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Month: April

Charitable Trusts – Depreciation on Cost of Assets Allowed as Application of Income

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Issue for Consideration

U/s. 11 of the Income Tax Act, 1961, a charitable or religious trust, subject to certain conditions,is entitled to exemption in respect of income from property held under trust for charitable or religious purposes, to the extent that such income is applied for charitable or religious purposes, or accumulated for charitable or religious purposes.

The CBDT has clarified vide its circular number 5 – P(LXX-6) dated 19th June 1968 that for the purposes of such exemption u/s. 11, the income of a trust is to be taken in the commercial sense, and not as computed under the provisions of the Income Tax Act. In other words, the income, that is eligible for exemption, is the one that has been determined as per the books of account. This position clarified by the CBDT is also confirmed by the decisions of the various high courts .

Taking this into account, various high courts have also held that that depreciation had necessarily to be deducted in computing the commercial income, as depreciation was a necessary accounting adjustment to income. Further, various courts, including the Supreme Court in the case of M. Ct. M. Tiruppani Trust vs. CIT 230 ITR 636, have held that all capital expenditure laid out in furtherance of the objects and purposes of the trust would be treated as an application of the income.

The question that has arisen before the courts as to whether, when a trust has claimed the capital expenditure on acquisition of an asset as an application of income for the purposes of claiming exemption u/s. 11, whether depreciation on such asset was also allowable as a deduction in computing the income of the trust. While the Bombay, Punjab and Haryana and Delhi High Courts have taken the view that depreciation would be allowable as a deduction even in such cases where the capital expenditure had been allowed as an application of income for charitable purposes, the Kerala High Court has taken a contrary view, holding that such depreciation should be added back to the income of the trust as disclosed in its books of account.

Institute of Banking Personnel Selection’s case:

The issue came up before the Bombay High Court in the case of CIT vs. Institute of Banking Personnel Selection 264 ITR 110. In that case, the assessee was a charitable trust registered under the Bombay Public Trusts Act, 1950, as well as u/s. 12A of the Income Tax Act. It claimed depreciation on buildings, the cost of which had been allowed as a deduction in earlier years. It also claimed depreciation on furniture and fixtures which had been received by transfer from another trust, whose income was also exempt u/s. 11, and which had claimed the cost of such furniture and fixtures as an application of income in earlier years. The Assessing Officer disallowed the depreciation on buildings as well as on furniture and fixtures, on the grounds that capital expenditure incurred was allowed as a deduction from the income of the assessee, and that if depreciation was allowed, it would result in double deduction as full capital cost of furniture and fixtures had been allowed.

 The Bombay High Court referred to its earlier decisions in the cases of CIT vs. Munisuvrat Jain Temple Trust (1994) Tax LR 1084 and DIT(E) v Framjee Cawasjee Institute 109 CTR 463. In the first case, it had been held that the income of a charitable trust was liable to be computed in normal commercial manner, although the trust might not be carrying on any business and the assets in respect whereof depreciation was claimed might not be business assets. It was also held that section 32 of the Income Tax Act would not apply to such depreciation, and that income was to be computed after providing for allowance for normal depreciation, and deducting such depreciation from gross income of the trust.

 In Framjee Cawasjee Institute’s case, it was held that though the amount spent on acquiring the assets had been treated as application of income of the trust in the year in which the income was spent on acquiring those assets, that did not mean that in computing income from those assets in subsequent years, depreciation in respect of those assets could not be taken into account.

The Bombay High Court followed its earlier decisions and took the view that depreciation was allowable even on those assets whose actual cost had been allowed as a deduction in computing the income of the earlier years. A view similar to that of the Bombay High Court has been taken by the Punjab and Haryana High Court in the case of CIT vs. Market Committee, Pipli 330 ITR 16 and by the Delhi High Court in the case of DIT vs. Vishwa Jagriti Mission 73 DTR (Del) 195.

Lissie Medical Institutions’ case:

The issue also came up before the Kerala High Court in the case of Lissie Medical Institutions vs. CIT 76 DTR (Ker) 372.

In this case, the assessee was a charitable institution registered u/s.12A, and running a hospital. It acquired medical equipment, such as x-ray units, scanning machines, etc., the expenditure for acquisition of which was treated as application of income for charitable purposes u/s. 11. In computing the income from the hospital, the assessee also claimed depreciation on such equipments, on assets acquired during the year as well as on assets acquired during earlier years.

The Assessing Officer was of the view that the assessee’s case was that of a double deduction of capital expenditure, since acquisition of assets was treated as acquisition of income for charitable purposes, and the value of the assets stood fully written off. On appeal, the tribunal, following the judgment of the Supreme Court in the case of Escorts Ltd vs. Union of India 199 ITR 43, confirmed such disallowance.

On a further appeal by the assesee, the Kerala High Court observed that if the assessee treated an expenditure on acquisition of assets as application of income for charitable purposes u/s. 11, and the assessee also claimed depreciation on the value of such assets, then in order to reflect the true income that was available for application for charitable purposes, the assessee should write back the depreciation amount in the accounts to form part of the income to be accounted for application for charitable purposes. If this was not done, according to the Kerala High Court, the income which would be available for application for charitable purposes got reduced by the depreciation amount, which in the court’s view was not permissible u/s. 11. The net effect in a case where an assessee claimed depreciation in respect of an asset the full value of which was claimed as an application of income for charitable purposes, such notional claim of depreciation became cash surplus available with the assessee, which remained outside the books of account of the trust, unless it was written back, which was not done by the trust.

The Kerala High Court observed that it did not think it was permissible for a charitable institution to generate income outside the books in this fashion. The Kerala High Court noted that in all the other decisions cited before it of the other high courts, none of the courts had examined the aspect of availability of income to the trust on write back of the depreciation, in cases where depreciation was claimed as a notional cost after the assessee claimed 100% of the cost incurred for it as application of income for charitable purposes, the depreciation so claimed was to be added back as income available.

Interestingly, the Kerala High Court, on a consideration of the clarification of the CBDT filed before it, observed that based on the decisions of other high courts, all the charitable institutions were generating unaccounted income equal to the depreciation amount claimed on a year-to-year basis, which was nothing but black money, and that this aspect had not been considered in any of these decisions.

The Kerala High Court also was of the view that the issue was covered by the decision of the Supreme Court in Escorts’ case (supra), where the Supreme Court had observed that “the mere fact that a baseless claim was raised by some overenthusiastic assessees who sought a double allowance or that such claim may perhaps have been accepted by some authorities is not sufficient to attribute any ambiguity or doubt as to the true scope of the provisions as they stood earlier”.

However, considering the fact that depreciation had been allowed for several years to the assessee, the Kerala High Court observed that the assessee could not be taken by surprise by disallowing depreciation, which was being allowed for several years. It therefore allowed the assessee to write back the depreciation for the year before it, and even for previous years, and carry forward such income for application for subsequent years.

Observations

The CBDT, in spite of its clarification vide its circular number 5 – P(LXX-6) dated 19th June 1968 that for the purposes of such exemption u/s. 11, the income of a trust is to be taken in the commercial sense, and not as computed under the provisions of the Income Tax Act put forward following the interesting contention before the Kerala High Court that seem to have appealed to the court to a great extent :

“The CBDT is of the considered view that where an assessee has acquired an asset, through application of income and has also claimed this amount as expenditure in its income and expenditure account, depreciation on such assets would not be allowable to the assessee. Such notional statutory deductions like depreciation, if claimed as deduction while computing the income of the property held under trust under the relevant head of income, is required to be added back while computing the income for the purpose of application in the income and expenditure account. This would imply that the correct figure of surplus from the trust property is reflected in the income and expenditure account of the trust to determine the income for the purposes of application under section 11 of the Income Tax Act. This would reduce the possibility of revenue leakage which may be a cause for generation of black money.”

One fails to understand as to why depreciation should be written back in the books of account of the assessee, when it is otherwise a charge on the profits of the year and is required to be provided for as per the accounting standards and practices. The accounts will represent a fallacious view where on one side it provides for the depreciation and on the other side it credits a write back of the same depreciation. Again, it is impossible to fathom as to how black money could ever be generated by not writing back depreciation, because there is no outflow of funds from the trust, depreciation is merely a notional entry in accordance with accounting standards and practices. At best, there is a reduction in the commercial profit of the trust.

Perhaps, what the CBDT desired was that in computing the commercial income for the purposes of grant of exemption, the amount of such depreciation should be added back and treated as income available for application for charitable purposes, since the cost of the assets had been treated as an application of income for charitable purposes. This desire however, is not set out in the provisions of the Act and in any case is contrary to its own circular clarifying that the profit of the trust is the one that is understood in the commercial sense and as a consequence thereof has to be computed in the manner as is computed by a commercial man, i.e after providing for depreciation on the assets used by it, irrespective of the fact that the cost of it is treated as an application of income and as a consequence of such treatment is allowed, as a deduction in computing the income of the trust.

Can such depreciation ever be regarded as an income of the trust in commercial terms? In the context of repayment of loan scholarships by scholars who had taken loans by way of scholarships for their studies from a trust, the CBDT had clarified, vide Circular No. 100 dated 24-01-1973 that when such loans were given, they should be treated as an application of income for charitable purposes, but that the re-payment of the loans should then be regarded as income of the trust. No such clarification is issued in the context of application of income qua the capital assets and incidental claim if depreciation thereon. The said circular in fact, supports the view of the assessee, where it goes on to state that the repayment of loan by a trust originally taken is an application of income in the hands of the trust. The Bombay High Court, in the case of CIT vs. Trustees of Kasturbhai Scindia Commission Trust 189 ITR 5, had held that return of a loan by a debtor to a creditor could never constitute an income, even though the trust might have got a deduction as an application for charitable purposes for the amount of loans given, in the year of grant of such loans. By the same logic, depreciation provided by a trust can never be added back as its income, as it is never commercially considered to be income.

The Punjab and Haryana High Court in the Market Committee’s case (supra) has rightly observed, in relation to the argument that allowance of such depreciation amounted to a double deduction and therefore was covered by the decision in the Escorts’ case (supra), that it was not a double deduction. The court observed that the income of the assessee being exempt, it was only claiming that depreciation that was required to be reduced from the income for determining the percentage of funds that were to be applied for the charitable purposes. According to the Punjab and Haryana High Court, it was therefore not a case of a double benefit, and that the decision in the Escorts’ case (supra) was distinguishable.

