In a finance lease, claim for “lease equalization charge” as per ICAI Guidelines is allowable

The assessee received lease charges and claimed a reduction towards “lease equalization charges” on the ground that reduction was in accordance with the Guidance Note dated 20.09.1995 issued by the ICAI in respect of Accounting for Leases and the Accounting Standard AS-1 notified u/s 145 which mandated that the accounting policy of the assessee should represent a true and fair view. The AO & CIT (A) rejected the claim on the ground that it was a “notional charge” and that the accounting guidelines could not override the Act. The Tribunal (38 SOT 412), however, allowed the claim. On appeal by the department, HELD dismissing the appeal:

(i) As the method for accounting for lease rentals was based on the Guidance Note “Accounting For Leases” issued by the ICAI, the AO was not entitled to disregard the same. The Guidance Note reflects the best practices adopted by accountants the world over and the fact that it was not mandatory is irrelevant. The ICAI is recognized as the body vested with the authority to recommend Accounting Standards for ultimate prescription by the Central Government u/s 211(3C) of the Companies Act. Also AS-1 pertaining to Disclosure of Accounting Policies has mandatory status for periods commencing on or after 01.04.1991. The change by the assessee in the policy of accounting for leases had the imprimatur of the ICAI and so the AO was not entitled to disregard the books of accounts or the method of accounting for leases;

(ii) The department’s contention that the “lease equalization charge” is a claim in the form of a deduction which cannot be allowed as there is no provision under the Act is based on a complete misappreciation of what constitutes a lease equalization charge. As the transaction was a finance lease, the charge had to be provided as per the ICAI Guidelines. As long as the method employed for accounting of income meets with the rudimentary principles of accountancy, one of which, includes offering only revenue income for tax, no fault can be found with the assessee debiting lease equalization charges in its profit and loss account. This represented the true and fair view of the accounts; a statutory requirement u/s 211(2) of the Companies Act, enabled determination of real income.

Interrogation till late night amounts to “torture” & violation of “human rights”

The assessee’s premises were searched u/s 132 and alleged undisclosed income of Rs. 4.18 crores was detected. The assessee filed a complaint before the the Bihar Human Rights Commission stating that interrogation & recording of statement was conducted for more than 30 hours and till the odd hours of the night without any break or interval and this violated his human rights. The Commission upheld the plea and directed the concerned officials to show-cause why the assessee should not be compensated from their salary. The Department filed a Writ Petition to challenge the order. HELD by the Court:

(i) The interrogation continued till 3.30 a.m. on the second night of search and seizure as per the department’s record. The search and seizure manual does not prescribe any time limit for search and survey operation and the same may continue for days if required, but it has to be in keeping with the basic human rights and dignity of an individual. The purpose of the Act is to give effect to the process of execution of actions of executive and bureaucratic machinery in line of accepted standard of basic human rights which are internationally recognized. The laws, and approach to law for its execution must confirm to the charter of human values and dignity. Even a person accused of a serious offence has to be produced before the nearest Magistrate within 24 hours minus the time taken in reaching the Court. There is no possible justification to continue interrogation and keep the assessee awake till 3 a.m. on the second night of search and interrogations. No reason has been assigned as to why the interrogations could not have been deferred till the morning of the next day. The officials could have continued with the interrogation on the next day in the morning after allowing the assessee to retire at an appropriate time in the night. Sleep deprivation method of interrogation amounts to inhuman treatment and violation of Article 3 of the European Convention on Human Rights. The Convention prohibits in absolute terms torture or Inhuman or degrading treatment or punishment. No exception to Article 3 can be made even in the event of Public Emergency threatening the life of the Nation. Accordingly, the department is guilty of violating human rights even though the operations were conducted in best interest of revenue and good faith (Ireland vs. UK (1978) ECHR 1, Kalashnikov vs. Russia (2002) ECHR 596 & Salmouni vs. France (2000) 29 EHRR 403 followed; Rajendran Chingaravelu 2010(1) SCC 45 distinguished)

(ii) However, as the Commission, without issuing any notice to the officials engaged in the search (as to the violation of Human Rights), issued notice on why monetary compensation be not awarded and be recoverable from their salary, it had pre-judged the officials as being guilty of violation of human rights, without affording them an opportunity of hearing. This was contrary to s. 16 of the Protection of Human Rights Act, 1993 and had to be reversed.

