. Consequently, the claim for set off against the speculation loss was denied. This was confirmed by the CIT (A) though reversed by the Tribunal on the ground that the profit earned from sale of shares fell within the purview of the Explanation to s. 73 and could be set off against speculation losses. On appeal by the Revenue, HELD affirming the Tribunal’s order:

(i) The Explanation to s. 73 creates a deeming fiction that where the assessee is a company and any part of its business consists of the purchase and sale of shares of other companies, the assessee is deemed to be carrying on a speculation business, to the extent to which the business consists of the purchase and sale of shares. A business postulates a systematic course of activity or dealing. Unless the business of a Company consists of the sale and purchase of shares, the deeming fiction would not apply. However, once the requirements of the Explanation are satisfied the assessee is deemed to be carrying on a “speculation business”;

(ii) The argument of the Revenue that the term “speculative transaction” in s. 43(5) must be read into the provisions of s. 73 and that a business which involves actual delivery of shares would not constitute a speculation business cannot be accepted having regard to the deeming fiction created by the Explanation to s. 73. There is no justification to exclude a business involving actual delivery of shares. Once an assessee is deemed to be carrying on a speculation business for the purpose of s. 73, any loss computed in respect of that speculation business, can be set off only against the profits and gains of another speculation business.

(185.6 KiB, 351 DLs)

Roll-over charges for foreign currency contracts have to be capitalized u/s 43A

The assessee procured a foreign currency loan for expansion of its existing business. To ensure availability of foreign currency, the assessee booked forward contracts with a bank. The contract was for the entire amount and delivery of foreign currency was obtained from the bank for the installment due from time to time. The balance value of the contract was rolled over for a further period up to the date of the next installment. The assessee paid “roll over premium charges” for the same. The AO disallowed the said charges on the ground that as it were incurred for purchase of plant & machinery, it was capital expenditure. The CIT (A) reversed the AO on the ground that the charges were expenditure for raising a loan and was consequently revenue in nature. The Tribunal reversed the CIT (A) on the ground that u/s 43A the expenditure had to be capitalized. The High Court reversed the Tribunal on the ground that the charges were in the nature of interest or commitment charges and allowable u/s 36(1) (iii). On appeal, HELD reversing the High Court:

(a) Exchange differences are required to be capitalized if the liabilities are incurred for acquiring fixed assets like plant and machinery. It is the purpose for which the loan is raised that is of prime significance. Whether the purpose of the loan is to finance the fixed asset or working capital is the question which one needs to answer;

(b) The cost for carrying forward the contracted foreign currency not immediately required for repayment is called the roll over charge(s). The argument that s. 43A applies only to cases where there is a fluctuation in the rate of exchange and that since roll over charges are paid to avoid increase or reduction in liability on account of such fluctuation, s. 43A does not apply has no merit because s. 43A applies to the entire liability remaining outstanding at the year end and is not restricted merely to the installments actually paid during the year. Therefore the year-end liability of the assessee has to be looked into. Further, it cannot be said that roll over charge has nothing to do with the fluctuation in the rate of exchange. Roll over charges represent the difference arising on account of change in foreign exchange rates. Roll over charges paid/ received in respect of liabilities relating to the acquisition of fixed assets should be debited/ credited to the asset in respect of which liability was incurred. However, roll over charges not relating to fixed assets should be charged to the Profit & Loss Account.

(207.0 KiB, 251 DLs)

S. 80-I deduction allowable without setting off loss of other units

The assessee had two units, namely, a steering unit and an axle unit, both of which were eligible u/s 80-I. While one unit was making profits, the other was incurring losses. The AO and CIT (A) took the view that deduction u/s 80-I on the profits of one unit could be allowed only after setting off the losses of the other unit. On appeal, the Tribunal allowed the claim of the assessee on the ground that the two units were independent of each other and that u/s 80-I (6), the profit making unit had to be considered to be independent of the other. Before the High Court, the department claimed that the issue was covered in their favour by Synco Industries 299 ITR 444 (SC) where it had been held that the losses had to be set off before claiming deduction u/s 80-I. HELD dismissing the appeal and deciding in favour of the assessee:

(i) The effect of s. 80-I (6) is that the deduction has to be computed as if the industrial undertaking were the only source of income of the assessee. Each industrial undertaking is to be treated separately and independently. It is only those industrial undertakings which have a profit or gain which have to be considered for computing the deduction. The loss making industrial undertaking would not come into the picture at all. The loss of one such industrial undertaking cannot be set off against the profit of another such industrial undertaking to arrive at a computation of the quantum of deduction that is to be allowed to the assessee u/s 80-I (1);

