(35.5 KiB, 1,024 DLs)

“Binding” AAR Rulings can be challenged but not directly in the Supreme Court

The Petitioner, a USA company, filed an application for advance ruling on the question whether its liaison office in India was a “business connection”/ “permanent establishment” and whether its business profits were taxable under the Act and the DTAA. The AAR held that the liaison office was a business connection/ PE and that the income attributable thereto was assessable to tax in India. The Petitioner filed a SLP directly in the Supreme Court to challenge the AAR’s ruling. The Supreme Court had to consider whether the AAR was a “tribunal”/ “court” and its rulings could be challenged despite their “binding” effect and whether a direct challenge in the Supreme Court was desirable. HELD:

(i) The term “Court” is meant to refer to a Courts of Civil Judicature while the term “Tribunals” means those bodies of men who are appointed to decide controversies arising under certain special laws. U/s 245N, the AAR has the power to determine the tax liability arising out of a transaction and such determination may include a determination of issue of fact or issue of law. U/s 245S, its rulings are binding on the Applicant and the department. Consequently, the AAR is exercising judicial power and is a “tribunal” whose rulings can be challenged under Articles 136 and 227 of the Constitution;

(ii) The fact that the ruling pronounced by the AAR is “binding” does not affect the jurisdiction of the Court under Article 136 or under Articles 226 and 227 of the Constitution to entertain a challenge to the ruling.

(iii) The ruling should in the first instance be challenged before the High Court instead of directly in the Supreme Court. To avoid the matter remaining pending in the High Court for years, which would defeat the objective of enabling the applicant to get an expeditious ruling, the matter should be heard directly by a Division Bench of the High Court and decided as expeditiously as possible;

(iv) Ordinarily, an aggrieved party should not be encouraged to appeal directly to the Supreme Court unless it appears to the Court that the SLP raises substantial questions of general importance or a similar question is already pending before it for decision. On facts, as the SLP did not raise a substantial question of general importance nor was a similar question already pending before the Supreme Court, the Petitioner should move the High Court under Article 226/ 227 of the Constitution.

(207.6 KiB, 1,275 DLs)

No s. 271(1)(c) penalty if wrong claim caused by “bona fide mistake”

The AO levied s. 271(1)(c) penalty in respect of two issues: (i) claim of depreciation in respect of properties that were assessed under the head “house property” and (ii) claim of deduction in respect of provision for income-tax. The CIT (A) & Tribunal deleted the penalty on the ground that the claim for deduction in respect of income-tax was a “human bonafide clerical mistake” as the assessee was a firm not having expert chartered accountants on its payroll. In appeal before the High Court, the department relied on Zoom Communication 327 ITR 510 and Escorts Finance 328 ITR 44 where it was held that as under no circumstances could an assessee have claimed provision for tax as a deduction, penalty was imposable. HELD by the High Court dismissing the appeal:

As regards depreciation, the property was let out for the first time in the latter part of the AY. As such, the benefit of inadvertence or mechanical or repetitive claim being made can be given to the assessee. As regards the provision for taxation, the assessee made a claim for deduction of the provision for the first time in the year under appeal. There was no history of furnishing such accurate particulars by the assessee for the previous years. Accordingly, s. 271(1)(c) penalty is not leviable.

(73.7 KiB, 850 DLs)

5 Member Special Bench Transfer Pricing verdict affirmed without examining merits

In Aztec Software vs. ACIT 294 ITR (AT) 32 / 107 ITD 41, a 5 member Special Bench judgement of the Tribunal answered several questions such as (a) Whether it is a legal requirement under the provisions contained in Chapter X of the Income-tax Act, 1961 that the Assessing Officer should prima facie demonstrate that there is tax avoidance before invoking the relevant provisions?, (b) Whether it is a legal requirement under the provisions contained in Chapter X of the Income-tax Act, 1961 that the Assessing Officer should prima facie demonstrate that any one or more of the circumstances set out in clauses (a), (b), (c) and/or (d) of sub-section (3) of section 92C of the said Act are satisfied in the case of any assessee, before his case is referred to the Transfer Pricing Officer under sub-section (1) of section 92CA for computation of the arm’s length price?, (c) Whether the Assessing Officer is required to record his opinion/reason before seeking the previous approval of the Commissioner under section 92CA(1) of the Income-tax Act, 1961?, (d) Whether before making a reference to the Transfer Pricing Officer under section 92CA(1) read with section 92C(3) of the Income-tax Act, 1961, is it is a condition precedent that the Assessing Officer shall provide to the assessee an opportunity of being heard?, (e) Is the approval granted by the Commissioner under section 92CA(1) justiciable ? If so, can it be called in question in appeal on the ground that it was accorded without due diligence or proper application of mind?, (f) What is the legal effect of Instruction No. 3 of 2003 dated 20-5-2003 issued by the Central Board of Direct Taxes on Transfer Pricing matters?, (g) What is the role of the Assessing Officer after receipt by him of the order passed by the Transfer Pricing Officer under section 92CA(3) of the Income-tax Act, 1961 etc. After laying down the principles of law, the matter was remanded to the AO. On appeal by the assessee against the principles of law laid down by the Special Bench, HELD by the High Court dismissing the appeal:

