GLIMPSES OF SUPREME COURT RULINGS

Industrial
undertaking – Deduction u/s. 80-IC – Eligible to claim deduction of 100% of the
profits for first five years and thereafter at 25% of profits for next five
years – Carries out substantial expansion within ten-year period – Further
entitled to deduction of 100% of profits from the year of expansion – Total
period of deduction, however, not to exceed ten years – Classic Binding
Industries’ case (407 ITR 429) not a good law

To understand
the question of law that arose before the Supreme Court in clear terms, the
Court noted that sub-section (2) of section 80-IC applies to an undertaking or
enterprise which has, inter alia, begun or begins to manufacture or
produce any article or thing by setting up a new factory in the area specified
therein, which includes the State of Himachal Pradesh. Sub-section (3) of
section 80-IC is in two parts: in certain cases, exemption from income is
provided at the rate of 100% of such profits and gains earned from the
aforesaid undertaking or enterprise for ten assessment years commencing with
the initial assessment year. The other clause relates to another category of
undertakings or enterprises (to which the cases before it belong) where the
exemption is at the rate of 100% of profits and gains for five assessment years
commencing with the initial assessment year and, thereafter, 25% of profits and
gains. The total exemption, thus, is for a period of ten years, namely, @100%
for the first five years and @ 25% for the remaining five years.

In the cases
before the Supreme Court, all the assessees started claiming exemption @ 100%
on profits and gains and availed it for a period of five years. During this
period, these assessees carried out ‘substantial expansion’ and claimed on that
basis that they should be allowed exemption from profits and gains for another
five years @ 100% instead of 25% from the 6th to the 10th year as well. They,
however, admitted that the total period during which they were entitled to
exemption would not exceed ten years as per the mandate of sub-section (6).

In this
backdrop, the question that arose before the Supreme Court was as to whether
the assessees could again start claiming 100% exemption for the next five years
from profits and gains after availing the same for the first five years on the
ground that they had carried out substantial expansion.

The High Court
had answered the question in the affirmative and for this reason it was the
Department that had moved the Supreme Court challenging the said decision by
filing appeals.

These appeals
were heard and decided by a Division Bench of the Supreme Court by its
judgement dated 20^th August, 2018 (407 ITR 429). The judgement of
the High Court was reversed on the aforesaid issue.

But it so
happened that in some of the appeals the respondent assessees were not served
with the notice and hence remained unrepresented. Since the appeals in respect
of these assessees were decided in their absence, they filed miscellaneous
applications for recall of the order, with a prayer to decide the appeals
afresh after giving them a hearing. In view of this, by a separate order their
applications were allowed and their appeals restored. Even the Revenue had
filed a few SLPs against the common judgement of the High Court as these SLPs
were not filed earlier when a batch of appeals was decided on 20^th
August, 2018 by the Supreme Court. The Supreme Court, therefore, heard the
appeals arising out of these SLPs along with the other appeals in which the
earlier judgement rendered had been recalled.

In the judgement
dated 20^th August, 2018 the Court took the view that once ‘initial
assessment year’ starts on fulfilling the conditions laid down in sub-section
(2) of section 80-IC, there cannot be another ‘initial assessment year’ for the
purposes of section 80-IC within the aforesaid period of ten years. While doing
so, the Court referred to section 80-IB(14)(c) of the Act, on the basis of
which an opinion was formed that there cannot be another ‘initial assessment
year’ for the purposes of section 80-IC within the aforesaid period of ten
years. According to the Supreme Court, this was the apparent error which was
committed. Section 80-IB(14) starts with the words ‘for the purpose of this
section’. Thus, ‘initial assessment year’ defined therein was relatable only to
the deductions that were provided under the provisions of section 80-IB,
namely, in respect of profits and gains from certain industrial undertakings
other than infrastructure development undertakings.

Further, clause
(v) of sub-section (8) of section 80-IC provides the definition of ‘initial
assessment year’ for the purpose of section 80-IC, which was not noticed by the
Court while pronouncing the judgement in the Commissioner of Income Tax
vs. M/s Classic Binding Industries case. According to the Supreme
Court, a mistake had occurred in the Classic Binding judgement.