Similarly, the Delhi High Court in the Vishwa Jagriti Mission’s case (supra), while noting the various High Court decisions holding that depreciation was a necessary deduction in computing the commercial income, observed that the allowance of depreciation was necessary on commercial principles. It distinguished the Escorts’ case on the grounds that the Supreme Court, in that case, was not concerned with the case of a charitable trust involving the question as to whether its income should be computed on commercial principles in order to determine the amount of income available for application to charitable purposes, but was dealing with a case where a deduction was allowed in computing business profits and depreciation was also being claimed while computing business profits. In case of charitable trusts, what was relevant was only the concept of commercial income as understood from the accounting point of view, and there was an authority for the proposition that depreciation was a necessary charge in computing the net income. The Delhi high court also noted that the Supreme Court was concerned with a case where the assessee had claimed deduction of the cost of an asset u/s. 35, which allowed deduction for capital expenditure incurred on scientific research, and the question was whether, after claiming deduction in respect of the cost of the asset u/s. 35, whether the assessee could again claim deduction on account of depreciation in respect of the same asset. The Supreme Court in that case had observed that under general principles of taxation, double deduction was not intended unless clearly expressed and , the case before it was not one of that type.

A capital expenditure is treated as an application of income for charitable purposes, under the Act, while depreciation is a deduction in computing the income itself, which is available for application for charitable purposes. These are two different things. Claiming the cost of an asset as an application for charitable purposes is not the same thing as providing depreciation in computing the profit available for spending for charitable purposes. This is therefore not a case of a double deduction.

The better view of the matter therefore seems to be that of the Bombay, Punjab and Haryana and Delhi High Courts which holds that reduction of depreciation from the income is not a double deduction. The view taken by the Kerala High Court requires reconsideration.

Law will Take its Own Course

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‘Law will take its own course’ – we hear this phrase whenever there is a serious law and order situation, a case involving a politician, a celebrity or a rich and mighty.

What does this phrase mean? For a layperson, it connotes that justice will be done – the guilty will be punished while a person who is not guilty will be not harassed and acquitted within a reasonable time. The law will treat all persons equally and equitably. Is this a utopian expectation?

When an ordinary person is accused of a wrongdoing, he is arrested immediately for investigation; for him getting bail becomes a nightmare; he or she has to spend days in jail. We saw this when two young girls were arrested for making a comment on the Facebook, we saw this when artists drew cartoons which were critical of the political system or politician. On the other hand, when MLAs allegedly thrashed a police officer within the precincts of the Legislative Assembly, one had to wait for the accused MLAs to surrender and the Home Minister declared that the CCTV footage is inconclusive. When politicians make a hate speech, the arrest has to wait till the enquiry is complete. So much for the law taking its own course!

Does the law take its own course? One wonders! In fact, often, the law does not have its own course at all. Law enforcing agencies and persons with political patronage can influence and drag the law on the course that they want or desire to suit their convenience. At times, law enforcing agencies are used by the government of the day to serve its political goals.

When somebody says that law will take its own course, possibly he or she actually means that after getting bail the law will be made to take a long winding course before reaching any logical conclusion, if at all it reaches any such conclusion. In fact, when a celebrity or a politician uses that phrase and expresses his great respect for and belief in the legal system in general and judiciary in particular, he actually expresses his ability to influence or delay the legal process; he believes in the proverb – ‘This too shall pass’. We have a film celebrity facing prosecution for hit-and-run accident and hunting of blackbucks. Both the cases are pending for over a decade while the celebrity is leading his normal life.

Recently, the Supreme Court gave its verdict in Mumbai Blasts case 20 years after the event occurred. Conviction of a large number of persons has been upheld. But the media focussed on only one celebrity convict. There is already a clamour for leniency and pardon for him on the ground that he has gone through mental torture all these years and that is a good enough punishment. A retired judge of the Supreme Court, the film fraternity and many others are pleading his case. We forget there are other convicts who have gone through similar agony, some of whom had unwittingly become part of the whole episode and the law took its own course in their case.

While often the law does not take the desired course, at times the law makers avoid enacting an effective law so that there is no question of law taking its own course. (We are still waiting for the law on Lokpal.) Then at times, the law makers enact the law that suits them and ensure what course the law should take. In the Income tax Act there are provisions (existing and proposed) to curb unaccounted money. If a person buys or sells immovable property or buys shares of unlisted company etc. at less than the prescribed value, the difference is charged to tax on the presumption that unaccounted money has exchanged hands. If a charitable trust receives anonymous donations, the trust is taxed on the premises that such donations are out of unaccounted money. In the Finance Bill, 2013 there is also a provision for disallowing deduction to the donor for cash donations made to political parties. But there is no provision to tax political parties for the anonymous donations received by them so long as the amount of each donation in the accounts does not exceed Rs. 20,000.

 According to a study conducted by the Association of Democratic Reform (working across the country for transparency in political and electoral system), a very substantial portion of the contributions collected as donations or `sale of coupons’ by political parties is in cash or anonymous. One has to only guess the source or nature of these funds. All such collections are exempt from income tax in the hands of political parties. Article 14 of the Constitution of India strikes at arbitrariness and ensures fairness and equality of treatment. But it also permits rational classification. And after all, political parties are a class by themselves!

Sanjeev Pandit
Editor

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A Bird at the Window

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It was a beautiful spring morning. Disciples had gathered in a hall to listen to a discourse by Buddha. People were eagerly awaiting his arrival and looking forward to an enlightening discourse. Buddha entered the hall and a hushed silence enveloped the disciples as everyone became quiet. Buddha took his seat and was about to commence his talk when a strange thing happened. A pretty little bird flew in and alighted on the window. It looked around at the august gathering, fluttered its pretty little wings and burst out in a melodious song. After delighting the onlookers with its clear notes, the bird spread its wings and flew away. Buddha commenced his discourse. He just told the gathering that the lesson of the day was over! The little bird had taught everything that Buddha wanted to teach on that day!

The questions for us are:

 • What was the lesson taught by the bird!

• What was the message that Buddha gave!

The message was: lead a simple peaceful life. Our lives should be like that of the bird: ‘come to the window of the world, live a natural peaceful carefree life, look, admire and enjoy what is around, sing our song and fly away free from all cares, without a trace of attachment to what is left behind in essence, live in the present. Be like the bird – it was neither haunted by the past nor filled with anxieties of the future. It sang in the present’. Questions which arise are: Can we ever live such a life? Is it possible to lead such a peaceful serene life?

I believe it is possible. Was our life not like that when we were children? Our days were filled with fun and laughter. We went around playing, singing without a care. We were not even worried about the unfinished homework which we had to do and take to the school the next day. We built sand castles on the sea shores, not bothered that the next tide will wash away all that we had carefully built. Our lives were like that described in the ghazal sung by Jagjit Singh…

At the end of the day, tired and exhausted we went to sleep and migrated to the land of dreams which had rainbows and rivers, stars and moon and we were princes or princesses just enjoying. Yes, life was carefree like that of the little bird at the window. Let us then, take a lesson from the little bird and learn to live a carefree life. In other words, a life of acceptance and not expectations.

We live when we are true to ourselves and are not living to please others. Our only obligation is to be true to ourselves. I am not for a moment suggesting a selfish, self-centred life because a life led to please our inner self can never be selfish or self cantered.

One recalls the story of Akbar and Tansen. Akbar considered Tansen to be the greatest singer, which Tansen never accepted. According to Tansen, his Guru Swami Haridas was the greatest, and he, Tansen, was no match. Akbar wanted to call Swamiji to his court to listen to him. Tansen told him that that was not possible. One had to go to Swami Haridas, and wait till Swamiji chose to sing. Tansen took Akbar where Swamiji used to stay and made him wait till Swami Haridas chose to sing. As divine music flowed from Swamiji, calm prevailed and the whole atmosphere became peaceful. Akbar listened with rapt attention and became totally spellbound.

He had no doubt and was totally convinced that Swami Haridas was the greatest. He still could not understand as to why Tansen, a disciple of Swamiji could not reach the heights attained by Swamiji. When asked by Akbar, Tansen explained: He said, “It is simple. While I sing for you, Swami Haridas only sings for God!”

It is only when we dedicate our work to God that music flows in and from our life and we become like the bird on the window who came, sang, gave us pleasure and left without expectation – it was free.

So, let us offer our work to God and be free.

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Sections 32 read with section 72 – Brought forward unabsorbed depreciation is allowed to be set off against long term capital gains

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1. (2012) 54 SOT 450 (Mumbai)
Suresh Industries (P.) Ltd. vs. Asst.CIT
ITA No.5374 (Mum.) of 2011
A.Y.: 2007-08. Dated: 10.10.2012

Sections 32 read with section 72 of the Income Tax Act, 1961 – Brought forward unabsorbed depreciation is allowed to be set off against long term capital gains.

For the relevant assessment year, the assessee’s claim for setting off current year’s unabsorbed depreciation and brought forward unabsorbed depreciation against current year’s long term capital gains was rejected by the Assessing Officer and by the CIT(A). The Tribunal allowed the assessee’s claim.

The Tribunal held as under: The law regarding set off of unabsorbed depreciation up to 01-04-1996 was very liberal and set off was allowable against any income. This was also upheld by the Supreme Court in the case of CIT vs. Virmani Industries (P.) Ltd. [1995] 216 ITR 607/83 Taxman 343. However, the law regarding such set off was changed by the Finance Act (No. 2) of 1996 and from assessment years 1997-98 to 2002-03 the unabsorbed depreciation was put at par with business losses u/s. 72.

 However, the status quo has been restored from assessment year 2003-04 and, therefore, the ratio laid down by the Supreme Court in the case of Virmani Industries (P.) Ltd. (supra) once again holds good and, therefore, now unabsorbed depreciation can be set off against any income. Because of the legal fiction created by the provisions of section 32(2), brought forward unabsorbed depreciation merges with current year’s depreciation.

The treatment given to current year’s depreciation is equally applicable to brought forward unabsorbed depreciation. Therefore, brought forward unabsorbed depreciation is also allowed to be set off against long term capital gains.

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Salary: Benefit or perquisite: A. Ys. 1996-1997 to 2001-02: Assessees directors of company CRS: CRS effected its sale through franchisees which were owned by HUFs of assesses: Assessing Officer treated personal expenses of assessees and their family members paid by company as income of assessee’s by invoking section 2(24)(iv): Addition not proper:

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CIT vs. Srivatsan; 213 Taxman 413 (Mad): 30 Taxman. com 423 (Mad):

The assessees were directors of the company ‘CRS’ which was engaged in the business of retail-selling of silk sarees and other textiles. ‘CRS’ effected its sale through franchisees which were owned by different HUFs of the assessee. Said franchisees were paid commissions for the sale effected by them. The Assessing Officer treated the personal expenses of the assessees and their family members (Franchisee commission paid to different HUF) paid by the company as the income of the Directors, by invoking the provisions of section 2(24)(iv). The Tribunal held that the personal expenses met out of the company’s money could not be treated as income in the hands of the assessees u/s. 2(24)(iv) as the money had not been paid directly to them, but to the franchisees, which their HUF owned.