We notice that in this appeal, the assessee has raised as many as 30 substantial questions of law. In our considered opinion, it is not really necessary to consider any of these questions, as in the first instance, the order of the Tribunal is not at all adverse to the interest of the appellant but is one to set aside the order passed by the Lower Appellate Authority and remanding the matter. We notice that all questions are left open, for redetermination by the Lower Appellate Authority.

 

8. In a matter which is remanded for a reexamination, no question of law arises for examination by the High Court in an appeal under Section 260-A of the Act, unless any part of the remand order suffers from a patent illegality or is an order perverse in nature, and is left to the Lower Appellate Authority to redetermine.

 

9. in this view of the matter, we do not propose to examine this appeal on merits any further but dismiss the appeal without expressing any opinion on any of the aspects and leaving it open to the assessee to urge all such contentions as are available to the assessee before the authority to which the matter is remanded.

(304.2 KiB, 1,010 DLs)

S. 10A/10B: Law on what is “manufacture”, “production” & “processing” explained

The Special Bench had to consider whether the assessees engaged in the business of blending & processing of tea and export thereof can be said to “manufacturer/producer” of the tea for the purpose of s. 10A/10B of the Act. HELD by the Special Bench, after a comprehensive review of the entire law on the subject, and deciding in favour of the assessee:

The assessee was exclusively engaged in blending and packing of tea for export and was not manufacturing or producing any other article or thing. It was recognised as a 100% EOU division and the Department had no case that the assessee’s unit engaged in export of tea bags and tea packets was not a 100% EOU. If exemption was denied on the ground that products exported were not produced or manufactured in the industrial unit of the assessee’s 100% EOU, it would defeat the very object of s. 10B of the Act. When the products for which the assessee’s unit is recognized as a 100% EOU are tea bags, tea in packets and tea in bulk packs and the assessee is exclusively engaged in blending and packing of tea for export may not be manufacturer or producer of any other article or thing in common parlance. However, for purposes of s. 10A, 10AA & 10B, the definition of the word “manufacture” as defined in s. 2(r) of SEZ Act, Exim Policy, Food Adulteration Rules, 1955, etc have to be considered. The definition of ‘manufacture’ as per s. 2(r) of SEZ Act, 2005 is incorporated in s. 10AA of the I. T. Act w.e.f. 10.02.2006. This amendment is clarificatory in nature. The definition of ‘manufacture’ under the SEZ Act etc is much wider than what is the meaning of the term ‘manufacture’ under the Income-tax Act.

(145.8 KiB, 1,063 DLs)

Non-Compete rights are an “intangible asset” eligible for depreciation

The assessee paid Rs. 4.55 crores to obtain a non-compete covenant from another company for a period of 10 years and claimed that the expenditure had resulted in an “intangible asset” u/s 32(1)(ii) on which depreciation was allowable. The AO rejected the claim though the CIT (A) allowed it. Before the Tribunal, the department relied on Srivatsan Surveyors (P) Ltd. vs. ITO 125 TTJ 286 (Chennai) where it was held that a non-compete right is a ‘right in persona’ and not a ‘right in rem’ and so depreciation was not allowable. HELD by the Tribunal dismissing the appeal:

The AO’s objection that a non-compete right is not an “intangible asset” u/s. 32(1)(ii) on the ground that (a) it is not “any other business or commercial right of a similar nature” and (b) it is not capable of transfer like other intangible assets is not acceptable because (i) the right of absence of competition or the ‘non-compete right’ is an asset which is capable of being transferred and is of a similar nature as the other items referred to. This is shown by the fact that the right was transferred by the assessee at the time of its amalgamation and (ii) the expenditure resulted in the acquisition of an unrivaled and non-competed business territory for 10 years which brought advantages in the capital field. Though in Srivatsan Surveyors 125 TTJ 286 (Chennai), it was held that a restrictive covenant is a “right in persona” and not a “right in rem”, a contrary view was taken in ITO vs. Medicorp Technologies India Ltd 30 SOT 506 (Chennai). When two views are possible, the view favourable to the assessee should be followed held in CIT vs. Vegetable Products Ltd. 88 ITR 192 (SC).