S. 220(6): In high-pitched assessments, AO must ordinarily grant stay of demand

The assessee offered Rs. 3.48 lakhs. The AO made a “high-pitched” assessment of Rs. 1.44 crores. The AO rejected the assessee’s stay application and issued s. 226(3) garnishee notices. The assessee filed a Writ Petition to challenge the rejection of the stay application. HELD by the High Court allowing the Petition:

(i) U/s 226 (6) the AO has the discretion not to treat the assessee as being in default during the pendency of the appeal. The AO has to normally use this discretion in favour of assessee particularly when high pitched assessments are made and the demand of tax is several times the declared tax liability in the spirit of Instruction No.95 dated 21.08.1969 and grant stay. The mandate of Parliament in s. 220 (6) is that the AO should normally wait for the fate of the appeal filed by the assessee. Therefore, the discretion conferred by s. 220(6) of not treating the assessee in default should ordinarily be exercised in favour of assessee unless there are overriding and overwhelming reasons to reject the assessee’s stay application. The application cannot normally be rejected by merely describing it to be against the interest of Revenue if recovery is not made, if tax demanded is twice or more of the declared tax liability. The very purpose of filing of appeal, which provides an effective remedy to the assessee, is likely to be frustrated, if such a discretion was always to be exercised in favour of revenue rather than assessee.

(ii) The tendency of making high pitched assessments by the AO is not unknown and it may result in serious prejudice to the assessee and miscarriage of justice & sometimes may even result into insolvency or closure of the business if such power was to be exercised only in a pro-revenue manner. It may be like execution of death sentence, whereas the accused may get even acquittal from higher appellate forums or courts. Therefore, the powers u/s 220 (6) has to be exercised in accordance with the letter and spirit of Instruction No. 95 dated 21.08.1969 which holds the field and is biding on the AO.

(iii) CBDT urged to issue appropriate guidelines for grant of stay in the spirit of Instruction No.95 dated 21.08.1969 to all the subordinate authorities & to clarify that CIT (A) has the power to grant stay of demand.

(iv) On facts, as the assessed income was 47 times the returned income, the applicability of Instruction No.95 dated 21.08.1969 was beyond the pale of doubt and the assessee was entitled to a stay of demand till the disposal of the appeal by the CIT (A).

(v) The CIT (A) has inherent powers to grant stay against recovery of disputed demand of tax if an appeal u/s 246A is filed. The relevant factors to be considered are prima-facie case, balance of convenience, irreparable injury, nature of demand and hardship likely to be caused to the assessee, liquidity available to the assessee etc.

S. 147/292BB: Delay in issue of s. 143 (2) notice renders assessment invalid

The AO issued a notice u/s 148 to reopen the assessment. Though the assessee filed a ROI, the AO did not issue the s. 143(2) notice within the prescribed period but passed a draft assessment order u/s 144C. The Court had to consider (a) what is the effect of the failure to issue notice u/s 143(2) within the period stipulated in the proviso to clause (ii) and (b) the effect of s. 292BB of the Act. HELD by the Court quashing the assessment proceedings:

(i) The service of notice u/s 143(2) within the statutory time limit is mandatory and is not an inconsequential procedural requirement. Omission to issue notice u/s 143(2) is not curable and the requirement cannot be dispensed with. S. 143(2) is applicable to proceedings u/s 147 & 148. While the Proviso to s. 148 protects and grants liberty to the Revenue to serve notice u/s 143(2) before passing of the assessment order for returns furnished on or before 1.10.2005, in respect of returns filed pursuant to notice u/s 148 after 1.10.2005, it is mandatory to serve notice u/s 143(2) within the stipulated time limit (Hotel Blue Moon 321 ITR 362 (SC) referred).