(ii) In Synco Industries 299 ITR 444 (SC), the Supreme Court did not hold that while computing the deduction u/s 80-I(6), the loss of one eligible industrial undertaking is to be set off against the profit of another eligible industrial undertaking. All that the Supreme Court said was that in computing the gross total income of the assessee, the same has to be determined after adjusting the losses and that, if the gross total income of the assessee so determined turns out to be “Nil”, then the assessee would not be entitled to deduction under Chapter VI-A. In fact, the Supreme Court clearly held that while computing the quantum of deduction u/s 80-I (6), the AO has to treat the profits derived from an industrial undertaking as the only source of income of the assessee in order to arrive at a deduction under Chapter VI-A and that the loss sustained in one of the units is not to be taken into account.

(129.3 KiB, 396 DLs)

Even if there is no assessment u/s 143 (3), reopening u/s 147 is bad if there are no proper “reasons to believe”. AO cannot go beyond the recorded reasons

The assessee was a partner in a firm. Upon retirement, he received an amount of Rs. 50 lakhs in addition to the balance lying to his credit in the books of the firm in full and final settlement of his dues. The assessee filed a return in which the said amount was not offered to tax on the ground that it was a capital receipt. No assessment order was passed. The AO issued a notice for reopening u/s 148 on the ground that as in the assessment of the firm the amount paid by it to the assessee had been allowed as a revenue deduction, the amount received by the assessee had to be assessed as income. Reliance was also placed on ss. 28 (iv) & (v). The assessee filed a Writ Petition to challenge the reopening. HELD allowing the Petition:

(i) The basic postulate which underlines s. 147 is the formation of the belief by the AO that income chargeable to tax has escaped assessment. The AO must have reason to believe that such is the case before he proceeds to issue a notice u/s 147. The reasons which are recorded by the AO for reopening an assessment are the only reasons which can be considered when the formation of the belief is impugned. The recording of reasons distinguishes an objective from a subjective exercise of power. The requirement of recording reasons is a check against arbitrary exercise of power. The validity of the reopening has to be decided on the basis of the reasons recorded and on those reasons alone. The reasons recorded while reopening the assessment cannot be allowed to grow with age and ingenuity, by devising new grounds in replies and affidavits not envisaged when the reasons for reopening an assessment were recorded;

(ii) The only reason recorded by the AO was that as the firm had been held eligible to claim a deduction of the amount paid to the assessee, the amount received by the assessee was chargeable to tax. However, this is unsustainable because the law is well settled that what the partner gets upon dissolution or retirement is the realization of a pre-existing right or interest which is not assessable to tax. Mohanbhai Pamabhai 165 ITR 166 (SC) followed. Even u/s 45 (4) (which applies only where there is a distribution of assets on dissolution or otherwise), the gains are taxable in the hands of the firm and not in the hands of the partner. The amount received by the assessee is also not chargeable u/s 28 (iv) {value of any benefit or perquisite, whether convertible into money or not, arising from business or the exercise of profession} and 28 (v) {any interest, salary, bonus, commission or remuneration, by whatever name called, due to, or received by, a partner of a firm from such firm}. A payment made to a partner on dissolution does not fall u/s 28 (v);

(iii) Though in Rajesh Jhaveri 291 ITR 500 (SC) the Supreme Court held that the passing of an Intimation u/s 143 (1) does not amount to an “assessment” and in the absence of an assessment, there was no question of a “change of opinion”, the Court also held that there must be “reason to believe” i.e. “cause or justification” that income had escaped assessment. There must be relevant material on which a reasonable person could have formed a requisite belief even though the material need conclusively prove the escapement;

(iv) Though Explanation (2) (b) to s. 147 creates a deeming fiction of income having escaped assessment in cases where an assessment has not been made, the act of taking notice cannot be at the arbitrary whim or caprice of the AO but must be based on a reasonable foundation. Though the sufficiency of the evidence or material is not open to scrutiny by the Court, the existence of the belief is the sine qua non for a valid exercise of power;

(v) On facts, it was impossible for any prudent person to form a reasonable belief that the income had escaped assessment. Consequently, the s. 148 notice was quashed.

(44.2 KiB, 970 DLs)

Bad debts need not be proven to be irrecoverable u/s 36(1)(vii). It is sufficient if they are written off

The Supreme Court had to consider whether after the amendment to s. 36 (1) (vii) w.e.f. 1.4.1989, an assessee had to establish, as a matter of fact, that the debt advanced by the assessee had, in fact, become irrecoverable or whether writing off the debt as irrecoverable in the accounts was sufficient. HELD deciding in favour of the assessee:

(i) The position in law is well-settled. After 1.4.1989, it is not necessary for the assessee to establish that the debt, in fact, has become irrecoverable. It is enough if the bad debt is written off as irrecoverable in the accounts of the assessee. When a bad debt occurs, the bad debt account is debited and the customer’s account is credited, thus, closing the account of the customer. In the case of companies, the provision is deducted from Sundry Debtors.

