(133.2 KiB, 2,025 DLs)

Despite service of s. 148 Notice in time, non-supply of ‘Reasons For Reopening’ within time renders the reopening void

In respect of AY 2001-02, the AO served notice u/s 148 on 28.3.2008 within the limitation period. However, the recorded reasons were supplied on 15.5.2008 after the limitation period. The assessee argued before the Tribunal that in the light of the observations in Haryana Acrylic vs. CIT 308 ITR 38 (Del), if the reasons for reopening were not served on the assessee within 6 years, the reopening was void. HELD upholding the challenge:

(i) U/s 149(1)(b) a notice u/s 148 cannot be issued after the issue of 6 years from the end of the AY. In Haryana Acrylic vs. CIT 308 ITR 38 it was held that a notice u/s 148 without the communication of the reasons there for is meaningless inasmuch as the AO is bound to furnish the reasons within a reasonable time. It was held that a case where the notice has been issued within the said period of six years but the reasons have not been furnished within that period is hit by the bar of limitation because the issuance of the notice and the communication and furnishing of reasons go hand-in-hand. The expression ‘within a reasonable period of time’ as used in GKN Driveshafts 259 ITR 19 (SC) cannot be stretched to such an extent that it extends even beyond the six years stipulated in s. 149;

(ii) As the issuance of the s. 148 notice and the communication and furnishing of reasons go hand in hand, the reasons have to be supplied to the assessee before the expiry of period of 6 years. If this is not done, the validity of the s. 148 notice cannot be upheld. In any proceeding, whether civil or criminal, a summons issued without a copy of the plaint or complaint has to be construed as if no valid service of notice has been effected upon the defendant or respondents.

(27.3 KiB, 1,274 DLs)

No s. 14A Disallowance of administrative expenses pre Rule 8D

For pre AY 2008-09 the assessee earned tax free income from investment in units, shares, bonds etc. The assessee did not maintain separate books of account for the tax-free securities but claimed that the same had been invested from its own funds and no part of the interest on the borrowed funds could be disallowed. The AO took the view that the interest paid by the assessee on its borrowings together with the admin expenses had to be disallowed u/s 14A. On appeal, the Tribunal held {probably following Dhanlakshmi Bank 12 SOT 625 (Coch)} that as no rules had then been prescribed for computing the disallowance, no disallowance u/s 14A could be made. On appeal by the department, HELD partly allowing the appeal:

(i) Though Rule 8D inserted w.e.f. FY 2007-08 provides the precise formula for working out the disallowance to be made u/s 14A where the assessee does not have separate account showing the expenditure (by way of interest) incurred on tax-free investments, for periods prior thereto the expenditure can be estimated on a reasonable basis;

(ii) As regards the method of computing the disallowance of interest, the AO’s assumption that the investment in tax-free securities has come out of borrowed funds is not justified given the assessee’s case that they had non-borrowed funds to invest. Formula for computing interest disallowance suggested and matter remanded to AO for re-consideration;

(iii) As regards the disallowance of administrative expenditure, considering the fact that there is no precise formula for proportionate disallowance, no disallowance is called for, for proportionate administrative cost attributable to earning of tax free income until Rule 8D came into force.

(70.6 KiB, 1,192 DLs)

Transfer Pricing: Super-normal profit cos must be excluded from comparables. DRP must not pass cursory / laconic orders

The assessee, engaged in providing software development services reported an OP/Cost Margin of 14.96%. The TPO worked out the average of arithmetic mean of ALP (OP/OC) of 42 comparables at 24.91% and directed that an adjustment of Rs. 10.40 crores be made. In its objections to the DRP, the assessee claimed that the comparables included three companies which were “super-normal profit making” and that these should be excluded. It was claimed that if the said companies were excluded, the arithmetic mean of OP/OC of the comparables was 17.15% which was within the +/- 5% range permitted by s.92(C)(2). The TPO rejected the contention on the ground that one company was listed and audited and showing consistent growth at the same level and there was no abnormality and that the other company’s information was not listed in the database. The third “abnormal” company was not dealt with by the TPO. The DRP dismissed the objections of the assessee by a “very cursory and laconic order”. On appeal by the assessee, HELD allowing the appeal:

(i) The TPO rejected the assessee’s contention with regard to inclusion of the three super-normal profit companies without any cogent reason. It is undisputed that the three companies have shown super-normal profits as compared to other comparables. Their exclusion from the list of comparable is quite correct. After excluding the three companies the arithmetic mean of the comparables falls within the +-5% range permitted by s.92(C)(2);

(ii) Despite the voluminous submissions and paper book filed, the DRP passed a very cursory & laconic order without going into the details of the submissions which is quite contrary to the mandate of s. 144C.