(ii) S. 292BB incorporates the principle of estoppel and stipulates that an assessee who has appeared in any proceeding and co-operated in any enquiry relating to assessment or reassessment shall be deemed to be served with any notice which was required to be served and would be precluded from objecting that the notice was not served upon him or was served upon him in an improper manner or was not served upon him in time. However, the principle of estoppel does not apply if the assessee has raised objection in reply to the notice before completion of assessment or reassessment. As the AO had passed a draft assessment order and the assessee had raised an objection before completion of assessment, the estoppel in s. 292BB did not apply and the s. 147 proceedings could not continue.

As interim measure, Ex-ITAT Members permitted to practice before Benches where they were not posted

Rule 13E of the Income Tax Appellate Tribunal Members (Recruitment and Conditions of Service) Rules, 1963 notified on June 3, 2009 imposes a ban on the practice by retired members before the Income Tax Appellate Tribunal. The Petitioner, a retired member of the Tribunal, filed a writ petition to challenge the said Rule as being ultra vires the provisions of s. 288 of the Act and s. 30 of Advocates Act 1961. HELD by the High Court granting interin relief:

Though, prima facie, the Rule appears to be a correct notification supposedly issued in public interest in line with the rules and practice clamping ban on the legal practice by the retired judges of High Court in the courts where they remain posted as permanent judge and the Tribunals and Courts subordinate to High Court, however, it appears to be offensive in two respects; namely, that the retired members have been completely barred from practice before the Tribunal, and secondly, that the aforesaid rule 13E has been interpreted to apply retrospectively in the judgment rendered in the case of Concept Creations vs. ACIT 120 ITD 19 (Delhi) (Special Bench) by the Income Tax Appellate Tribunal, Delhi, beyond its pale of competence as it has the jurisdiction to decide only the matters relating to tax appeals as contained in the Income Tax Act vide Sections 253 and 254 thereof.

 

Hence, issue notice to opposite party no.3 to show cause as to under what jurisdiction and authority, the Tribunal has interpreted Rule 13E as aforesaid in the judgment passed in the case of Concept Creations(supra) to the disadvantage of the retired members by imposing a complete ban on the practice before the Tribunal.

 

The petitioner may serve this notice dasti as well.

 

Till the next date of hearing, operation of the impugned rule 13E as well as the judgment in the case of Concept Creations shall remain stayed in so far as they impose a complete ban on the practice by retired members before the Tribunal.

 

Thus, it would be open for the retired members to practise before the Benches of Tribunal where they had not remained posted and held courts temporarily or on regular basis.

S. 147: Retrospective amendment no basis beyond 4 years. AO not to delay passing objection order

For AY 2005-06, the AO passed a s. 143(3) order in which he allowed s. 80-IA deduction. Thereafter, after the expiry of 4 years, he reopened the assessment u/s 147 on the ground that in view of the retrospective amendment to the Explanation to s. 80-IA by the F (No. 2) Act 2009 w.r.e.f. 1.4.2000, the assessee, being a works contractor, was not eligible for s. 80-IA deduction. The AO took 6 months to deal with the objections and passed the assessment order within 2 weeks. On a Writ Petition filed by the assessee to challenge the assessment order, HELD allowing the Petition:

(i) The fact that by virtue of the Explanation to s. 80IA added with retrospective effect from 1.4.2000, income derived from the works contract would not qualify for deduction u/s 80IA does not mean that an assessment can be reopened beyond 4 years without there being any failure to disclose truly and fully all material facts (Sadbhav Engineering 333 ITR 483(Guj) followed);