In appeal, the Revenue contended that when the factum of each of the Directors, having received benefit towards the personal expenses, was not disputed, it was irrelevant and immaterial whether such expenses were directly paid by the company or through franchisees. The Madras High Court upheld the decision of the Tribunal and held as under:

 “i) The Tribunal has taken note of the following aspects and has given the specific findings:-

a) CRS paid franchise commission to various firms owned by HUF of Directors.

b) This has been done on the basis of agreement entered into which were in force.

c) The payment by CRS on the basis of franchise agreement to various persons cannot be treated as payment to Directors who have substantial interest in the company and section 2(24)(iv) cannot be invoked.

ii) The findings rendered by the Tribunal do not warrant any interference, as it is supported by factual matrix and legal reasoning.”

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Revision : S. 263 : Commissioner should consider explanation offered by assessee and not set aside assessment order for consideration by AO

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9 Revision : S. 263 of Income-tax Act, 1961 : A.Y. 1992-93 :
Commissioner should consider explanation offered by assessee in response to
notice and decide the question : He is not to set aside the assessment order for
consideration of the explanation by the AO.


[Smt. Leela Choudhury v. CIT, 167 Taxman 1 (Gau.)]

For the A.Y. 1992-93, the assessment of the assessee was
completed u/s.143(3) of the Income-tax Act, 1961. The Commissioner found that
the Assessing Officer had not made enquiry as regards the investment in the
house property. Therefore the Commissioner issued a show-cause notice to the
assessee in exercise of his power u/s.263. The assessee contended that the house
property in question was owned by her and the investments made therein from her
own sources. She submitted the yearly investments made by her in the house
property in question along with her return for the assessment year in question,
balance sheets for the period 31-3-1988 to 31-3-1992, showing the position of
her assets and liabilities; and the details of the funds available with the
assessee. The Commissioner, after considering the explanation of the assessee
and documents brought on record, by his order dated 1-11-1996, directed the
Assessing Officer to examine the matter in proper manner and complete the
assessment in accordance with law.

The Gauhati High Court allowed the writ petition filed by the
assessee challenging the revision order passed by the Commissioner u/s.263 of
the Act and held as under :

“(i) The foundation for the exercise of the power being the
formation of an opinion or conclusion, there is no escape from the view that
the Commissioner must record his conclusion in the matter before setting aside
an order of assessment in exercise of the powers conferred u/s.263. It will
again be futile to embark upon any discussion as to the ‘intensity’ or
‘strength’ of the conclusion that must be reached by the Commissioner before
setting aside an assessment u/s.263, as the answer to the said question would
really depend upon the facts that may be confronting the Commissioner in any
given case. The position can be best resolved by saying that, in certain
situations, the opinion or conclusion recorded would be the final opinion,
while in other situation, it may be ‘less than final’. What would be necessary
is to take note of the fact that there has to be an opinion that the
assessment which has been set aside is, indeed, erroneous and prejudicial to
the interest of the Revenue. Furthermore, the power u/s.263 being
quasi-judicial, such conclusion must be reached after hearing the assessee,
which is mandated by the statute itself and after recording the reasons for
the conclusions reached, a requirement, imposition of which would be
consistent with the well-settled principles for exercise of quasi-judicial
powers.

(ii) It could be noticed from the impugned order of the
Commissioner that the Commissioner had not recorded any opinion that the order
of assessment of the assessee for the A.Y. 1992-93 was erroneous and
prejudicial to the interest of the Revenue. The said opinion was recorded in
the show-cause notice issued to the assessee and the same must be understood
to be a highly rebuttable view. Such view/opinion was required to be recorded
after hearing the assessee and after holding the necessary enquiry.

(iii) On receipt of the show-cause notice the assessee
submitted an elaborate reply laying material before the Commissioner to show
that sufficient proof of her income was laid before the Assessing Officer to
enable the said authority to come to the conclusion that the investments in
the house property were made from the known sources of income of the assessee.
The said materials were in the form of balance sheets and details of the funds
available to the assessee from time to time. In the above facts, the assessee
contended that the assessment order in question was not erroneous and
prejudicial to the interest of the Revenue.

(iv) The Commissioner, on receipt of the reply of the
assessee, could not have ignored the same. Rather, it was incumbent on the
Commissioner to consider the explanations offered and on that basis to record
his opinion/conclusion as to whether he still considered the assessment order
in question to be erroneous and prejudicial to the interest of the Revenue
and, if so, reasons therefor. The Commissioner did not do so. Instead, in its
order, the Commissioner had recorded that the assessee had filed a written
submission giving an exhaustive explanation and enclosing copies of various
deeds, certificates, etc., which were required to be verified in detail. The
Commissioner, in the above facts, set aside the assessment order and directed
the Assessing Officer to make a fresh assessment after examining the
submissions and contentions advanced by the assessee and after due scrutiny of
the documents adduced.

(v) The course of action adopted by the Commissioner was
clearly impermissible in law in the absence of a finding that on consideration
of the explanation submitted and for reasons shown, the assessment had to be
treated to be erroneous and prejudicial to the interest of the Revenue.
Unfortunately, the Commissioner did not do so, which omission would have the
effect of rendering the impugned order legally fragile.

(vi) In view of the above, the instant writ petition was to
be allowed.”


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Convergence with International Financial Reporting Standards (‘IFRS’) — Impact on fundamental accounting practices and regulatory framework in India

IFRS — fast gaining adoption and acceptance globally :

The use of International Financial Reporting Standards (IFRS) as a universal financial reporting language is gaining momentum across the globe, especially as compared to a few years ago where a number of different national accounting standards existed. More than 100 countries now require or allow use of IFRS and by 2011 the number is expected to increase to 150. Some of the major countries that are seeking to converge/adopt IFRS by 2011 include Canada, Korea, India and Brazil.

The last two years have also seen significant momentum in the United States on converging from US GAAP to IFRS. The momentum started with the US Securities and Exchange Commission allowing foreign companies listed in the US to file financial statements prepared in accordance with IFRS (without a reconciliation to US GAAP) and continued with a proposal to evaluate IFRS convergence for all US Listed companies between 2014 and 2016.

Convergence with IFRS in India :

In line with the global trend, the Institute of Chartered Accountants of India (ICAI) has proposed a roadmap for convergence with IFRS for certain defined entities (listed entities, banks and insurance entities and certain other large-sized entities) with effect from accounting periods commencing on or after April 1, 2011. Large-sized entities are defined as entities with turnover in excess of Rs.100 crores or borrowings in excess of Rs.25 crores.

Accordingly, as part of its convergence strategy, the ICAI has classified IFRS into the following broad categories :

Category I : IFRS which can be adopted immediately or in the immediate future in view of no or minor differences (for example, construction contracts, borrowing costs, inventories).

Category II : IFRS which may require some time to reach a level of technical preparedness by the industry and professionals, keeping in view the existing economic environment and other factors (for example, share-based payments).

Category III : IFRS which have conceptual differences with the corresponding Indian Accounting Standards and where further dialogue and discussions with the IASB may be required (consolidation, associates, joint ventures, provisions and contingent liabilities).

Category IV : IFRS, the adoption of which would require changes in laws/regulations because compliance with such IFRS is not possible until the regulations/laws are amended (for example, accounting policies and errors, property and equipment, first-time adoption of IFRS).

Impact of IFRS convergence on fundamental accounting practices :

Harmonising existing Indian accounting standards with IFRS will have an impact on some fundamental accounting practices followed in India. A few of these are enumerated below:

Use of fair value concept :

Indian GAAP requires financial statements to be prepared on historical cost except for fixed assets which could be selectively revalued. Use of fair value is presently limited for testing of impairment of assets, measurement of retirement benefits and ‘mark-to-market’ accounting for derivatives. Under IFRS, there is a growing emphasis on fair value. In addition to the requirements under Indian GAAP, the carrying amounts of the following assets and liabilities are based on fair value under IFRS :

  •     Initial recognition of all financial assets and financial liabilities is at fair value

  •     Subsequent measurement of all derivatives, all financial assets and financial liabilities held for trading or designated at fair value through profit or loss, and all financial assets classified as available-for-sale, are measured at fair value

  •     Non-current provisions are measured at fair value, which is derived by discounting estimated future cash flows

  •     Share-based payment awards are measured at fair value

  •     Option available for measurement of property, plant and equipment at fair value, subject to certain conditions

  •     Option available for measurement of intangible assets at fair value, subject to certain conditions

  •     Option available for measurement of Investment property at fair value.

Substance over form :

Considering the overall theme of substance over form, IFRS mandates preparation of consolidated financial statements to reflect the true picture of the net worth to various stakeholders. Exceptions for preparation of consolidated financial statements are very limited. In India, currently consolidated financial statements are mandatory only for listed companies and that also only for the annual financial statements and not the interim financial statements.

Similarly, Indian accounting continues to be driven by the written contract and the form of the transaction – as opposed to the substance. Consider, upfront fees charged by a telecom service provider. Under Indian GAAP, several companies recognise such up front fees as income because it is contractually non-refundable and is contractually received as fees for the activation process. Under IFRS, the fee is accounted for in accordance with the sub-stance of the transaction. Under this approach, the customer pays the upfront activation fee not for any service received by the customer, but in anticipation of the future services from the telecom company. Thus, despite the non-refundable nature of the fees, revenue recognition would be deferred over the estimated period that telecom services will be provided to the customer.

Inconsistencies with existing laws and regulations:

As per the preface to the Indian accounting standards, if a particular accounting standard is found to be not in conformity with a law, the provisions of the said law will prevail and the financial statements shall be prepared in conformity with such law. However, under IFRS, the entity needs to comply with all the accounting standards and other authoritative literature issued by IASB in order to comply with IFRS. If entities adopt accounting practice as approved by another regulatory authority or in conformity with a law, which is not in accordance with IFRS, the financial statement so prepared would not be considered to be in compliance with IFRS.