(446.9 KiB, 1,073 DLs)

High Court has power to review its judgement u/s 260A

S. 35G (9) of the Central Excise Act (= s. 260A (7) of the IT Act) provides that “the provisions of Civil Procedure Code, 1908 relating to appeals to the High Court shall as far as may be apply in the case of appeals under this Section”. Given that only the provisions of the CPC relating to “appeals” are made applicable and not those relating to “review”, the High Court had to consider whether the provisions of s. 114 and Order XLVII of the Civil Procedure Code which confer power on the High Court to review its judgements apply to appeals filed under the Excise Act. The assessee and the department were agreed that the High Court had that power. HELD accepting the claim:

(i) The High Court is a Court of record as envisaged in Article 215 of the Constitution and has inherent powers to correct the record. As the High Court has plenary jurisdiction, it has inherent power of review to prevent miscarriage of justice or to correct grave and palpable errors committed by it. CCE vs. Hongo India (236) ELT 417 (SC) & D.N. Singh vs. CIT 325 ITR 349 (Pat) (FB) followed;

(ii) In dealing with matters under a special enactment, the practice and procedure of the ordinary Court will apply if the special enactment refers to and adopts the practice and procedure to be followed by the ordinary Court. Accordingly, all provisions of the CPC apply to appeals under the Excise Act;

(iii) S. 35G(9) does not restrict the jurisdiction of the High Court to only the provisions of the CPC relating to appeal. S. 35G(9) is enacted out of abundant caution to provide that in respect of matters not dealt with by the special enactment, the provisions of the CPC shall apply. Even if s. 35G(9) were not there, the ordinary law of the court have to be applied in the absence of anything contrary in the special law;

(iv) One of the grounds of review is an error apparent on the face of the record. Where a statute is amended retrospectively, a judgment applying the unamended law constitutes an error apparent on the face of record and can be reviewed.

(363.6 KiB, 1,801 DLs)

“Goodwill” is an “intangible asset” u/s 32(1)(ii) & eligible for depreciation

The assessee engaged in manufacture of non-alcoholic beverages claimed depreciation u/s 32 on “goodwill” being the amounts paid to bottlers for marketing and trading reputation, trading style and name, territory know-how etc. The AO, after due inquiry, allowed the assessee’s claim u/s 143(3). The CIT revised the assessment u/s 263 on the ground that goodwill was not an “intangible asset” as defined in s. 32(1)(ii) and directed the AO to withdraw depreciation. On appeal by the assessee, the Tribunal {132 TTJ 602 (Del)} upheld the assessee’s claim. On appeal by the department, HELD dismissing the appeal:

(i) S. 263 cannot be invoked to correct each and every type of mistake or error committed by the AO if it is not “prejudicial to the interests of the revenue”. Every loss of revenue as a consequence of the AO’s order cannot be treated as prejudicial to the interests of the Revenue. E.g. when the AO adopted one of the courses permissible in law and it has resulted in loss of Revenue; or where two views are possible and the AO has taken one view with which the CIT does not agree, it cannot be treated as an erroneous order prejudicial to the interests of the Revenue, unless the view taken by the AO is unsustainable in law (Malabar Industrial Co 243 ITR 83 (SC) followed);

(ii) On facts, as the assessee had made full disclosure of the facts of the claim and the AO had examined the claim and taken a view, the assessment order cannot be termed “erroneous & prejudicial to the interests of the revenue”;

(iii) On merits, s. 32(1)(ii) allows depreciation in respect of know-how, patent, copyrights, trademarks, licences, franchises or any other business or commercial rights of similar nature. The term “commercial rights” are such rights which are obtained for effectively carrying on business and commerce. “Commerce” is a wide term which encompasses many a facet. Accordingly, any right obtained for carrying on business with effectiveness comes within the sweep of meaning of “intangible asset”. Goodwill, being the positive reputation built by a person over a period of time is of “similar nature” as the other items enumerated in the definition of “intangible assets.