(ii) The argument that the assessee failed to disclose the nature of works executed and that the same was executed only as works contractor and not as a developer, cannot be accepted for two reasons. Firstly, the reasons recorded do not refer to such a ground. Secondly, when the assessee filed the return of income, the Explanation in question was not in picture. The assessee cannot be expected to comply with the requirements of such Explanation by making disclosures in this regard which Explanation did not form part of the statute book when he filed his return;

(iii) The AOs have a tendency to delay disposing of the objections and, thereafter at the fag end of final time limit, to frame the assessment. This tendency is not approved. This was not the intention of the Apex Court when GKN Driveshafts (India) Ltd. vs. ITO 259 ITR 19 (SC) was rendered. This should be brought to the notice of the AOs by the Department so that such instances do not recur in future.

S. 80-IB (10): “Housing Project” eligible even if Developer not “owner” of land

The assessee entered into a ‘development agreement’ with the owner of the land pursuant to which it agreed to develop the land. Deduction u/s 80-IB(10) in respect of the profits arising from the said activity was claimed on the ground that it was “derived from the business of undertaking developing and building housing project approved by the local authority”. The AO & CIT (A) rejected the claim on the ground that the assessee was not the “owner” of the land and that the approval of the local authority to, and the completion certificate of, the “housing project” was given to the owner and not to the assessee. However, the Tribunal allowed the claim. On appeal by the department to the High Court, HELD dismissing the appeal:

S. 80IB(10) allows deduction to an undertaking engaged in the business of developing and constructing housing projects. There is no requirement that the land must be owned by the assessee seeking the deduction. Under the development agreement, the assessee had undertaken the development of housing project at its own risk and cost. The land owner had accepted the full price of the land and had no responsibility. The entire risk of investment and expenditure was that of the assessee. Resultantly, profit and loss also accrued to the assessee alone. The assessee had total and complete control over the land and could put the land to the agreed use. It had full authority and responsibility to develop the housing project by not only putting up the construction but by carrying out various other activities including enrolling members, accepting members, carrying out modifications engaging professional agencies and so on. The risk element was entirely that of the assessee. The assessee was a “developer” in common parlance as well as legal parlance and could not be regarded as only a “works contractor”. The Explanation to s. 80IB inserted w.r.e.f 1.4.2001 has no application as the project is not a “works contract”. Further, as the assessee was, in part performance of the agreement to sell the land, given possession and had also carried out the construction work for development of the housing project, it had to be deemed to be the “owner” u/s 2(47)(v) r.w.s. 53A of the TOP Act even though formal title had not passed (Faqir Chand Gulati vs. Uppal Agencies (2008) 10 SCC 345 distinguished)

AO’s decision to refer to TPO must be based on material & not be arbitrary

The assessee entered into transactions with a party named Blue Gems BVBA. In the preceding year, the assessee treated the transactions as an “international transaction” for transfer pricing purposes. However, in the present year, the assessee claimed that though the said party was a “related party”, it was not an “affiliated entity” as defined in s. 92CA. However, instead of deciding the issue, the AO made a reference to the TPO to determine the ALP and the TPO asked the assessee to show-cause why the transaction with the said party was not subject to transfer pricing proceedings. The assessee filed a Writ Petition to challenge the action of the AO/TPO. HELD by the High Court:

The AO has jurisdiction to make a reference to the TPO only if there is an “international transaction”. Though the question as to whether there is an “international transaction” may be disputed, the AO is not obliged to grant hearing to the assessee, invite and consider the objections with respect to the question whether there was an “international transaction” before making a reference to the TPO. The AO’s opinion has to be based on available material and would have “ad-hoc” finality. The power cannot be exercised arbitrarily or at whims or caprice. S. 92C (1) has inbuilt safeguards to ensure that the reference is made only in appropriate cases with approval of the higher authority. At the stage of framing the assessment in terms of the TPO’s report the AO is entitled (despite the amendment to s. 92CA(4)) to consider the objections of the assessee that in fact there had been no “international transaction”. If the assessee succeeds in establishing such fact, the AO would have to drop the entire transfer pricing proceedings. Even the DRP has the power to consider whether there was an international transaction or not and it can annul the computations proposed on the basis of the TPO’s order. However, the TPO has no jurisdiction to decide the validity of any such reference and his task is only to determine the ALP. On facts, as the parties were closely related and the assessee had accepted in the preceding year that the transactions were subject to transfer pricing, the AO’s reference could not be interfered in writ proceedings.

