(178.8 KiB, 612 DLs)

Delay in filing ROI due to late appointment of auditor must be condoned

The assessee, a co-op bank, filed a return for AY 2001-02 showing a loss of Rs. 15.94 crores. As the return was belated, the assessee filed an application u/s 119(2)(b) with the CBDT requesting condonation of delay and for being allowed carry forward of loss. The principal ground on which condonation was sought was that there was a delay in appointment of the statutory auditor by the Registrar and a consequent delay in preparing the s. 44AB tax audit report. The CBDT rejected the application on the ground that the reasons were general in nature and there were no exceptional circumstances beyond the control of the assessee to file the return. It was also stated that the assessee was operating for several years and was aware of its obligation to get the accounts audited and to file the return within the due date. The assessee challenged the rejection of the application. HELD upholding the challenge:

(i) The power to appoint statutory auditors is that of the Central Registrar and that was done on 3.9.2001. The Registrar appointed Chartered Accountants to be statutory auditors in place of the Departmental Auditors. This change was made in respect of all societies. Therefore, the assessee cannot be blamed for the delay in carrying out its audit as the same was beyond its control. The contention of the Revenue that the departmental auditors had started the audit in the year 2000 and it was for the assessee to get the audit expedited cannot be accepted. Though the departmental auditors might have started the audit, it appears that pursuant to the said policy decision that was taken, the departmental auditors were replaced by the Chartered Accountants to be the statutory auditors. Therefore, the reason given for delay deserves to be accepted;

(ii) It is well settled that in matters of condonation of delay a highly pedantic approach should be eschewed and a justice oriented approach should be adopted and a party should not be made to suffer on account of technicalities.

(107.6 KiB, 1,042 DLs)

S. 263 Revision only on ground of non-application of mind by AO not proper. Licenses & Approvals are “intangible asset” u/s 32(1)(ii) & eligible for depreciation

The assessee, a hotel, incurred expenditure on acquiring licenses and permissions from various government bodies. This was classified as “goodwill” in the books and depreciation was claimed on the ground that it was an “intangible asset” u/s 32(1)(ii). The AO allowed the claim. The CIT passed an order u/s 263 in which he took the view that the AO had not applied his mind to the issue and that the order was “erroneous & prejudicial to the interests of the revenue”. The CIT set aside the assessment order and directed the AO to pass a fresh order. On appeal by the assessee, HELD allowing the appeal:

(i) The CIT had not recorded any finding to show how the assessment order was erroneous and prejudicial to the interest of the revenue. Merely because the AO had not examined whether the approvals / registrations etc. amounted to intangible assets and had not applied his mind to the examination and verification of the allowability of depreciation on intangible assets did not mean that the assessment order was erroneous and prejudicial to the interests of the revenue. It was not the case of the CIT that depreciation was not allowable on such items of intangible assets;

(ii) An authority exercising revisional power cannot direct the lower authority to complete the assessment in particular manner. UOI vs. Tata Engineering AIR 1998 SC 287 followed;

(iii) On merits, approvals/registrations etc amount to “intangible assets” and entitled to depreciation u/s 32(1) (ii).

(658.3 KiB, 775 DLs)

Mere Lack Of Inquiry By AO Not Sufficient For S. 263 Revision

The CIT passed an order u/s 263 taking the view that as the AO had not inquired into the genuineness of capital investments made by the partners, the assessment order was erroneous and prejudicial to the interests of the revenue. Though the assessee submitted material before the CIT as to why the capital investments were genuine, the CIT did not deal with the submissions but instead directed the AO to look into the matter and reframe the assessment. On appeal by the assessee, the Tribunal struck down the revision order. On appeal by the department, HELD dismissing the appeal:

(i) Power u/s 263 cannot be exercised unless both conditions are satisfied i.e. the order is (i) erroneous and (ii) prejudicial to the interest of the revenue. There is a fine though subtle distinction between “lack of inquiry” and “inadequate inquiry”. It is only in cases of “lack of inquiry” that revisional powers u/s 263 can be exercised. Further, while lack of enquiry by the AO may render the assessment order “erroneous” it is not necessarily “prejudicial to the interests of the revenue”. The CIT must deal with the submissions of the assessee and give reasons as to how the order is erroneous and prejudicial to the interests of the revenue. A bare assertion is not sufficient. S. 263 proceedings cannot be initiated with a view to starting fishing and roving inquiries.