Disclosures:

In India, Schedule VI to the Companies Act, 1956, which prescribes a detailed format for preparation and disclosure of financial statements, lays great emphasis on quantitative information such as quantitative details of sales, amount of transactions with related parties, production capacities, CIF value of imports and income and expenditure in foreign currency, etc. Contrary to the same, IFRS is more focused on qualitative information for the stakeholders, such as terms of related party transactions, risk management policies, currency exposure for the entity with sensitivity analysis,etc. To more correctly report the liquidity position of the entity, IFRS also . requires segregation of all assets/liabilities into current and non-current portions. Presently under Indian GAAP even long-term deposits and advances are disclosed under current assets, loans and advances, thereby not reflecting the true position.

Exceptional  and extraordinary    items:

Indian GAAP requires companies to disclose significant events which are not in the ordinary course of business as extraordinary items and material items as exceptional to facilitate the reader to consider the impact of these items on the reported performance. Under IFRS there is no concept of extraordinary or exceptional since all events/transactions are in the normal course of business and if an item is material, it can be disclosed separately, but cannot be termed as ‘extraordinary’ or ‘exceptional’.

Restatement of financial statements:

Under Indian GAAP, changes in accounting policies or rectification of errors (prior period items) are recognised in the current year’s profit and loss account (for errors) and are generally recognised prospectively (for changes in accounting policies). Under IFRS, the prior period comparatives are re-stated in both cases. Indian GAAP does not have the concept of restatement of comparatives except in case of special-purpose financial statements prepared for public offering of securities.

Determination of functional currency:
 
Entities in India prepare their general purpose financial statements in Indian rupees. However under IFRS, an entity measures its assets, liabilities, revenues and expenses in its functional currency, which is the currency that best reflects the economic substance of the underlying events and circumstances relevant to the entity i.e.,the currency of the primary economic environment in which the entity operates. Functional currency of an entity may be different from the local currency.

For example, consider an Indian entity operating in the shipping industry. For such an entity it is possible that a significant portion of revenues may be derived in foreign currencies, pricing is determined by global factors, assets are routinely acquired from outside India and borrowings may be in foreign currencies.  All these factors need  to be considered to determine  whether  the Indian rupee is indeed the functional   currency  or whether   another  foreign currency  better  reflects the economic  environment that most impacts  the entity.

Other significant aspects  :

Under Indian GAAP, provision has to be made for proposed dividend, although it may be declared by the entity and approved by the shareholders after the balance sheet date. Under IFRS, dividends that are proposed or declared after the balance sheet date are not recognised as liability at the balance sheet date. Proposed dividend is a non-adjusting event and is recorded as a liability in the period in which it is declared and approved.

Impact  of existing laws  and  regulations:

Accounting standard-setting in India is subject to direct or indirect oversight by several regulators, such as the National Advisory Committee on Accounting Standards (NACAS) established by the Ministry of Corporate Affairs, the Reserve Bank of India (RBI),the Insurance Regulatory and Development Authority (IRDA) and the Securities and Ex-change Board of India (SEBI). Further, the Indian Companies Act, ;1956 (the Act) directly provides guidance on accounting and financial reporting matters. Courts in India also have the powers to endorse accounting for certain transactions – even if the proposed accounting treatment may not be consistent with Generally Accepted Accounting Principles.
 
Companies Act:

The requirements of Schedule VI of the Act, which currently prescribes the format for presentation of financial statements for Indian companies, is substantially different from the presentation and disclosure requirements under IFRS. For example, the Act determines the classification for redeemable preference shares as equity of an entity, whereas these are to be considered as a liability under IFRS. Also, Schedule XIV of the Act provides minimum rates of depreciation – such minimum depreciation rates are also inconsistent with the provisions of IFRS.

Regulatory  guidelines  :

The Reserve Bank of India (RBI) and Insurance Regulatory and Development Authority (IRDA) regulate the financial reporting for banks, financial institutions and insurance companies, respectively, including the presentation format and accounting treatment for certain types of transactions. For example, the RBI provides detailed guidance on provision relating to non-performing advances, classification and valuation of investments, etc. Several of these guidelines currently are not consistent with the requirements of IFRS.

The Securities and Exchange Board of India has also prescribed guidelines for listed companies with respect to presentation formats for quarterly and annual results and accounting for certain transactions, some of which are not in accordance with IFRS e.g., Clause 41 of the Listing Agreement permits companies to publish and report only standalone quarterly financial results, however IFRS considers only consolidated financial statements as the primary financial statements for reporting purpose.

Court procedures:

Courts in India commonly approve accounting under amalgamation/restructuring schemes, which may not be in accordance with the accounting principles/standards. Under the current accounting/ legal framework such legally approved deviations from the accounting standards/principles are acceptable.

Income tax:

Computation of taxable income is governed by detailed provisions of the Indian Income Tax Act, 1961. Convergence with IFRS will require significant changes/ clarifications from the tax authorities on treatment of various accounting transactions.

For example, consider unrealised losses and gains on derivatives that are required to be marked-to-market under IFRS. Different taxation frameworks are possible for the tax treatment of such unrealised losses and gains. The treatment of such unrealised losses/ gains will need to be addressed in line with the convergence time frame. It is imperative that tax authorities are engaged sufficiently in advance to decide on such critical aspects of taxation.

One of the risks of IFRS convergence without adequate involvement of all stakeholders and adequate regulatory changes is that financial statements prepared using the’ converged’ Indian standards may still not fully comply with IFRS issued by the International Accounting Standards Board (IASB). This would be very unfortunate as Indian entities that may be required to present IFRS-compliant financial statements to stakeholders outside India (overseas stock exchanges, overseas regulators, investors and alliance partners) would still need to reconcile with such’ converged’ IFRS financial statements prepared using the Indian framework, with IFRS financial statements that are globally accepted.

Accordingly, at the onset of the convergence, there is a need to develop an enabling regulatory frame-work and infrastructure that would assist and facilitate IFRS convergence. The Government would need to frame and revise laws in consultation with the NACAS and the ICAL Similarly, regulators such as the RBI, IRDA and SEBI would need to consider accepting IFRS in substitution of the present set of specific accounting rules prescribed by them.

As the timelines for convergence approach, all entities will have to consider their own roadmap and gear up for complying with the GAAP differences. Convergence to IFRS will be time-consuming, challenging and will require complete support and sponsorship of the Board of Directors/Members of Audit Committee/Senior Management. Given the task and challenges, all entities should ensure that their convergence plans are designed in a manner to achieve the objective of doing it once, but doing it right.

How will convergence with IFRS affect audit procedures ?

IFRS

The use of International Financial Reporting Standards (IFRS)
as a universal financial reporting language is gaining momentum across the globe
especially from the position only seven years ago where numerous different
national standards existed.

In line with the global trend, the Ministry of Corporate
Affairs (MCA) has notified a plan for convergence with IFRS in a phased manner.

Convergence with IFRS will also need careful analysis of the
present auditing standards. Auditing standard-setters may also need to assess
the requirement of auditor obtaining requisite IFRS knowledge which can be
evidenced through a certification process.

Auditing standard-setters will need to address the impact on
auditing procedures for the changes proposed in the accounting principles due to
convergence with IFRS.

Under IFRS, management is required to make several estimates
in the below-mentioned areas in applying accounting policies that have a
significant effect on the amounts recognised in the financial statements.

Audit of non-current assets :

Property, plant and equipment :

IFRS requires an asset to be depreciated over its own useful
life instead of rates suggested under regulations (like Schedule XIV to the
Companies Act). Further, significant components of an asset are depreciated
separately. The estimate of useful life of assets needs to be reassessed at
least once every balance sheet date.

The audit procedures relating to fixed assets would need to
be designed to obtain sufficient appropriate audit evidence whether the
management’s assessment of useful life is appropriate. The auditor may require
performance of inquiry procedures with the plant engineers to assess the
reasonableness of the process for estimating the useful lives and identification
of components within individual assets that have a different useful life and
needs to be separately depreciated. Companies would also need to maintain
suitable audit trail for the basis for estimation of useful life and
identification of components.

Intangible assets :

The depreciation/amortisation of an intangible asset depends
on whether its useful life is finite or indefinite (indefinite does not mean
infinite). An intangible asset has an indefinite useful life when, based on an
analysis of all relevant factors, there is no foreseeable limit to the period
over which the asset is expected to generate net cash inflows for the entity.

An intangible asset with indefinite useful life is not
depreciated; instead it is tested for impairment every balance-sheet date.

Classification of intangible assets acquired in business
combination (like brands, trademarks, customer relationships) needs to be
assessed closely by the auditor. For instance, in assessing whether the useful
life of a brand is indefinite or finite, the auditor may need to assess the
following factors :


  • How well and for how long has the brand been established in the market ?
    If the brand is mature and contributes significant value to the business and
    therefore its abandonment would represent an unrealistic decision, then this
    might be an indicator of an indefinite useful life.




  • How stable is the industry in which the brand is used ? In rapidly
    changing industries it is less likely that a brand will be identified as
    having an indefinite useful life.




  • Is the brand expected to become obsolete at some point in the future ?




  • Is the brand used in a market that is subject to significant, enduring
    entry barriers ?




  • Is the useful life of the brand dependent
    on the useful lives of other assets of the entity ? If so, what are the
    useful lives of those assets ?




Embedded leases under IFRIC 4 :

The purpose of IFRIC 4 — ‘Determining whether an arrangement
contains a lease’, is to identify an arrangement which, in substance, is or
contains a lease (even if the contract does not use the term lease). For
instance, A Company has a contract with its supplier (job worker) whereby the
Company is contractually bound to get 10,000 units of goods manufactured by the
supplier. The supplier has installed a machinery to manufacture and supply the
goods for the contract.

Price terms are as under :


  • For first 10,000 units — Rs.22 per unit




  • 10,001 onwards — Rs.10 per unit




  • In case of any shortfall as compared to 10,000 units, a penalty of Rs.12
    per unit of shortfall shall be levied.



An analysis of the arrangement would indicate that up to
initial 10,000 units, the Company is bound to pay Rs.120,000 (10,000 x 12) to
the contract manufacturer (as there is a penalty of Rs.12 per unit for any
shortfall in offtake by the Company up to 10,000 units) and this would be
nothing other than lease rent for the asset being used. The balance amount of
Rs.10 (22 – 12) per unit would be job work charges for the manufacture of goods.

A lease arrangement conveys rights to use an asset for agreed
period of time in return for a payment or series of payments.

The assessment whether an arrangement is or contains a lease
is based on whether :


  • fulfilment of the arrangement is dependent on the use of a specific asset
    or assets; and




  • the arrangement conveys a right to use the asset(s).