Even if not assessable as “fees for technical services” under DTAA, bar in s. 44D against deduction of expenses will apply

The assessee, an Australian company, set up a permanent establishment (PE) in India to render technical services for evaluation of coal deposits and conducting feasibility studies for transportation of iron ore. The AO & CIT (A) held that the payments received by the assessee were taxable as “fee for technical services” u/s 9(1)(vii) read with s. 115A on a gross basis without any deduction in view of s. 44D at the rate of 20%. On appeal, the Tribunal (39 DTR 327 (Del)) held that as the assessee had a PE in India, the receipts were chargeable to tax as “business profits” after deduction of expenses under Article 7 of the DTAA and s. 44D & 115A did not apply. On appeal by the department, HELD partly reversing the Tribunal:

(i) As the assessee had a PE in India from which the income arose, the income was chargeable to tax as “business profits” under Article 7 of the DTAA and not as “fees for technical services” under Article 12;

(ii) Article 7(3) permits a deduction of expenditure “in accordance with and subject to limitations of the law” relating to tax in India including executive and general administrative expenses so incurred regardless whether they have incurred in India or elsewhere. The words “in accordance with and subject to limitation of the law relating to tax” applies not only to the “executive and general administrative expenses” but to all expenditure;

(iii) The income received by the assessee, though not assessable as “fees for technical services” under the DTAA, is “fees for technical services” under Explanation 2 to s. 9(1)(vii) because it is for providing technical information and does not arise from a “project”. Consequently, s. 44D, which provides that no deduction shall be admissible while computing income of the nature of “fees for technical services” shall apply.

S. 220(2): If original demand not fully paid, interest payable even for period when demand was not in existence

The AO passed an assessment order and raised a demand of Rs. 21.24 lakhs of which Rs. 10.50 lakhs was paid by the assessee and the balance of Rs. 10.94 was stayed. On 20.5.1998, the CIT (A) allowed the appeal of the assessee and no demand remained payable by the assessee. The AO refunded the taxes paid by the assessee. Subsequently, the Tribunal reversed the CIT (A). The AO gave effect to the Tribunal’s order on 30.7.2004 and charged interest u/s 220(2) for the entire period. The assessee filed a Writ Petition claiming that it was not liable to pay interest for the period from 20.5.1998 to 30.7.2004 (6y 3M) when the CIT(A)’s order was operative and no sum was due from it. HELD by the High Court:

S. 220(2) provides for levy of interest if the demand is not paid within 30 days of the service of notice u/s 156. A distinction has to be drawn between a case where the assessee pays up the entire demand raised pursuant to the assessment order within the period specified in s. 156, wins in appeal and the amount is refunded and subsequently loses in further appeal and has to repay the taxes. In such a case, as the assessee is not in default in the first instance, no interest u/s 220(2) is payable for the period when the favourable verdict of the appellate authority was operative . However, if the assessee has not paid up the entire tax within the specified period, it is liable to pay interest u/s 220(2) from that date on the unpaid amount and any variation in the amount of the demand favourable to the assessee which was directed by any of the appellate authorities in the interregnum has no effect on the liability of the assessee to pay the interest. On facts, as the assessee had paid only a part of the demand at the first stage, it was held liable to pay interest for the entire period including the period when the favourable CIT(A)’s order was operative though no interest was payable on the s. 244A interest (Vikrant Tyres Ltd 247 ITR 821(SC), S.M.S. Schloemann Siemag 250 ITR 97 (AP)(FB) distinguished; New United Construction Co 270 ITR 224 (Jhar) not followed)