As per this
definition, there could be an ‘initial assessment year’, relevant to the
previous year, in any of the following contingencies: (i) The previous year in
which the undertaking or the enterprise begins to manufacture or produce
articles or things; or (ii) Commences operation; or (iii) Completes substantial
expansion. The first two events are relatable to new units whereas the third
incident would occur in respect of existing units. The benefit of section 80-IC
is, thus, admissible not only when an undertaking or enterprise sets up a new
unit and starts manufacturing or producing articles or things. The advantage of
these provisions also accrues to those existing units, if they carry out
‘substantial expansion’ of their units by investing required capital in the
assessment year relevant to the previous year. ‘Substantial expansion’ is
defined in clause (ix) of sub-section (8) of section 80-IC. As per the
aforesaid definition, an existing unit would be treated as having carried out
substantial expansion when there is an increase in the investment in the plant
and machinery by at least 50% of the book value of the plant and machinery (before
taking depreciation in any year).

The Supreme
Court noted that the assessees had initially set up new industry in the state
of Himachal Pradesh of the nature specified u/s. 80-IC of the Act. As a result,
they became entitled to avail the concession provided in the said provision.
After five years and before the expiry of ten years, the assessees had carried
out substantial expansion of their units in terms of the aforesaid definition.
Considering the definition of ‘initial assessment year’, the Court was inclined
to accept that there could be another ‘initial assessment year’ on the
fulfilment of the condition mentioned in the said definition, namely,
completion of substantial expansion of the existing unit.

According to the
Supreme Court, therefore, the moment substantial expansion takes place, another
‘initial assessment year’ gets triggered. This new event entitles that unit to
start getting deduction @ 100% of the profits and gains. However, at the same
time, a new period of ten years does not start. This is so because the total
period for which deduction could be allowed has been capped at ten years,
inasmuch as sub-section (6) in no uncertain terms stipulates that deduction
shall be not allowed for a period exceeding ten assessment years.

The Supreme
Court, having examined the scheme in the aforesaid manner, came to the
conclusion that the definition of ‘initial assessment year’ contained in clause
(v) of sub-section (8) of section 80-IC could lead to a situation where there
could be more than one ‘initial assessment year’ within the said period of ten
years.

Appeal to the
High Court – Substantial question of law – Reassessment – High Court dismissing
the appeal holding that assessment could not be reopened on a mere change of
opinion based on explanation given by an Assessing Officer to an audit
objection in a return processed u/s. 143(1) – High Court could not have
dismissed the appeal in
limine – Question of
law arose

The
respondent-assessee filed its return of income for the assessment year
1999-2000 declaring the taxable income as ‘nil’ after setting off of business
income of Rs. 12,97,86,402 against unabsorbed business losses and depreciation.
Since book profits were nil, the assessee’s case was that no tax was payable
u/s. 115JA of the Act. The assessee filed a revised return reporting a business
income of Rs. 12,97,44,989 but still showing ‘nil’ taxable income after
claiming set-off of unabsorbed business losses. There was no scrutiny of the
return and intimation u/s. 143(1) of the Act was issued to the assessee.

Subsequently, a
notice dated 20^th September, 2004 u/s. 148 of the Act was issued
seeking to reopen the assessment. This notice was dropped on 6^th /
13^th February, 2006 after the assessee raised objections. On 13^th
February, 2006 a second notice u/s. 148 of the Act was issued. The reasons
provided to the assessee on 30^th August, 2006 for the reopening were
that after examination of the records for the assessment year 1999-2000, it was
revealed that during the year the assessee made various provisions in the
return of income for gratuity, doubtful debts, warranty, obsolescence which
were in the nature of ‘unascertained liabilities’ and were not added to the
book profit. This had resulted in underassessment of income for the assessment
year in question.

The assessee
filed its objections which were rejected by the Assessing Officer (AO) by order
dated 8^th November, 2006. Subsequently, by an order dated 30^th
November, 2006 the AO disallowed 20% of foreign travel expenses to the extent
of Rs. 1,71,95,149, provision for warranty to the extent of Rs. 1,77,45,202,
FOC marketing expenses (after depreciation) to the extent of Rs. 18,41,099, as
well as disallowed 25% of provision for obsolescence of inventory to the extent
of Rs. 12,13,037 and made addition to closing stock of Rs. 29,60,347.

By his order
dated 22^nd February, 2010 the Commissioner of Income-tax (Appeals)
rejected the assessee’s arguments u/s. 148 but deleted the disallowance of 20%
of foreign travel expenses and provision for warranty, but sustained the other
issues. Aggrieved by the said order, both the Revenue and the assessee filed
appeals before the Income-tax Appellate Tribunal (ITAT).

By a common
order dated 3^rd June, 2016 the ITAT allowed the assessee’s appeal
after examining the audit objection raised qua the assessment order of
the AO and the AO’s response thereto.