A challenge to audit-embedded lease arrangements is to derive sufficient appropriate audit evidence that a specific asset(s) would be used throughout the arrangement. Further, audit procedures need to include determining fair values of embedded lease component and other components of the arrangement. This would involve judgment on the part of the company and a process to be set for determining appropriate audit trail for the basis of determination of fair value.

Appropriate representation may also be needed from the Company for identification of all embedded lease arrangements.

Investment property :
Investment properties include properties that are either held to earn rental income or capital appreciation, or are held with undetermined use. Investment properties are measured at cost or at fair value every balance-sheet date. If the client measures investment properties at cost, it still needs to disclose its fair value.

Audit procedures must include procedures to assess the classification of property as ‘Investment Property’. Further, the audit procedures may be performed on the appropriateness of assumptions/ factors considered in deriving the fair value of the Investment Properties.

Audit of Business Combinations and Consolidation :

Consolidation :
Unlike Indian GAAP, the definition of a subsidiary focusses on the concept of control and has two parts, both of which need to be met in order to conclude that one entity controls another :

  •     the power to govern the financial and operating policies of an entity;   
  •  to obtain benefits from its activities.

Thus, if a Company A holds 80% of the issued share capital of Company B and another investor C holds balance 20% of the share capital and participates in the management (through shareholders agreement) of the Company, then Company A cannot treat Company B as a subsidiary, as it cannot unilat-erally control that Company.

Thus, the auditor needs to verify the shareholder’s rights for classification of an investee as subsidiary.

Appropriate representation may also need to be sought from the company for non-existence of participative rights with minority shareholders.

Consolidation of special purpose entities :
A special purpose entity (SPE) is an entity created to accomplish a narrow and well-defined objective, e.g., a vehicle into which trade receivables are securitised. The principles discussed above for identifying control apply equally to an SPE. The control concept in SIC-12 is based on the substance of the relationship between an entity and an SPE, and considers a number of indicators.

Audit procedures that auditor may need to apply to identify whether the SPE needs to be consolidated need to be established.

Appropriate representation may also need to be sought from the company for identification of all SPEs.

Accounting policies across the Group :
The separate financial statements of subsidiaries, joint ventures and associates are prepared based on their accounting policies. However for the purpose of consolidation with parent company, all the sub-sidiaries, associates, joint ventures and SPEs need to prepare IFRS financial statements with the same accounting policies as that of the parent company.

Auditors need to verify consistency in application of IFRS accounting policies throughout the group. Thus auditors of the parent company may need to engage actively with the management and auditors of the subsidiary, joint ventures and associates to assess application of consistent accounting policies within the group.

Business combinations :

A business combination is defined as ‘a transaction or other event in which an acquirer obtains control of one or more businesses’.

In relation to business combination, the following audit procedures may need to be performed :

  •     Verify the date of actual transfer of control to the acquirer i.e., the date of acquisition. An appointed date as per agreement or court scheme cannot be termed as date of acquisition.

  •     Verify valuation reports as at acquisition date relating to assets transferred, liabilities incurred and equity interests issued by the acquirer. Verify the reasonableness of the assumptions used for valuation purposes.

  •     Verify intangibles assets that qualify for recognition. Verify the reasonableness of the assumptions used in the valuation of assets acquired, liabilities and contingent liabilities assumed.


Audit of income statement items :

Revenue : linked transactions :
In some cases, two or more transactions may be linked so that the individual transactions have no commercial effect on their own. For instance, a Company may enter into a contract to buy 100,000 units of goods from a vendor for Rs.1.5 per unit when market price for the goods is Rs.4 per unit (thus a cost savings of Rs.250,000). At the same time, the Company shall subscribe to the debentures of the vendor for Rs.400,000, whereby the vendor has a call option over the debentures to settle the liability at Rs.150,000 in all. Such transactions are linked transactions as the individual contracts have no commercial effect of their own.

In these cases it is the combined effect of the two transactions together that is accounted for. Audit procedures for linked transactions may include :

  •     Verify whether two or more transactions are linked based on the substance of the transaction.

  •     Verify identification of components in the overall arrangement.

  •     Verify allocation of consideration to the different components of the arrangement either on relative fair value method or on residual fair value method.

  •     Verify the basis for recognition of revenue for every delivered component of the arrangement.

Share-based payments :
Share-based payments under IFRS are measured at fair value, unlike Indian GAAP that allows use of intrinsic value method. The auditors need to verify the underlying assumptions relating to the fair value of the instruments. If the client has subsidiaries, the audit procedures are required to verify the extent of grants given to employees of the subsidiary company.

The auditor needs to verify the classification of the share-based payment into equity-settled and cash-settled share-based payment for the parent and subsidiary. Under certain circumstances, the classification of share-based payment could differ in the books of parent and subsidiary. For instance, subsidiary issues options to its employees that it settles by issuing its own shares. Upon termination of employment, the parent entity is required to purchase the shares of the subsidiary from the former employee. In such cases, as the subsidiary has an obligation to deliver its own equity instruments, the arrangement should be classified as equity-settled in its financial statements. However, the arrangement should be classified as cash-settled in the consolidated financial statements of the parent.

Audit of presentation of financial statements :

Current and non-current classification :
IFRS requires the assets and liability to be segregated into current and non-current assets/liabilities. Thus the audit procedures are required to determine the entity’s business cycle and thereby classification into current/non-current.

Disclosure of segment information :
IFRS requires segment disclosure based on the components of the entity that management monitors in making decisions about operating matters (the ‘management approach’). Such components (operating segments) are identified on the basis of internal reports that the entity’s ‘Chief operating decision maker’ (CODM) reviews regularly in allocating resources to segments and in assessing their performance.

Audit of segment information under IFRS would also lead to additional audit procedures like :

  •     Identification of the entity’s CODM;

  •     Audit of information reviewed by the CODM in the decision-making process; and

  •     Use of accounting policy for internal review.

The auditor might face challenges in performing audit procedures relating to information used by the management for decision-making process, as this information is always considered as strictly confidential and for internal use. Further, the information reviewed by the CODM (for instance, contribution margin analysis) may not be in strict compliance with GAAP. Hence test of completeness and accuracy of such financial information may be difficult.

Others :

Audit of IT system controls :
Entities where the use of Information systems is dominant (ERPs like SAP or Oracle) may require modifications in the IT configuration to track the information as required under IFRS. In such a scenario, the auditor would also require to test the new IT controls.

Audit of opening IFRS balance sheet :
To audit the opening balance sheet of the client, the auditor may prepare an audit programme to assist engagement team in issuing an audit opinion on the opening IFRS balance sheet prepared prior to the first complete set of IFRS financial statements. The audit programme may include the following audit steps :

  •     Understand the client’s transition process

  •     Update the understanding of the client’s business environment for transition matters

  •     Review compliance of the selected IFRS accounting policies with IFRS

  •     Assess the completeness and accuracy of the client’s gap analysis

  •     Identify IFRS balances with significant and/or high-risk gaps

  •     Identify appropriate audit objectives relating to gaps

  •     Evaluate the design and test the effectiveness of relevant internal controls

  •     Evaluate audit evidence and conclude.

Conclusion :
An entity may expect significant changes to its balance sheet and income statement due to transition to IFRS. It is essential for an auditor to carefully evaluate the IFRS impact areas both at the time of first-time adoption of IFRS and on a go-forward basis.

The auditor would need to suitably modify the design of its audit procedures to obtain sufficient appropriate audit evidence that the financial statements are not materially misstated.

Given the enhanced use of fair value in the presentation/preparation of IFRS financial statements and use of management judgment, the auditor will have to constantly be abreast of the client’s products/services, business and the related industry developments.

Income : Statutory and contractual interest awarded by arbitrator accrues from year to year

New Page 1

5 Income : Accrual of : A.Y. 1996-97 : Compensation/interest
awarded by arbitrator : Statutory and contractual interest accrues from year to
year : Other compensation is not taxable.


[Konkan Barge Builders P. Ltd. v. ITO, 297 ITR 39 (Bom.)]

The assessee had signed two contracts with MDL for
fabrication of panels from steel plates and for erection of panels. There was a
dispute between the assessee and MDL, pursuant to which an arbitrator came to be
appointed. The arbitrator passed an award in favour of the assessee in an amount
of Rs.1,12,66,929 as compensation and interest. The Assessing Officer treated
the interest awarded of Rs.43,99,404 as a revenue receipt and added it to the
total income for the A.Y. 1996-97. The Tribunal confirmed the addition.

On appeal by the assessee the Bombay High Court held as under
:

“(i) If interest were awarded and the arbitrator was not
seeking to give effect to or to recognise a right to interest conferred by the
statute or contract, it would not be taxable. On the other hand, if the
interest arose by virtue of the statute or by agreement and the arbitrator or
the High Court merely gives effect to that right in awarding of interest on
the amount of compensation, then it would be a revenue receipt which would be
taxable.

(ii) The amount of interest was assessable as income.

(iii) Interest was awarded at the rate of 12% per annum
from July 31, 1989, till payment or the date of decree on this award,
whichever was earlier. The interest income accrued from year to year and the
entire amount of interest could not be assessed in the year of receipt.”



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House property : S. 23 : Annual value is the rent received/receivable by owner from tenant, even if tenant receives higher rent by subletting property

New Page 1

4 House Property : Annual value : S. 23 of Income-tax Act,
1961 : Property sublet by tenant : Annual value is the rent received or
receivable by the assessee-owner from the tenants, irrespective whether the
tenants have received higher rents by subletting the properties.


[CIT v. Akshay Textiles Trading & Agencies (P) Ltd.,
214 CTR 316 (Bom.)]

In the appeal filed by the Revenue, the following questions
were raised before the Bombay High Court :

(i) Whether on the facts and in the circumstances of the
case and in law, the rent paid by ultimate user will be treated as Annual
Letting Value of the property as against rent received by the assessee ?

(ii) Whether on the facts and in the circumstances of the
case and in law, the Tribunal was justified in holding that the annual letting
value has to be determined with reference to the annual rent received by the
assessee and not what has been received by its tenants from the ultimate
users ?

The Bombay High Court held that the annual value of the
properties let out by the assessee is the rent received or receivable by the
assessee-owner from the tenants, irrespective of whether the tenants have
received higher rents by subletting the properties.

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Expenditure on lease rent : S. 37 : Lease rent paid in lump sum for 20 years : Revenue expenditure

New Page 1

3 Expenditure on lease rent : Capital or revenue : S. 37 of
Income-tax Act, 1961 : A.Y. 1997-98 : Lease rent for premises paid in lump sum
for 20 years : Revenue expenditure.