(ii) On facts, the CIT had revised the assessment on the basis that the AO had not made proper inquiry. Assuming this was so, it only meant that the order was “erroneous” but it did not follow that the order was also “prejudicial”. The CIT ought to have dealt with the submissions of the assessee and recorded a finding on how the failure of the AO was prejudicial to the interests of the revenue instead of merely directing the AO to look into the matter.

(44.9 KiB, 1,295 DLs)

“Discount” for supply of Sim Cards is “Commission” for S. 194H TDS

The Assessee, a mobile cellular operator, carried on business through distributors, and offered the “post paid scheme” and the “pre-paid scheme” to its customers. The assessee paid charges to the distributors for services rendered. While the charges paid in respect of the “post paid services” was treated as “commission” and liable to TDS u/s 194H, payments made for services rendered under the “prepaid scheme” were treated as a sale of Sim Card at a discounted value and not as “commission”. The AO, CIT (A) & Tribunal treated the assessee as being in default u/s 201 on the ground that the so-called “discount” was “commission” u/s 194H. On appeal by the assessee, HELD dismissing the appeal:

(i) The argument that there is a “sale” of a Sim Card is not acceptable because a Sim Card has no value or use for the subscriber other than to get connection to the mobile network. The supply of the Sim Card is only for the purpose of rendering continued services by the assessee to the subscriber of the mobile phone. Consequently, the charges collected by the assessee at the time of delivery of Sim Cards or Recharge coupons is for rendering services to ultimate subscribers. The distributor is the middleman arranging customers or subscribers for the assessee after ensuring proper identification and documentation. Besides the discount given at the time of supply of Sim Cards and Recharge coupons, the assessee is not paying any amount to the distributors for the services rendered by them like getting the subscribers identified, doing the documentation work and enrolling them as mobile subscribers to the service provider namely, the assessee. The argument that the relationship between the assessee and the distributors is principal to principal basis is not acceptable. The distributor is an agent and canvasses business for the assessee. The terminology used by the assessee for payment to the distributors is immaterial. In substance the discount given at the time of sale of Sim Cards or Recharge coupons by the assessee to the distributors is a payment for services rendered to the assessee and falls within s. 194H.

(ii) The contention that discount is not paid by the assessee to the distributor but is reduced from the price and so deduction u/s 194H is not possible is not acceptable because the assessee should have given discount net of the tax amount or given full discount and recovered tax amount thereon from the distributors.

(103.2 KiB, 1,128 DLs)

S. 115JB “book profits” have to be reduced by deduction “eligible” u/s. 80HHC & not “actual” deduction

In respect of AY 2001-2002, the assessee claimed that though s. 80HHC (1B) limited the deduction to 80% of the profits eligible for deduction u/s 80HHC, this limitation did not apply for purposes of “book profits” u/s 115JB and that 100% of the 80HHC profits were deductible. The Tribunal allowed the claim by relying on the Special Bench judgement in Syncome Formulations 106 ITD 193 (Mum) (SB). On appeal by the Revenue, the High Court (318 ITR 252) reversed the Tribunal. On appeal by the assessee HELD, reversing the High Court:

(i) The question of law is “whether for determining the “book profits” in terms of s. 115JB, the net profits as shown in the P&L Account have to be reduced by the amount of profits eligible for deduction under Section 80HHC or by the amount of deduction under s. 80HHC?”

(ii) S. 115JB is a self-contained Code and taxes deemed income. S. 115JB begins with a non-obstante clause and requires vide clause (iv) for the “eligible” profits derived from exports to be excluded from the “book profits”. S. 80HHC operates in a different sphere. S. 80HHC(1B) is concerned with the “extent of deduction”;

(iii) If an assessee earns Rs.100 crores then while for AY 2001-02, the extent of deduction is 80% thereof, for purposes of computation of book profits, 100% of the profits are “eligible profits” and cannot be reduced to 80% by relying on s. 80HHC(1B). The idea is to exclude “export profits” from computation of book profits under s. 115JB which imposes MAT on deemed income;

(iv) The argument of the department that because clause (iv) of Explanation to s. 115JB provides that the deduction is “subject to the conditions specified in s. 80HHC”, both “eligibility” as well as “deductibility” of the profit has to be considered together has no merit. If the dichotomy between “eligibility” of profit and “deductibility” of profit is not kept in mind then s. 115JB will cease to be a self-contained code. One cannot rely upon the last sentence in clause (iv) of Explanation to s. 115JB to obliterate the difference between “eligibility” and “deductibility” of profits.