The Revenue
filed an appeal to the High Court only against the allowing of the assessee’s
appeal by the ITAT. It was urged by the Revenue that since the return filed was
processed u/s. 143(1) of the Act and intimation sent, there was no occasion for
the AO to have formed an opinion in the first place. Consequently, there was no
change of opinion when he decided to reopen the assessment. The Revenue further
submitted that the AO’s reply to the audit objection did not constitute the
formation of an opinion either.

The High Court
examined the letter dated 24^th September, 2003 written by the AO in
response to the audit objection and held that not only did he examine the
records but came to the conclusion that ‘there was prima facie no
evidence that the liabilities were not ascertained liabilities’. The ITAT was
therefore right in holding that the reopening was based merely on a change of
opinion. According to the High Court, no question of law arose.

The Revenue
being aggrieved by the order of the High Court dismissing their appeal in
limine, filed the appeal by way of special leave in the Supreme Court.

According to the
Supreme Court, the following substantial questions of law did arise in this
appeal filed by the Revenue (the appellant herein) u/s. 260-A of the Act in the
High Court against the order passed by the ITAT and the same should have been
framed by the High Court for deciding the appeal on merits in accordance with
law:

“1. Whether the
ITAT was justified in holding that the notice issued by the AO u/s. 148 was bad
in law when admittedly the impugned notice was issued in the case where the
assessment was made u/s. 143(1) of the Act but not u/s. 143(3) of the Act.

2. Whether the
ITAT was justified in holding that the notice issued u/s. 148 of the Act was
bad because it was based on mere change of opinion by overlooking the fact that
there was no foundation to form any such opinion.

3. When
admittedly the notice in question satisfied the requirements of section 148 of
the Act as it stood, namely, that first, it contained the facts constituting
the ‘reasons to believe’, and second, it furnished the necessary details for
assessing the escaped income of the assessee, whether the ITAT was still justified
in declaring the notice as being bad in law without taking into consideration
any of these admitted facts.

4. In case, if
the notice is held proper and legal, whether the finding recorded by the ITAT
on the merits of the case on each item, which is subject matter of the notice,
is legally sustainable?”

According to the
Supreme Court, the aforementioned four questions framed needed to be answered
by the High Court on their respective merits while deciding the appeal filed by
the Revenue (the Appellant) u/s. 260-A of the Act.

The Supreme
Court remanded the case to the High Court for answering the aforementioned
questions on merits in accordance with the law.

Special
Audit – Power of the assessing officer to extend the time for submission of
audit report – The provisions of section 142(2C), as they stood prior to the
amendment which was enacted with effect from 1^st April, 2008 by the
Finance Act, 2008 did not preclude the exercise of jurisdiction and authority
by the assessing officer to extend time for the submission of the audit report
directed under sub-section (2A), without an application by the Assessee – The
amendment was intended to remove an ambiguity and was clarificatory in nature

The Supreme
Court noted that in the batch of cases before it, the submission of the
assessees was that the assessing officer (AO) had no jurisdiction or authority
u/s. 142(2C), as it stood prior to 1^st April, 2008, to extend time
for the submission of the audit report of the auditor appointed under the
provisions of sub-section (2A). The AO, at the relevant time, was authorised to
extend time (not exceeding 180 days) from the date on which a direction under
sub-section (2A) was received by the assessee, only on an application made by
the assessee and for any good and sufficient reason. If the assessee made no
application, the AO would have no jurisdiction to extend time.

The Revenue’s
contention was that even before 1^st April, 2008 the jurisdiction of
the AO to extend time for the submission of the audit report was not confined
to a situation in which the assessee had made an application for extension.
Consequently, the incorporation of a provision for a suo motu exercise
of power by the AO, with effect from 1^st April, 2008 by the Finance
Act, 2008 was only intended to remove an ambiguity and was clarificatory in
nature.

The Tribunal
had come to the conclusion that prior to the insertion of the expression suo
motu with effect from 1^st April, 2008 in section 142(2C), the AO
had no jurisdiction to extend time for the submission of the report of an
auditor appointed under sub-section (2A) of his own accord. As a consequence,
it was held that the assessment which was made u/s. 153A, in respect of the
assessment years in question, was barred by limitation.

A Division
Bench of the Delhi High Court had dismissed the batch of appeals filed by the
Revenue against the aforesaid order of the Income-tax Appellate Tribunal.