[CIT v. UCAL Fuel Systems Ltd., 296 ITR 702 (Mad.)]

For the A.Y. 1997-98, the assessee claimed as revenue
expenditure sums of Rs.30 lakhs and Rs.8 lakhs paid for taking land and building
on lease for 20 years for the purpose of setting up the new unit at an
industrial estate at Pondichery. The Assessing Officer disallowed the claim
treating it as capital expenditure. Tribunal allowed the claim.

On appeal by the Revenue, the Madras High Court upheld the
decision of the Tribunal and held :

“Had the assessee chosen to pay the rent annually for each
and every year of lease, such expenditure would have to be regarded as revenue
expenditure. The fact that the payment was made in a lump sum for the entire
duration of the lease did not alter the character of its being a revenue
expenditure.”


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Capital Gain : Compulsory acquisition — If compensation award and major part of compensation received in later years, capital gain cannot be assessed in year of handing over possession

New Page 1

2 Capital gain : Accrual : A.Y. 1984-85 : Compulsory
acquisition of land : Land acquired and possession taken on 23-12-1983
i.e., A.Y. 1984-85 : Small part of compensation received by assessee in
A.Y. 1985-86 : Compensation award was given on 18-9-1986 : As-sessee
received balance compensation on 3-9-1987 : Capital gain cannot be assessed in
A.Y. 1984-85.


[CIT v. Prem Kumar, 214 CTR 452 (All.)]

The assessee’s land was acquired under the Land Acquisition
Act, 1894. The land acquisition notification was issued on 15-11-1975. S. 17(4)
of the Land Acquisition Act was applied. Possession of the land
was taken on 23-12-1983 (i.e., in A.Y. 1984-85). A small part of the
compensation that is Rs.25,000, was received by the assessee on 11-7-1984 (i.e.,
in A.Y. 1985-86). Compensation award was given by the
Collector/Land Acquisition Officer on 18-9-1986. The balance compensation of
Rs.1,77,708 was received by the assessee on 3-9-1987. The Tribunal held
that no capital gain is exigible to tax in A.Y. 1984-85.

The Allahabad High Court dismissed the reference application
filed by the Revenue and held as under :

“(i) In substance relying upon the aforesaid authorities
and also relying upon the definition given in S. 2(47) of the Income-tax Act,
1961, the contention of the Department is that for determining the assessment
year in which capital gain should be taxed, it is the date of transfer which
has to be considered and because u/s.16 of the Land Acquisition Act, 1894, the
title passes to the Government upon taking the possession, therefore, the date
of transfer in compulsory land acquisition would be the date on which
possession is taken.

(ii) We have considered the matter and we are of the
opinion that the contention of the Department in respect of the A.Y. 1984-85
overlooks the vital facts, namely, that where S. 17 of the Land Acquisition
Act, 1894 has been invoked for the purposes of acquisition of land, possession
can be taken even where no award of compensation has been given.

(iii) If we accept the contention of the Department, it
would mean that the assessee whose land has been acquired will have to file a
return disclosing the amount of capital gain arising to him without even
knowing what the amount of that capital gain would be, because that amount can
become known to him only after the award has been given. ‘Lex non cogit ad
impossibilia’ is age-old maxim meaning that the law does not compel a man
to do which he cannot possibly perform. Requiring the assessee to file a
proper and complete return by including the income under the head ‘Capital
gain’ would be impossible for the assessee, in cases of the nature referred
above.

(iv) The assessee was required to invest the capital gain
in the specified securities, like capital gain bonds issued from time to time
or in a residential house under the various provisions of the Income-tax Act,
1961, from S. 54 onwards within the time specified therein as computed from
the date of transfer. It is obvious that in order to invest the money in the
specified items, the assessee must first receive the money. Therefore,
accepting the contention of the Department would mean depriving the assessee
of those benefits or tax relief in all cases where S. 17 of the Land
Acquisition Act, 1894, has been applied.

(v) The Tribunal was justified in holding that no capital
gain is exigible to tax in A.Y. 1984-85 on the facts and circumstances of the
case.”



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Assessment — Prima facie adjustments — When there are conflicting judgments or interpretations of a Section, prima facie adjustment contemplated u/s.143(1)(a) was not applicable and in such cases there was no liability to pay additional tax u/s.143(1A).

New Page 17 Assessment — Prima facie adjustments — When
there are conflicting judgments or interpretations of a Section, prima facie
adjustment contemplated u/s.143(1)(a) was not applicable and in such cases
there was no liability to pay additional tax u/s.143(1A).

[Kvaverner John Brown Engg. (India) P. Ltd. v.
ACIT, (2008) 305 ITR 103 (SC)]

During the relevant assessment years, the
appellant claimed deduction u/s.80-0 in respect of qualifying income brought
into India in convertible foreign exchange. In its return, the appellant
indicated the qualifying income as the gross figure. By way of adjustment
u/s.143(1)(a), the Income-tax Officer restricted the qualifying income to the
net figure. In other words, the assessee claimed the gross income earned in
foreign exchange as the qualifying income, whereas the Income-tax Officer
granted deduction by restricting the claim of the assessee to the net income.

On December 17, 1997, whether the eligible income
should be taken at the gross figure or net figure, was the question for
interpretation. There were several conflicting decisions on this point.
Therefore, according to the appellant, S. 143(1)(a) was not applicable and
consequently the appellant was not liable to pay the additional tax
u/s.143(1A).

The Supreme Court observed that the only point
raised by the appellant was that it was not liable to pay additional tax, as
S. 143(1)(a), as it stood during the relevant year, was not applicable to the
facts of this case, because a moot point had arisen which could not have been
a matter for adjustment under that Section and which point needed
consideration and determination only under regular assessment vide S. 143(3)
of the 1961 Act. The Supreme Court held that for the A.Ys. 1996-97 and 1997-98
with which it was concerned, one of the main conditions stipulated by way of
the first proviso to S. 143(1)(a), as it stood during the relevant time,
referred to prima facie adjustments. The first proviso permitted the
Department to make adjustments in the income or loss declared in the return in
cases of mathematical errors or in case where any loss carried forward or
deduction or allowance which on the basis of information available in return
was prima facie admissible, but which was not claimed in the return or
in cases where any loss carried forward or deduction or allowance claimed in
the return which on the basis of information available in the return, was
prima facie inadmissible. In the present case, therefore, when there were
conflicting judgments on interpretation of S. 80-0, the Supreme Court was of
the view that prima facie adjustments contemplated u/s.143(1)(a) were
not applicable and therefore the appellant was not liable to pay additional
tax u/s.143(1A) of the Act.

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Appeal to the High Court — Finding of facts recorded by the Tribunal that machinery was not idle for the entire block period — hence it was not necessary to go into the connotation of the word ‘used’ appearing in S. 32 of the Act.

New Page 1

6 Appeal to the High Court — Finding of facts
recorded by the Tribunal that machinery was not idle for the entire block period
— hence it was not necessary to go into the connotation of the word ‘used’
appearing in S. 32 of the Act.

[Dy. CIT v. N. K. Industries Ltd., (2008)
305 ITR 274 (SC)]

The Supreme Court was concerned with the block
period April 1, 1988, to February 24, 1999. The main contention advanced on
behalf of the Department was that for allowance of deduction for depreciation,
the asset must not only be owned by the assessee but it must also be used for
the purposes of business or profession of the assessee. It was the case of the
Department that the word ‘used’ in S. 32 of the Income-tax Act, 1961, refers to
actual use of the asset; that having regard to the scheme of the Income-tax Act,
1961, and particularly, after the introduction of the concept of ‘block of
assets’, actual use is the only requirement apart from ownership for allowance
of depreciation u/s.32. It was also the case of the Department that an important
question of law arose for determination before the High Court; that the High
Court has failed to examine the said question; and that it had erred in
dismissing the tax appeals only on the ground that no substantial question of
law had arisen.

The Supreme Court observed that in the present
case, the Tribunal had examined the statements of certain witnesses and after
analysing the material on record, it had come to the conclusion on facts that
there was nothing to show that the machinery, namely, expellers remained idle
for the entire block period April 1, 1988 to February 24, 1999. The Supreme
Court after having examined the record itself, agreed with the view expressed by
the Tribunal on the facts of the present case. The Supreme Court was of the view
that hence, it is not necessary for it to go into the larger question of law
regarding the connotation of the word ‘used’ appearing in S. 32 of the
Income-tax Act, 1961. The Supreme Court dismissed the appeal for the aforesaid
reasons. The question of law was however kept open.

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Depreciation — Higher depreciation could not be allowed on the motor trucks used in business of running them on hire, unless there is an evidence that the assessee was in the business of hiring out motor vehicles.

New Page 15 Depreciation — Higher depreciation could not
be allowed on the motor trucks used in business of running them on hire,
unless there is an evidence that the assessee was in the business of hiring
out motor vehicles.

[CIT v. Gupta Global Exim P. Ltd., (2008)
305 ITR 132 (SC)]

The Assessing Officer (AO) took the view that the
assesseé was, during the relevant assessment year, in the business of timber
trading and it was only occasionally that the trucks owned by the assessee
were given out on hire to outside parties and, hence, the assessee was not in
the business running the trucks on hire and, therefore, the assessee was not
entitled to claim higher rate of depreciation at 40%. This finding of the
Assessing Officer was reversed by the Commissioner of Income-tax (Appeals). It
was held by the Commissioner of Income-tax (Appeals) that the transportation
income of 12,50,639 by way of running the subject vehicles on hire was an
integral part of the assessee’s business and that its inclusion under the head
‘Business income’ was not disputed even by the Assessing Officer. This finding
of the Commissioner of Income-tax (Appeals) was affirmed by the Tribunal. The
High Court had refused to interfere on the ground that the matter involved
essentially questions of fact. On an appeal to the Supreme Court, it held that
generally, the Supreme Court does not interfere with the concurrent finding of
facts recorded by the authorities below. However, in this case, the Supreme
Court was of the opinion that a neat substantial question of law arose for
determination which needed interpretation of the depreciation table given in
Appendix I to the Income-tax Rules, 1962.

The Supreme Court held that under item (2)(ii) of
heading III, higher rate of depreciation is admissible on motor trucks used in
a business of running them on hire. Therefore, the user of the same in the
business of the assessee of transportation is the test.

According to the Supreme Court, in the present
case, none of the authorities below (except the Assessing Officer) had
examined the matter by applying the above test. The Assessing Officer had
given his finding that the assessee was not in the business of transportation
as he was only in the business of trading in timber logs. That, the burden was
on the assessee to establish that it is the owner of motor lorries and that it
used the said motor lorries/trucks in the business of running them on hire.