(110.8 KiB, 1,393 DLs)

BSE Card is an “intangible asset” and eligible for depreciation u/s 32(1)(ii)

S. 32 (1), as amended w.e.f. 1.4.1998 allows depreciation on “intangible assets” being, inter alia, “licenses … or any other business or commercial rights of similar nature”. The Tribunal took the view that a BSE card was an “intangible asset” eligible for depreciation. On appeal by the Revenue, the High Court (323 ITR 69) reversed the Tribunal on the ground that it was not a “license” and the words “business or commercial rights” relate to intellectual properties and not all categories of business or commercial rights. On appeal by the assessee, HELD reversing the High Court:

(i) On the analysis of the Rules of BSE, it is clear that the right of membership allows the non-defaulting member to participate in the trading session on the floor of the Exchange. Thus, the said membership right is a “business or commercial right” conferred by the Rules of BSE on the non-defaulting continuing member;

(ii) The question as to whether the membership right can be said to be owned by the assessee and used for the business purpose in terms of s. 32(1)(ii) is answered in the affirmative for the reason that the Rules and Bye-laws permit the member to participate in the trading session on the floor of the Exchange; to deal with other members of the Exchange and to nominate. Moreover, under Explanation 3 to s. 32(1)(ii) commercial or business right which is similar to a “licence” or “franchise” is declared to be an intangible asset.

(iii) Under Rule 5 of the BSE Rules, membership is a personal permission from the Exchange which is nothing but a “licence” which enables the member to exercise rights and privileges attached thereto. It is this licence which enables the member to trade on the floor of the Exchange and to participate in the trading session on the floor of the Exchange. It is this licence which enables the member to access the market. Therefore, the right of membership, which includes right of nomination, is a “licence” or “akin to a licence” which is one of the items which falls in s. 32(1)(ii). The right to participate in the market has an economic and money value. It is an expense incurred by the assessee which satisfies the test of being a “licence” or “any other business or commercial right of similar nature” in terms of s. 32(1)(ii).

(iv) The judgment is strictly confined to the right of membership conferred upon the member under the BSE membership card and should not be understood to mean that every business or commercial right would constitute a “licence” or a “franchise” in terms of s. 32(1)(ii).

(150.2 KiB, 2,413 DLs)

TDS obligation u/s 195(1) arises only if the payment is chargeable to tax in the hands of non-resident recipient

The assessee, an Indian company, made remittance to a foreign company for purchase of software. The assessee took the view that the payment was not chargeable to tax in India and did not deduct tax at source u/s 195. The AO & CIT (A) took the view that the payment constituted “royalty” and was chargeable to tax and that the assessee was liable u/s 201 for failure to deduct tax at source though this was reversed by the Tribunal. On appeal by the department, the High Court reversed the Tribunal by taking the view in CIT vs. Samsung Electronics 320 ITR 209 that the assessee was not entitled to consider whether the payment was chargeable to tax in the hands of the non-resident or not and had to deduct tax u/s 195 on all payments. On appeal by the assessee, HELD reversing the High Court:

(i) S. 195(1) uses the expression “sum chargeable under the provisions of the Act”. This means that a person paying interest or any other sum to a non-resident is not liable to deduct tax if such sum is not chargeable to tax. Also s. 195(1) uses the word ‘payer’ and not the word “assessee”. The payer is not an assessee. The payer becomes an assessee-in-default only when he fails to fulfill the statutory obligation u/s 195(1). If the payment does not contain the element of income the payer cannot be made liable. He cannot be declared to be an assessee-in-default;

(ii) S. 195(2) applies where the payer is in no doubt that tax is payable in respect of some part of the remittance but is not sure as to what is the taxable portion. In that situation, he is required to make an application to the ITO(TDS) for determining the amount. S. 195(2) & 195(3) are safeguards and of practical importance;

(iii) The department’s apprehension that if tax is not deducted on all payments, there will be a seepage of revenue is ill founded because there are adequate safeguards in the Act to prevent the payer from wrongly not deducting tax at source such as s. 40(a)(i) which disallows deduction for the expenditure;

(iv) The Karnataka High Court in CIT vs. Samsung Electronics 320 ITR 209 misunderstood the observations in Transmission Corporation of AP 239 ITR 387. The only issue raised in that case was whether TDS was applicable only to pure income payments and not to composite payments which had an element of income embedded in them. The controversy was different and the Court held that if some part of the payment was taxable, an application u/s 195(2) had to be made. The High Court’s interpretation completely loses sight of the plain words of s. 195(1) which in clear terms lays down that tax at source is deductible only from “sums chargeable” under the Act i.e. chargeable u/s 4, 5 and 9;

(v) As the High Court had not decided the question whether the payments for supply of software was “royalty” or not, the matters are remitted to the High Court for a decision on that point.