According to
the Supreme Court, there were two ways of looking at the situation. Firstly,
the proviso to sub-section (2C) creates a remedy for an assessee to apply for
extension where, for a good and sufficient reason, the audit report could not
be submitted. Otherwise, the assessee may face a penalty u/s. 271 apart from
being subjected to a best judgement assessment u/s. 144. By extending time at
the behest of the assessee, the AO allows the original order calling for an
audit report to be duly implemented. The creation of a remedy under the proviso
in favour of the assessee cannot be construed to detract from the authority
which vests in the AO, who has specified the time limit for the submission of
an audit report in the first instance, to extend time without an application by
the assessee.

To hold
otherwise, and to construe the proviso to sub-section (2C) as foreclosing the
authority of the AO to extend time without a request by the assessee, would
lead to an absurd consequence. The assessee would then be in control of whether
or not to seek an extension of time where the audit report has not been
finalised. Even if the auditor, for genuine reasons (not bearing on the default
of the assessee), was unable to comply with the time schedule, having regard to
the nature or complexity of the accounts, the assessee would then have a sole
and unrestricted power to determine whether an extension should be sought.

Not seeking an
extension would in effect defeat the underlying purpose and object of directing
the assessee to obtain a report of an auditor under sub-section (2A). The
legislature could not have intended this consequence. An interpretation which
would defeat the purpose underlying sub-section (2A) must be avoided. The AO
who has fixed the time in the first instance must necessarily, as an incident
of the authority to fix time, be entitled to extend time without an application
by the assessee. While extending time, the AO will be subject to the overall
ceiling of time fixed under the proviso to sub-section 2C.

Secondly, the
alternate construction of the proviso is that the expression ‘and for any good
and sufficient reason’ should be read to mean ‘or for any good and sufficient
reason’. As a matter of statutory interpretation, it is well settled that the
expression ‘and’ can, in a given context, be read as ‘or’. The contention of
the assessees opposing this construction by urging that in the context of
sub-section (2A), it has been held by the Supreme Court in Sahara India
(Firm), Lucknow vs. CIT (300 ITR 403) that the word ‘and’ is used in
the conjunctive sense would not necessarily furnish an index to how the
expression ‘and’ in the proviso to sub-section (2C) should be construed. The
interpretation of the expression must be based on the context in which it is
used. In the proviso to sub-section (2C), the expression ‘and’ is used in
connection with the grant of an extension of time and not in the context of the
formation of an opinion for ordering a special audit. The power was of a
procedural nature.

As to the
contention of the assessees that the amendment to the proviso to sub-section
(2C) by the Finance Act would indicate that the amendment was intended to be
prospective with effect from 1^st April, 2008 and, that prior to this
date, the AO had no jurisdiction to grant an extension of time, save on the
application by the assessee, the Supreme Court held that the reason for the
introduction of the amendment arose because of the element of ambiguity
inherent in the erstwhile position as it stood before 1^st April,
2008. The ambiguity was precisely on the question as to whether the AO was
precluded from granting an extension of time of his own accord merely because
the assessee was permitted to apply for an extension. Since the purpose of the
amendment was to remove this ambiguity, the Supreme Court was of the view that
by the Finance Act, Parliament essentially clarified the position as it existed
prior to the amendment.

According to
the Supreme Court, there was no substance in the submission urged on behalf of
the assessees that to adopt an interpretation which we have placed on the
provisions of section 142(2C) would enable the AO to extend the period of
limitation for making an assessment u/s. 153B. Explanation (iii) to section
153B (1), as it stood at the material time, provided for the exclusion of the
period commencing from the date on which the AO had directed the assessee to
get his accounts audited under sub-section (2A) of section 142 and ending on
the day on which the assessee is required to furnish a report under that
sub-section. The day on which the assessee is required to furnish a report of
the audit under sub-section (2A) marks the culmination of the period of
exclusion for the purpose of limitation.

Where the AO
had extended the time, the period, commencing from the date on which the audit
was ordered and ending with the date on which the assessee is required to
furnish a report, would be excluded in computing the period of limitation for
framing the assessment u/s. 153B. The principle governing the exclusion of time
remains the same. The date on which the exclusion culminates is the date which
the AO fixes originally, or on extension for submission of the report.

The Supreme Court concluded that the
provisions of section 142(2C) of the Income-tax Act, 1961 as they stood prior
to the amendment which was enacted with effect from 1^st April, 2008
by the Finance Act, 2008 did not preclude the exercise of jurisdiction and
authority by the AO to extend time for the submission of the audit report
directed under sub-section (2A), without an application by the assessee. The
amendment was intended to remove an ambiguity and was clarificatory in nature.