In the view of the Supreme Court, the entire
approach of the Commissioner of Income-tax (Appeals) was erroneous when he had
stated that the transportation income of Rs.12,50,639 by way of running the
subject vehicles on hire was an integral part of the appellant’s business and
its inclusion in the head ‘Business income’ is not disputed even by the AO.
According to the Supreme Court, mere inclusion of Rs.12,50,639 in the total
business income is not the determinative factor for deciding whether trucks
were used by the assessee during the relevant year in a business of running
them on hire. The Supreme Court therefore set aside the judgment of the High
Court and remitted the matter to the Commissioner of Income-tax (Appeals) for
de novo examination of the case in accordance with law.

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Business Expenditure — S. 42(1) — Special provisions for prospecting for mineral oil — Production sharing contract accounts is an independent accounting regime — Foreign exchange losses on account of foreign currency transaction is allowable as a deductio

New Page 14 Business Expenditure — S. 42(1) — Special
provisions for prospecting for mineral oil — Production sharing contract
accounts is an independent accounting regime — Foreign exchange losses on
account of foreign currency transaction is allowable as a deduction.

[CIT v. Enron Oil and Gas India Ltd.,
(2008) 305 ITR 75 (SC)]

The respondent-Enron Oil and Gas India Ltd. (‘the
EOGIL’), a company incorporated in Cayman Islands was engaged in the business
of oil exploration. In 1993, the Government of India through the Petroleum
Ministry invited bids for development of concessional blocks. EOGIL offered
its bid for the development of concessional blocks. A consortium of EOGIL with
RIL was given the contract. Later on, ONGC joined. EOGIL with RIL and ONGC
executed a production sharing contract (PSC) with the Government of India.
EOGIL was entitled to a participating interest of 30% in the rights and
obligations arising under the PSC. RIL was also entitled to participating
interest of 30%. ONGC was entitled to a participating interest of 40%. EOGIL
was designated as the operator under the said PSC.

Vide Notification No. 1997, dated March 8, 1996,
u/s.293A of the Income-tax Act, 1961 (‘the 1961 Act’), each co-venturer was
liable to be assessed for his own share of income. They were not to be treated
as an association of persons.

EOGIL filed its return of income for the
assessment year 1999-2000 declaring its taxable income of Rs. 71,19,50,013
u/s.115JA.

During the year, EOGIL debited its profit and
loss account by exchange loss of Rs.38,63,38,980. The Assessing Officer
disallowed this loss on the ground that it was a mere book entry and actually
no loss stood incurred by the assessee.

The decision of the Assessing Officer was
challenged in appeal by EOGIL before the Commissioner of Income-tax (Appeals),
who after analysing PSC held that each co-venturer in this case had made
contribution at a certain rate, whereas the expenditure incurred out of the
said contribution stood converted on the basis of the previous month’s average
daily means for the buying and selling rates of exchange which exercise
resulted in loss/profit on conversion. Under the circumstances, according to
the Commissioner of Income-tax (Appeals), it could not be said that the
assessee had incurred notional loss. In fact, during the course of
proceedings, the Commissioner of Income-tax (Appeals) found that during the
A.Ys. 1995-96 and 1996-97 the assessee had earned profits which stood taxed by
the Department. He further found that one co-venturer (ONGC) had gained
Rs.293.73 crores during the A.Y. 1997-98 because the Indian rupee had
appreciated as compared to foreign currency and the Department had taxed the
same, but when during the assessment year in question there is a loss on
account of such conversion, the Department has refused to allow the deduction
for such conversion losses. According to the Commissioner of Income-tax
(Appeals), the Department cannot blow hot and cold. Consequently, it was held
that just as the foreign exchange gain was taxable, loss was allowable
u/s.42(1) of the Income-tax Act in terms of the PSC. Therefore, the
Commissioner of Income-tax (Appeals) allowed as deduction, the loss of Rs.
38,63,38,980.

Aggrieved by the order passed by the Commissioner
of Income-tax (Appeals), the Department carried the matter in appeal to the
Income-tax Appellate Tribunal objecting to the deletion made by the
Commissioner of Income-tax (Appeals) on the ground that the loss was only a
book entry. Before the Tribunal the matter pertained to the A.Ys. 1999-2000,
199899, 2000-01 and 1996-97. However, for the sake of convenience, the
Tribunal focussed its attention on the facts and figures given for the A.Y.
1999-2000. Before the Tribunal, the Department contended that the assessee
borrows in USD and repays in the same currency for the preparation of the
balance sheet. The loans, according to the Department, were stated at
prevalent exchange rates and the loss arrived at was charged to the profit and
loss account. Therefore, according to the Department, the said loss was a book
entry and it was not an actual loss in foreign exchange caused to the assessee.
This argument of the Department was rejected by the Tribunal. It was held that
the assessee was a foreign company. It carried out business activity in India.
It had to maintain its accounts in rupees for the purpose of income-tax, that
the PSC had to be read with S. 42(1) of the Income-tax Act, which entitled the
assessee to claim conversion loss as deduction, particularly when the said PSC
provided for realised and unrealised gains/losses from the exchange currency.
According to the Tribunal, the assessee was maintaining its accounts in rupees
and such accounts had to reflect the loan liability under consideration as the
loan had been taken for the Indian activity. Therefore, according to the
Tribunal, the liability arising as a consequence of depreciation of the rupee
had to be considered both for accounting and tax purposes. Accordingly, the
Tribunal refused to interfere with the findings returned by the Commissioner
of Income-tax (Appeals).

The above concurrent finding stood confirmed by
the judgment delivered by the Uttarakhand High Court.

On further appeal, the Supreme Court observed
that the only question which needed consideration was whether the assessee was
entitled to claim deduction for foreign exchange losses on account of foreign
currency translation. In other words, whether loss arising on account of
foreign currency translation is allowable deduction or not and conversely
whether the gains on account of foreign currency translation is to be treated
as a receipt liable to tax. Analysing the provisions of S. 42(1), the Supreme
Court held that it was clear that the said Section was a special provision for
deductions in the case of business of prospecting, extraction/production of
mineral oils. S. 42(1) provides for admissibility in respect of three types of
allowances provided they are specified in the PSC. They relate to expenditure
incurred on account of abortive exploration, expenditure incurred before or
after the commencement of commercial production in respect of drilling or
exploration activities and expenses incurred in relation to depletion of
mineral oil in the mining area. If one reads S. 42(1) carefully, it becomes
clear that the above three allowances are admissible only if they are so
specified in the PSC.

Accordingly, the Supreme Court noted that the PSC
in question provided for both capital and revenue expenditures. It also
provided for a method in which the said expenses had to be accounted for. The
Supreme Court held that the said PSC was an independent accounting regime
which included tax treatment of costs, expenses, incomes, profits, etc. It
prescribed a separate rule of accounting. In normal accounting, in the case of fixed assets, generally when currency fluctuation results in an exchange loss, addition is made to the value of the asset for depreciation. However, under the PSC, instead of increasing the value of expenditure incurred on account of currency variation in the expenses itself, EOGIL was required to book losses separately. The said PSC prescribed a special manner of accounting which was at variance with the normal accountingstandards. The said ‘PSC accounting’ obliterated the difference between capital and revenue expenditure. It made all kinds of expenditure chargeable to the profit and loss account without reference to their capital or revenue nature. But for the PSC accounting there would have been disputes as to whetherthe expenses were of revenue or capital nature. In view of the special accounting procedure prescribed by the PSC, Accounting Standard 11 had to be ruled out.

The Supreme Court observed that Appendix C pre-scribed the manner in which a contractor is required to maintain his accounts. It stipulated that each of the co-venturers had to follow the computation of Income-tax under the 1961 Act. Clause 1.6.1. of appendix C referred to currency exchange rates. It stated that for translation purposes between USD and INR, the previous month’s average of the daily means of buying and selling rates of exchange as quoted by SBI shall be used for the month in which revenue, costs, expenditure, receipts or incomes are recorded. The Supreme Court therefore, held that clause 1.6.1 of appendix C provided for translation. The Supreme Court noted that subsequent to the award of the concession, EOGIL along with RIL and ONGC executed the PSC with the Government of India. Under the said PSC, each co-venturer remitted money, known as cash call to the bank account of the operator in the USA. The expenditure for the joint venture was made out of the said account. The trial balance was required to be prepared at the end of the month in USD, which was then required to be translated on the basis of accounting procedure mentioned in Appendix C to the PSC. The Supreme Court held that the cash call in other words was not a loan. Cash cali was a contribution. It was made by each co-venturer at a certain rate, whereas the expenditure against it had to be converted on the basis of the exchange rates as provided for in the PSC, which stated that the same had to be converted on the basis of the previous month’s average of the daily means of buying and selling rates of exchange. The above analysis showed that the capital contribution had to be converted under the PSC at one rate, whereas the expenditure had to be converted at a different rate. This exercise resulted in loss/ profit on conversion. Under the PSC, the respondent had to convert revenue, costs, receipts and incomes. If EOGIL had a choice to prepare its accounts only in USD, there would have been no loss/profit on account of currency translation. It is because of the specific provision in the PSC for currency translation that loss/profit accrued to EOGIL. The Supreme Court further held that in the PSC, the foreign company provides the capital investment and cost and the first proportion of oil extracted is generally allocated to the company which uses oil sales to recoup its costs and capital investment. The oil used for that purpose is termed ‘cost oil’. Often a company obtains profit not just from the ‘profit oil’, but also from the ‘cost oil’. Such profits cannot be ascertained without taking into account translation losses. Moreover, taxes are embedded in the profit oil. If these concepts are kept in mind, then it cannot be said that ‘translation losses’ under the PSC are illusory losses.

Appeal by the Revenue — Merely because in some cases the Revenue has not preferred appeal that does not operate as a bar for the Revenue to prefer an appeal in another case where there is a just cause.

New Page 12 Appeal by the Revenue — Merely because in
some cases the Revenue has not preferred appeal that does not operate as a bar
for the Revenue to prefer an appeal in another case where there is a just
cause.

[C. K. Gangadharan & Anr. v. CIT, (2008)
304 ITR 61 (SC)]

By order dated March 13, 2008, a reference was
made to a larger Bench of the Supreme Court and the order, of reference,
inter alia, read as follows :

”In view of the aforesaid position, we are of the
opinion that the matter requires consideration by a larger Bench to the extent
whether the Revenue can be precluded from defending itself by relying upon the
contrary decision.”