(758.4 KiB, 2,478 DLs)

The purchase of shares of a foreign company by one non-resident from another non-resident attracts Indian tax if the object was to acquire the Indian assets held by the foreign company

A Cayman Island company called CGP Investments held 52% of the share capital of Hutchison Essar Ltd, an Indian company engaged in the mobile telecom business in India. The shares of CGP Investments were in turn held by another Cayman Island company called Hutchison Telecommunications. The assessee, a Dutch company, acquired from the second Cayman Islands company, the shares in CGP Investments for a total consideration of US $ 11.08 billion. The AO issued a show-cause notice u/s 201 in which he took the view that as the ultimate asset acquired by the assessee were shares in an Indian company, the assessee ought to have deducted tax at source u/s 195 while making payment to the vendor. This notice was challenged by a Writ Petition but was dismissed by the Bombay High Court. In appeal, the Supreme Court remanded the matter to the AO to first pass a preliminary order of jurisdiction which the AO did. This order was challenged by the assessee by a Writ Petition on the ground that as one non-resident had acquired shares of a foreign company from another non-resident, s. 195 had no application. HELD dismissing the Petition:

(i) An assessee is entitled to arrange his affairs so as to avoid tax and the department is not entitled to disregard it on the ground of motive. However, a “sham” or “colourable” transaction can be disregarded by the AO. Azadi Bachao Andolan 263 ITR 706 (SC) & Wallfort followed;

(ii) A share, being a capital asset, comprises of an indivisible set of rights, not capable of being separately transferred at law. A controlling interest does not constitute a distinct capital asset because it is an incident of the ownership of shares and flows out of the holding of shares. Also, the business of a company is not the business of its shareholders and the assets of a company are not the assets of its shareholders;

(iii) The State has jurisdiction to tax non-residents if there is a nexus connecting the non-resident and the State. The nexus arises where the source of income originates in the jurisdiction. The source of income is determined in accordance with source rules. U/s 5 & 9, the nexus for charging a non-resident is provided by the receipt or accrual of income in India. If the income can be taxed in more than one jurisdiction, it has to be apportioned;

(iv) U/s 9(1)(i), income arising from the transfer of a capital asset situated in India is chargeable to tax. The situs of the capital asset is the crucial jurisdictional condition that must be fulfilled in order to attract chargeability to tax of income arising from the transfer of a capital asset;

(v) Article 13 of the OECD Model Convention illustrates how a value driven deeming nexus may be created by legislation and how one can look behind corporate structures if the ownership of shares represents an interest of a certain value in real estate situated within the taxing jurisdiction;

(vi) S. 195 creates an obligation to deduct tax where the sum payable to a non-resident is (even partly) chargeable to tax. If the sum payable is not assessable in India, there is no question of TDS being deducted by an assessee. The argument that as the payer is a non-resident, it was not obliged to deduct tax is not acceptable because there is sufficient territorial connection or nexus between the payer and India. The fact that enforcement of the obligation may be difficult as the payer is a non-resident does not mean that obligation is not applicable;

(vii) On facts, the argument that the transaction involved merely a sale of a share of a foreign company by one non-resident to another is not acceptable. It would be simplistic to assume that the entire transaction between the non-residents was fulfilled merely upon the transfer of a single share of the Cayman Islands company. The commercial and business understanding between the parties postulated that what was being transferred from one non-resident to the other was the controlling interest in Hutchison Essar, an Indian company. The object and intent of the parties was to achieve the transfer of control over the Indian company and the transfer of the solitary share of the Cayman Islands company was put into place as a mode of effectuating the goal;