(240.7 KiB, 1,234 DLs)

Despite non-user of asset, depreciation admissible if it is part of “block of assets”

The assessee claimed depreciation u/s 32 in respect of the assets of its Bhopal unit which was closed for 6 years. The claim was on the basis that (i) despite closure of the unit there was a “passive user” of the assets and that (ii) even assuming there was no user, as the assets were part of the “block of assets”, deprecation could not be disallowed. The AO & CIT (A) rejected the claim though the Tribunal upheld it. On appeal by the department, HELD dismissing the appeal:

(i) The argument of the assessee that despite closure of the unit for 6 years there should be deemed to be “passive user” is not acceptable as then the words “used for the purpose of business” will lose their sanctity and become superfluous. The fact that the assessee is striving to make the unit viable does not provide justification to claim depreciation when actual non-user remained for number of years;

(ii) However, pursuant to the insertion of the concept of “block of assets” w.e.f. 1.04.1988, depreciation is allowable on the WDV of the “block of assets” and individual assets lose their identity upon introduction into the block. The department’s argument that user of each and every asset is essential is not acceptable because it would mean that the assessee has to maintain the details of each asset separately and this would frustrate the very purpose for which the amendment was brought about. The Revenue is not put to any loss by adopting such method because when the asset is sold, it results in taxable STCG.

(70.9 KiB, 1,204 DLs)

Even if commercial transaction is at arms’ length, debt overdue for long period attracts transfer pricing interest

The assessee had transactions with its associated enterprise in USA which were accepted by the TPO to be at arms’ length. At the end of the year, an amount of Rs.7.73 crores was receivable by the assessee from the AE and of this an amount of Rs.5.52 crores was outstanding for more than six months. The TPO held that the assessee ought to have earned interest on the said funds and computed interest of Rs. 56.60 lakhs on the outstanding of Rs. 5.52 crores by adopting the Prime Lending Rate (PLR) of 10.25% as the interest. On appeal, the CIT (A) approved the decision of the TPO in principle though he held that the PLR could not be taken but the LIBOR / US-FED rate had to be taken as that would be payable by the AE if it had borrowed in the USA. He also held that a reasonable period for collection of the receivables had to be allowed and the interest calculated only for the period over-flowing the reasonable time limit. On cross appeals to the Tribunal, HELD:

(i) Though the reference made by the AO to the TPO related only to the international transactions and did not cover the aspect of delay in collecting the receivables, the TPO was entitled to go into the issue. When a file is referred to the TPO for examining the ALP, the entire gamut of international transactions are open for the TPO’s consideration. Further, as the receivables were the financial result of the international transactions they cannot be treated as a separate transaction for transfer pricing purposes;

(ii) The assessee’s explanation for non-collection of the huge outstanding for more than 6 months is not convincing. The facts showed that the assessee was financing the business of the AE by accommodating delayed remittance of receivables;

(iii) The fact that the international transactions are at ALP does not mean that no addition can be made on the funds kept by the assessee with the AE. If the assessee had received funds within the normal period, it could have earned interest on the same. The potential loss is a factor to be considered while evaluating the financial impact of the international transactions between the assessee and the AE. However, a reasonable period has to be provided as interest-free period;

(iv) As the transaction is not a “loan” but is a receivable, the terms applicable to a loan such as its term, credit-standing of the borrower, security etc should not be considered. The interest should not be calculated at LIBOR/US-FED rate but by adopting the Indian rate as that is the loss suffered by the assessee for not bringing the funds within the normal period. The rate available on short-term deposits (5%) should be taken and not the PLR (10.25%);

(136.7 KiB, 1,363 DLs)

Transfer Pricing Benefit u/s 92C of +/- 5% variation from ALP not available if only one price determined

The assessee undertook international transactions with associated enterprises for export of pulses. The AO made a reference to the TPO for determination of the arms’ length price (ALP) but the TPO did not furnish the report. Thereafter, the AO himself determined the ALP and concluded, by adopting “CUP” method, that in six instances the price paid by the assessee was in excess of the quotation in “Agriwatch” database. In appeal, the CIT (A) accepted that in respect of the transactions where the variation between the price paid and the price given in “Agriwatch” was less than 5% no adjustment could be made though he confirmed the other adjustments. On cross appeals before the Tribunal, HELD:

(i) The argument that as the TPO did not determine the ALP despite a reference to him by the AO, the AO had no jurisdiction to determine the ALP is not acceptable because the TPO’s report is not binding on the AO. The TPO’s failure does not bar the AO’s jurisdiction to determine the ALP (ratio of Sony India 288 ITR 52 (Del) followed but amendment to s. 92CA(4) w.e.f. 1.6.2007 not noted);

(ii) The argument that transfer price regulations are meant for curbing tax avoidance and if such intention is absent, no adjustment should be made is not acceptable (Aztec Software 294 ITR (AT) 32 (SB) & Coca Cola India Inc 309 ITR 194 (P&H) followed);

(iii) Under the Proviso to s. 92C(2) (pre-amendment w.e.f. 1.10.09) the option to the assessee to choose a price which may vary from the arithmetical mean by an amount not exceeding five per cent is available only where more than one price is determined and not where there is only one comparable instance (Sony India vs. DCIT 114 ITD 448 (Del) & DCIT vs. BASF India not followed. Perot System TSI (India) Ltd 130 TTJ 685 followed);

(iv) The said Proviso as amended w.e.f 1.10.09 is a substantive provision and not clarificatory and applies only from AY 2009-10 and onwards. Even otherwise, the exception provided in both the provisos of s. 92C(2) with regard to the +/- 5% variation applies only when more than one price is determined. Even under the amended law, the benefit is not available to the assessee if only one price has been determined by applying CUP method.

(v) Circular No. 12/2001 dated 23.8.2001 which states that the AO shall not make any adjustment to the ALP determined by the assessee if such price is upto +/- 5% the price determined by the AO is not applicable because the assessee has not “determined” a price but has relied upon the “Agriwatch” data base. Even the AO has relied on the same data base. So, “the price determined by the assessee and the AO is the same” and the Circular is not applicable. There is also no absurdity in this interpretation;

(vi) The argument that the position should be seen as a whole with respect to all the transactions and not only with respect to the disputed transactions is not acceptable because the assessee has not shown that various purchases were a part of pre-arranged scheme or agreement so as to constitute a part of the indivisible transactions of purchase.

(24.3 KiB, 885 DLs)

If Transfer Pricing difference is less than 5%, actual price should be taken as ALP

In respect of AY 2002-03 the assessee purchased goods from its associated enterprises. The difference between the price paid by the assessee and the arms’ length price determined by the AO was 4%. The assessee argued that by virtue of the second Proviso to s. 92C (2), no adjustment could be made. HELD accepting the assessee’s claim:

The second Proviso to s. 92C (2) (as substituted by F (No. 2) Act, 2009 w.e.f. 1.10.09) clearly shows that if the difference is less than 5% then the actual price paid should be considered as arm’s length price. The TPO as well as CIT (A) have clearly observed that difference in respect of these two items is 4% and, therefore, same has to be reckoned in terms of second proviso. Similar view was taken in the case of Sony India vs. Dy. CIT by Delhi Bench of the Tribunal 114 ITD 448.

(98.0 KiB, 1,669 DLs)

No s. 14A disallowance for personal tax-free investments if business expenditure not disallowed on ground of being for personal purposes

The assessee, a stock broker & Member of BSE, earned tax-free income by way of dividend, interest on RBI bonds and PPF interest. The assessee claimed that no disallowance u/s 14A could be made as no expenditure was incurred by him to earn the tax-free income as the shares were in the demat account for a long time and dividend was automatically credited to the bank account. The AO disallowed Rs. 20,000 u/s 14A. In appeal, the CIT (A), instead of examining the issue on factual basis, directed that Rule 8D should be applied. On appeal to the Tribunal, HELD allowing the appeal:

The assessee is maintaining separate books of account for the purpose of business. The tax-free investments are in his personal capacity. As the AO has not disallowed any expenditure of personal nature out of the business income, the expenditure claimed in the business of share dealings cannot be correlated to the incomes earned in personal capacity that too on dividend, PPF interest and tax free interest on RBI bonds. Accordingly, the estimation of expenditure of Rs. 20,000 out of business expenditure as being incurred for earning tax free income is not acceptable.