(216.6 KiB, 954 DLs)

AO hauled up for repeatedly disregarding ITAT’s directions & directed to pay costs

Pursuant to a search u/s 132, the assessee’s statement was recorded u/s 132(4) in which he offered Rs. 1.50 crores as undisclosed income. This was modified/ retracted subsequently by stating that the admission was only to the extent of the evidence found during the course of search operation. Despite the retraction, the AO passed a s. 158BC assessment order in which he determined the total undisclosed income at Rs. 1.50 crores. In the first round of appeal, the Tribunal remanded the matter to the AO to make a fresh assessment on the basis of the evidence found in the search and not only on the basis of the retracted/ modified statement. The AO passed a fresh assessment order in which he again determined the total undisclosed income at Rs. 1.50 crores on the basis of the s. 132(4) statement. In the second round, the Tribunal again remanded the matter back to the AO for framing a fresh assessment after imposing costs of Rs. 5000 upon the AO. The AO once again repeated the conclusions drawn in the earlier orders and determined the income at the same figure of Rs. 1.50 crores on the basis of the s. 132(4) statement. HELD by the Tribunal in the third round:

(i) It is very sad that the AO without following the principles of natural justice and inspite of clear findings of the ITAT in the order dated 18.06.2010 has repeated the same orders as was done originally way back in 1998. Inspite of levying cost of Rs. 5000 on AO there is no change in the attitude of the Revenue with reference to the assessee. By taking up the assessment at the fag end of the time barring period and by denying natural justice and not considering the evidence on record, the assessee was forced to file appeals before the ITAT unnecessarily by incurring heavy cost of not only appeal fees but also engaging Counsels to defend the case. There should be an end to this sorry state of affairs;

(ii) The matter is again remanded to the AO to complete the assessment only on the basis of incriminating material, if any, and not only on the basis of the s. 132(4) statement. If the AO repeats the same order without examining the material on record, the order will be quashed without any further consideration. The AO should pay costs of Rs. 35,000 (20,000 + 15,000) to the assessee for making him come again in appellate proceedings. The Revenue shall decide whether these amounts should be recovered from the officer(s) concerned. As the orders are being approved by a senior officer in the rank of CIT, it is sincerely hoped that the CIT also monitors these assessments and applies his mind while granting the approvals.

(44.3 KiB, 1,377 DLs)

Difference between market price & option price of ESOP shares deductible

The assessee allotted shares to its employees under an ESOP scheme. In accordance with the Employees Staff Option Plan and Employee Staff Purchase Scheme Guidelines, 1999 issued by SEBI, the difference between the market value of the shares and the value at which they were allotted to the employees was debited to the P&L A/c. This was claimed as a deduction under the head “staff welfare expenditure”. The AO allowed the claim though the CIT revised the assessment u/s 263 and held that the expenditure was notional and contingent in nature and not allowable as a deduction. On appeal, the Tribunal (S.S.I Ltd vs. DCIT 85 TTJ 1049) held that as the SEBI regulations required the difference between the market price of the shares and the price at which the option is exercised by the employees to be debited to the P&L A/c as expenditure, it was an ascertained expenditure and not contingent in nature. On appeal by the department to the High Court, HELD dismissing the appeal:

As far as the Employees Stock Option Plan is concerned, as rightly pointed out by the Tribunal, the assessee had to follow SEBI direction and by following such directions, the assessee claimed the ascertained amount as liability for deduction. There is no error in the order of the Tribunal.

(267.9 KiB, 1,834 DLs)

Value of shares allotted free of cost to employees is deductible revenue expenditure

The assessee allotted 3,94,692 Sweat Equity shares (ESOP) to its employees free of cost for rewarding them for past services or providing know how for making available rights in the IPR as per s. 79A of the Companies Act, 1956. Though the shares were allotted for no consideration, the assessee accounted for the shares at Rs.106.26 each (face value Rs. 10) at its arms length price and claimed Rs. 4.19 crores as a deduction towards “employees benefit expenses”. The shares were not allotted as at 31.3.2006. The AO disallowed the claim on the ground that it was not an ascertained liability but was a contingent liability though the CIT (A) allowed the claim. In appeal before the Tribunal, the department relied on Ranbaxy Laboratories 124 TTJ 771 (Del) & VIP Industries (ITAT Mum). HELD dismissing the appeal:

Though the allotment of the ESOP shares was not done as of 31.3.2006, the number of shares to be allotted to the employees as on 31.3.2006 was specified and immediately thereafter the said shares were so allotted. Consequently, the mere non-allotment of the shares pending completion of certain formalities does not merit the disallowance of said expenditure as being a contingent liability. The fact that the scheme provided for a lock in period of five years under which in case the employee left employment before the expiry of five years, the shares so allotted to him would revert to the assessee, did not make the liability contingent because where the shares were forfeited, the value thereof would be offered to tax in that year (S.S.I. Ltd. vs. DCIT 85 TTJ 1049 (Chennai) followed; Ranbaxy Laboratories 124 TTJ 771 (Del) & VIP Industries (ITAT Mum) distinguished)

(138.0 KiB, 533 DLs)

Transfer Pricing: Arms’ length royalty allowable even in respect of unpaid sales

The assessee entered into a Software Distribution Agreement with CA Management Inc (“CAMI”) pursuant to which it was appointed as a distributor of CAMI’s products in India. The assessee was required to pay an annual royalty of 30% on sales. The TPO accepted that the rate of royalty was at arms’ length price but held that royalty ought not to have been paid on sales where there was complaints on quality or which had turned into bad debts. The CIT (A) upheld the TPO’s stand though the Tribunal reversed it. On appeal by the department to the High Court, HELD dismissing the appeal:

S. 92C provides the basis for determining the ALP in relation to international transactions. It does not either expressly or impliedly consider failure of the assessee’s customers to pay for the products sold to them by the assessee to be a relevant factor in determining the ALP. In the absence of any statutory provision or the transactions being colourable bad debts on account of purchasers refusing to pay for the goods purchased by them from the assessee can never be a relevant factor while determining the ALP of the transaction between the assessee and its principal. Once it is accepted that the ALP of the royalty is justified, there can be no reduction in the value thereof on account of the assessee’s customers failing to pay the assessee for the product purchased by them from the assessee. Absent a contract to the contrary, the vendor or licensor is not concerned with whether its purchaser /licensee recovers its price from its clients to which it has in turn sold /licensed such products. The two are distinct & unconnected transactions. The purchaser’s / licensee’s obligation to pay the consideration under its transaction with its vendor / licensor is not dependent upon its recovering the price of the products from its clients.

(148.7 KiB, 1,389 DLs)

S. 271(1)(c) penalty not valid if “satisfaction” not recorded in the assessment order

The AO passed an order u/s 143(3) in which he took the view that the assessee had wrongly claimed deduction for a provision made towards non-saleable goods. This was upheld by the CIT(A) & the Tribunal. The AO also imposed penalty u/s 271(1)(c) for concealment / furnishing of inaccurate particulars of income. The CIT (A) upheld it. Before the Tribunal, the assessee argued that penalty was not imposable because (a) in the assessment order, the AO had not recorded a finding that there was concealment/ furnishing of inaccurate particulars of income and so there was no “satisfaction” and (b) there was no finding in the quantum order that the assessee’s claim was not bona fide and so penalty was not imposable. HELD upholding the assessee’s plea:

(i) Despite the insertion of sub-section (1B) to s. 271, the necessity for “prima facie satisfaction” for initiation of penalty proceedings continues to be a jurisdictional fact. The AO has to record the finding that there was concealment of income. In the s. 143(3) assessment order, the AO has not mentioned a word that there was furnishing of inaccurate particulars or concealment of income. He made the addition merely on the ground that the assessee was not able to produce any evidence for writing off of the amount in the books of account. As the satisfaction that the assessee had concealed income or furnished inaccurate particulars of such income is not discernible from the assessment order, the penalty order suffers from lack of jurisdiction to impose penalty (Madhu Shree Gupta 317 ITR 107 (Del) followed);

(ii) It is settled law that assessment proceedings and penalty proceedings are separate proceedings and findings arrived at in quantum appeal may have persuasive value but are not conclusive for levying penalty. In the quantum appeal there was no finding of the Tribunal that the assessee’s claim was not bona fide or that there was any fraud or gross or willful neglect on its part;

(iii) Penalty should ordinarily not be imposed unless the party obliged either acted deliberately in defiance of law or was guilty of conduct contumacious or dishonest, or acted in conscious disregard of its obligation. Penalty should not be imposed merely because it is lawful to do so. Even if a minimum penalty is prescribed, the authority competent to impose the penalty will be justified in refusing to impose penalty, when there is a technical or venial breach of the provisions of the Act or where the breach flows from a bona fide belief that the offender is not liable to act in the manner prescribed by the statute. On facts, the assessee’s act of writing off un-saleable goods cannot be said to be not bona fide and it cannot be said to be furnishing of inaccurate particulars of income.