(vii) Even the price of US $ 11.01 Billion paid by the assessee factored in diverse rights and entitlements that were being transferred to the assessee. Many of these entitlements were not relatable to the transfer of the CGP share. The transactional documents were not merely incidental or consequential to the transfer of the CGP share, but recognized independently the rights and entitlements of the vendor in relation to the Indian business which were being transferred to the assessee;

(viii) As the consideration was paid for acquisition of a panoply of entitlements including a control premium, use and rights to the Hutch brand in India, non-compete agreement with the Hutch group etc, it will have to be apportioned by the AO to determine which portion has a nexus within the Indian taxing jurisdiction and which lies outside;

(ix) Accordingly, as the transaction between the assessee and Hutchison Telecommunications had sufficient nexus with Indian fiscal jurisdiction, the AO did have jurisdiction to initiate proceedings against the assessee for failure to deduct tax at source.

(68.3 KiB, 986 DLs)

Though software is “goods”, its supply may be a “service” and not a “sale”

S. 65(105)(zzzze) of the Finance Act, 1995 inserted by the F (No. 2) Act, 2009 provides for the levy of service tax on “any service provided … to any person, by any other person in relation to information technology software for use in the course, or furtherance, of business or commerce, including … acquiring the right to use information technology software …” The Petitioner, an association of software resellers, contented inter alia that as software had been held to be “goods” by the Supreme Court in Tata Consultancy Services 271 ITR 401 and as there was a “sale” attracting VAT, there could not also be a “service” and that s. 65(105)(zzzze) was unconstitutional. HELD dismissing the Petition:

(i) Two questions arise for consideration: (a) whether software is goods and (b) if so, whether in all case of transactions, it would amount to sale or in some transactions it could be considered to be a service;

(ii) All software is “goods”. Article 366(12) of the Constitution defines the term “goods” to include all materials, commodities and articles. It is an inclusive definition. Though a software programme consists of various commands which enable the computer to perform a designated task and the copyright in that programme remains with the originator of the programme, yet because software is an article of value, it is “goods”. Indian law does not make a distinction between tangible property and intangible property. Tata Consultancy Services 271 ITR 401 (SC) followed;

(iii) However, while software is “goods”, all transactions are not necessarily a “sale”. The transaction may be one which is either an ‘exclusive sale’ or ‘an exclusive service’ or one which has the elements of a sale and service. A perusal of a sample ‘End User Licence Agreement’ (EULA) shows that the dominant intention of the parties is that the developer keeps the copyright of each software is only the right to use with copyright protection. By the agreement, the developer does not sell the software as such. The Petitioner in turn enters into a EULA for marketing the software to the end-user. Accordingly, when a transaction takes place between the Petitioner and its customers, it is not the sale of the software as such, but only the contents of the data stored in the software which would amount to only service. To bring the deemed sale under Article 366(29A)(d) of the Constitution, there must be a transfer of right to use any goods and when the goods as such is not transferred, the question of deeming sale of goods does not arise and in that sense, the transaction would be only a service and not a sale;

(iv) Accordingly, the argument that as software is ‘goods’, all transactions of canned / packaged software or customized software is a sale is not acceptable. The question whether a transaction amounts to a sale or service depends upon the individual transaction. Parliament cannot be said not to have the legislative competence to tax the transaction if it is shown to be a service.

(19.4 KiB, 716 DLs)

Reopening beyond 4 years on basis of Supreme Court’s judgement not justified if assessee has not failed to disclose material facts

The AO passed an order u/s 143(3) r.w.s 147 in which he allowed deduction u/s 80HHC though the assessee had suffered a loss in the export business by setting off the said loss against the export incentive. After the expiry of four years from the end of the assessment year, the assessment was reopened u/s 147 on the ground that pursuant to the judgement of the Supreme Court (probably Ipca Laboratories vs. CIT 266 ITR 521) s. 80HHC deduction could be allowed only if there were positive profits from export operations and the assessee had been wrongly allowed deduction u/s 80HHC. The Tribunal struck down the reopening. On appeal by the department, HELD dismissing the appeal:

The assessee had claimed deduction u/s 80HHC after a full disclosure of the material facts. As four years had elapsed from the end of the assessment year, the assessment could not be reopened in the absence of failure to disclose the material facts. The judgment of the Supreme Court is an expression of opinion on the interpretation of statute. Merely because a judgment has been rendered, the same cannot be a ground for reopening the assessment u/s 147 as it amounts to a change of opinion. Austin Engineering 312 ITR 70 (Guj) followed)