(ii) As the AO has not examined whether the debt has, in fact, been written off in accounts of the assessee. the matter is remitted to the AO for de novo consideration of the above-mentioned aspect only and that too only to the extent of the write off.

(158.0 KiB, 351 DLs)

Non-exempt capital loss cannot be set off against exempt capital gains

S. 10 (38) inserted w.e.f. 1.10.2004 provides that long-term capital gains (LTCG) on which security transaction tax (STT) is paid shall not be included in total income. The assessee earned long term capital gain (LTCG) of Rs. 33,01,57,200 on sale of shares after 1.10.2004 in respect of which STT was paid. The LTCG was exempt u/s 10 (38). In the period prior to 1.10.2004, the assessee suffered a long term capital loss of Rs. 9,23,55,945 on redemption of units. The assessee claimed that the said long term capital losses were not liable to be set off against the exempt capital gains. The AO & CIT (A) took the view that in computing income under the head “capital gains”, the said loss had to be set off against the capital gains. On appeal by the assessee, HELD deciding in favour of the assessee:

(i) Under the scheme of the Act, income which does not form part of the total income as per Chapter-III does not enter the computation of total income at all. (N.M. Raiji 17 ITR 180 (Bom) followed where it was held that exempt share income of a partner could not be taken into account even for rate purposes);

(ii) S. 70 (3) which provides that long-term capital gains shall be set off against long-term capital loss does not apply because the exempt capital gains do not enter the computation of total income at all and the question of aggregating them under Chapter VI and setting them off u/s 70 (3) does not arise. Consequently, the right of carry forward the loss u/s 74(1) is unaffected;

(iii) S. 10(38) was inserted with the object to grant exemption to LTCG as tax has already been levied on a different footing (STT). The revenue’s contention that long term capital loss should be adjusted against exempt LTCG will be contrary to the intention, object and purpose of enacting s. 10 (38). Further, the revenue’s view will result in absurdity if the facts are reversed because then LTCG earned before 1.10.2004 (which is taxable) will be eligible for set off against (exempt) long term capital loss suffered after 1.10.2004. This will result in a loss from an exempt source being set off against taxable gain which is contrary to law.

(iv) Consequently the long term capital loss is not liable to be set off against exempt income long term capital gains.

(53.6 KiB, 309 DLs)

Issue whether MAT companies can provide depreciation as per Income-tax Rules while computing s. 115J book profits referred to Larger Bench

The assessee, a private limited company, provided for depreciation in its Profit & loss account by adopting the rates specified in the Income-tax Rules and computed its “book profits” u/s 115J on that basis. The AO recomputed the book profits by adopting the depreciation rates as per Schedule XIV to the Companies Act as those were lower than the income-tax rates. The CIT (A) & Tribunal upheld the stand of the assessee on the ground that Schedule XIV was not applicable to a private limited company though the High Court took the view that s. 205 of the Companies Act stood incorporated into s. 115J and consequently depreciation had to be provided at the rates specified in Schedule XIV and not in terms of the Income-tax Rules. On appeal by the assessee, HELD doubting its own judgement in Malayala Manorama 300 ITR 251:

(i) The law laid down in Malayala Manorama 300 ITR 251 {that (i) Schedule VI does not create any obligation to provide for any depreciation much less for depreciation at Schedule XIV rates, (ii) As per the Company Law Board Circular the rates in Schedule XIV are the minimum rates and a company can provide for higher rates and (iii) Schedule XIV itself contemplates that depreciation can be provided at rates different from the Schedule rates} needs re-consideration because s. 115J by a deeming fiction legislatively only incorporates provisions of Parts II and III of Schedule VI of the Companies Act and not sections 205, 350 or 355. Once a company, whether private or public, falls within the ambit of it being a MAT company, s. 115J applies and is required to prepare its Profit & loss account only in terms of Parts II and III of Schedule VI. By the Companies (Amendment) Act, 1988, the linkage between depreciation as per Rule 5 and the Companies Act have been expressly de-linked and the rates are also different.

(ii) If the judgement in Malayala Manorama is to be accepted, the very purpose of enacting s. 115J would stand defeated particularly when the said section does not make any distinction between public and private limited companies.

(iii) Accordingly, the matter needs re-consideration by a larger Bench of the Court.