The Supreme Court made it clear that it was not
doubting the correctness of the view taken by it in the cases of Union of
India v. Kaumudini Narayan Dalal, (2001) 249 ITR 219, CIT v. Narendra
Doshi, (2002) 254 ITR 606 and CIT v. Shivsagar Estate, (2002) 257
ITR 59 to the effect that if the Revenue has not challenged the correctness of
the law laid down by the High Court and accepted it in the case of one
assessee, then it is not open to the Revenue to challenge its correctness in
the case of other assessees, without just cause. The Supreme Court after
noting its decisions in Bharat Sanchar Nigam Ltd. v. Union of India,
(2006) 282 ITR 273 (SC), State of Maharashtra v. Digambar, (1995) 4 SCC
683, Government of West Bengal v. Tarun K. Roy, (2004) 1 SCC 347,
State of Bihar Ramdeo Yadav, (1996) 3 SCC 493 and State of West Bengal
v. Devdas Kumar, (1991) Supp (1) SCC 138, observed that if the assessee
takes the stand that the Revenue acted mala fide in not preferring
appeal in one case and filing the appeal in other case, it has to establish
mala fides. The Supreme Court accepted the contention of the learned
counsel for the Revenue that there may be certain cases where because of the
small amount of revenue involved, no appeal is filed or where policy decisions
have been taken not to prefer appeal where the revenue involved is below a
certain amount. Similarly, where the effect of the decision is revenue
neutral, there may not be any need for preferring the appeal. All these
provide the foundation for making a departure.

The Supreme Court held that merely because in
some cases the Revenue has not preferred appeal that does not operate as a bar
for the Revenue to prefer an appeal in another case where there is just cause
for doing so or it is in public interest to do so or for a pronouncement by
the higher court when divergent views are expressed by the Tribunals or the
High Courts.

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Exemption — Local Authority — Marketing Committee to provide facilities for marketing of agricultural produce in a locality is not a ‘local authority’ and there fore its income is not exempt u/s.10(20) (after amendment by Finance Act, 2002). Its income is

New Page 13 Exemption — Local Authority — Marketing
Committee to provide facilities for marketing of agricultural produce in a
locality is not a ‘local authority’ and there fore its income is not exempt
u/s.10(20) (after amendment by Finance Act, 2002). Its income is exempt
u/s.10(26AAB) from 1-4-2009.

[Agricultural Produce Market Committee,
Narela v. CIT & Anr., (2008) 305 ITR 1 (SC)]

The appellant-Committee was established under
the Delhi Agricultural Produce Marketing (Regulation) Act, 1998 (the 1998
Act). The provisions of the said 1998 Act enjoined upon the appellant to
provide facilities for marketing of agricultural produce in Narela, Delhi.
This is apart from performing other functions and duties such as
superintendence, direction and control of markets for regulating the
marketing of agricultural produce.

For the A.Y. 2003-04, the appellant-Committee
claimed exemption from payment of tax on the income earned by it, on the
ground that it was a ‘local authority’ within the meaning of S. 10(20) of
the Income-tax Act, 1961 (the 1961 Act). It relied upon the definition of
‘local authority’ in S. 2(1)(l) of the said 1998 Act. The Assessing Officer
rejected the appellant’s claim for exemption relying upon Circular No.
8/2002, dated August 27, 2002 issued by the Central Board of Direct Taxes.
The view taken was that the amended provisions of S. 10(20) of the 1961 Act
were not attracted to ‘Agricultural Produce Marketing Societies’ or
‘Agricultural Market Boards’ even when they may be local authorities under
the Central or State legislation.

Aggrieved by the said order, the appellant
filed an appeal before the Commissioner of Income-tax (Appeals) who upheld
the view taken by the Assessing Officer and declined the exemption claimed
by the appellant.

A further appeal by the appellant, before the
Tribunal, also failed.

Aggrieved by the decision of the Tribunal, the
appellant moved the High Court by way of an appeal u/s.260A of the 1961 Act.
The Delhi High Court following its earlier judgment in the case of
Agricultural Produce Market Committee, Azadpur v. CIT, (ITA No.
749/2006), dismissed the appellant’s appeal.

On further appeal, the Supreme Court noted that
prior to the Finance Act, 2002, the said 1961 Act did not contain the
definition of the words ‘local authority’. Those words came to be defined
for the first time by the Finance Act, 2002, vide the Explanation/
definition clause.

After hearing the parties, the Supreme Court
observed that u/s.3(31) of the General Clauses Act, 1897, ‘local authority’
was defined to mean “a municipal committee, district board, body of port
commissioners or other authority legally entitled to the control or
management of a municipal or local fund. The words ‘other authority’ in S.
3(31) of the 1897 Act have been omitted by Parliament in the
Explanation/definition clause inserted in S. 10(20) of the 1961 Act, vide
the Finance Act, 2002. Therefore, it was not correct to say that the entire
definition of the words ‘local authority’ was bodily lifted from S. 3(31) of
the 1897 Act and incorporated by Parliament, in the Explanation to S. 10(20)
of the 1961 Act. This deliberate omission was important. The Supreme Court
noted that various High Courts had taken the view prior to the Finance Act,
2002, that AMC(s) is a ‘local authority’. That was because there was no
definition of the words ‘local authority’ in the 1961 Act. Those judgments
proceeded primarily on the functional tests as laid down in the judgment of
the Supreme Court in the case of R. C. Jain [(1981) 2 SCC 308].

In the case of R. C. Jain, the test of ‘like
nature’ was adopted as the words ‘other authority’ came after the words
‘Municipal Committee, District Board, Body of Port Commissioners’.
Therefore, the words ‘other authority’ in S. 3(31) took colour from the
earlier words, namely, ‘Municipal Committee, District Board or Body of Port
Commissioners’. This is how the functional test was evolved in the case of

R. C. Jain. The Supreme Court held that
Parliament in its legislative wisdom had omitted the words ‘other authority’
from the said Explanation to S. 10(20) of the 1961 Act. The said Explanation
to S. 10(20) provides a definition to the words ‘local authority’. It is an
exhaustive definition. It is not an inclusive definition. The words ‘other
authority’ do not find place in the said Explanation. Even according to the
appellant(s), AMC(s) was neither a Municipal Committee nor a District Board
nor a Municipal Committee nor a Panchayat. Therefore, according to the
Supreme Court, the functional test and the test of incorporation as laid
down in the case of R. C. Jain, was no more applicable to the Explanation to
S. 10(20) of the 1961 Act.

However, the Supreme Court felt that the
question still remained as to why Parliament had used the words ‘Municipal
Committee’ and ‘District Board’ in item (iii) of the said Explanation.
According to the Supreme Court, Parliament defined ‘local authority’ to mean
— a panchayat as referred to in clause (d) of Article 243 of the
Constitution of India, Municipality as referred to in clause (e) of Article
243P of the Constitution of India. However, there was no reference to
Article 243 after the words ‘Municipal Committee’ and ‘District Board’. It
appeared that the Municipal Committee and District Board in the said
Explanation were used out of abundant caution. In 1897 when the General
Clauses Act was enacted there existed in India, Municipal Committees and
District Boards and it was quite possible that in some remote place a
District Board still existed. The Supreme Court in conclusion observed that
having taken the view that AMC(s) is neither a Municipal Committee nor a
District Board under the Explanation to S. 10(20) of the Act, it refrained
from going into the question : whether the AMC(s) is legally entitled to the
control of the local fund, namely, Market Fund, under said 1998 Act, because
vide the Finance Act, 2008, income of AMC(s) is exempted under sub-section
(26AAB) of S. 10 with effect from April 1, 2009.

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Penalty S. 271(1)(c) Explanation 5 : Assessee admitted acquisition of asset in statement u/s.132(4) : Immunity to be granted

New Page 1

6 Penalty : S. 271(1)(c) Explanation 5 of Income-tax Act,
1961 : A. Ys. 1984-85 and 1988-89 : In statement u/s.132(4), assessee admitted
acquisition of asset in A.Y. 1987-88 and offered income of Rs.3,50,000 spread
over 5 years from A.Y. 1984-85 to 1988-89 : Immunity under Explanation 5 should
be granted.


[CIT v. Kanhaiyalal, 214 CTR 611 (Raj.)]

In the course of a search action, in a statement u/s.132(4)
of the Income-tax Act, 1961, the assessee accepted the acquisition of the asset
of value Rs.3,50,000 in the A.Y. 1987-88 and offered the amount to tax spread
over in the A.Ys. 1984-85 to 1988-89. The Assessing Officer imposed penalty
u/s.271(1)(c) of the Act and refused to grant immunity under Explanation 5, on
the ground that the whole of the amount should have been offered in the A.Y.
1987-88. The Tribunal deleted the addition and held that the assessee is
entitled to immunity under Explanation 5.

On appeal by the Revenue, the Rajasthan High Court upheld the
decision of the Tribunal and held as under :

“Immunity under Explanation 5 of S. 271(1)(c) is not taken
away for the simple reason that income disclosed by assessee in his statement
u/s.132(4) for a particular year was spread over in the returns of several
years, more so, when the Assessing Officer had also made assessment in
assessment years as returned by the assessee, though after making some quantum
reshuffling.”



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Reassessment : Notice to agent of non-resident assessee : Limitation : S. 149(3), S. 163(2) Specific order u/s.163(2) not necessary : Notice issued u/s.148 after expiry of two years is time-barred

New Page 1

8 Reassessment : Notice to agent of non-resident : Limitation
: Ss. 149(3) and Ss. 163(2) of Income-tax Act, 1961 : A.Y. 1996-97 : MC filed
return as agent of non-resident assessee : No specific order u/s.163(2) as agent
: Order not necessary : Notice u/s.148 issued to assessee on 14-1-2000, after
expiry of two years is time-barred u/s.149(3).


[CIT v. Madhwan Bashyam, 214 CTR 335 (Del.)]

For the A.Y. 1996-97, M/s. Mariben Corporation (MC) filed the
return of income as agent of the non-resident assessee on 24-6-1996. On
14-1-2000, the Assessing Officer issued notice u/s.148 of the Income-tax Act,
1961 and served on the assessee on 31-1-2000. Before the Tribunal, the assessee
contended that in view of the provisions of S. 149(3), the notice should have
been served to the assessee on or before 31-3-1999 and therefore the notice was
time-barred. The Revenue contended that no order was passed to the effect that
MC was the agent of the assessee and therefore the provisions of S. 149(3) are
not applicable. The Tribunal accepted the contention of the assessee and held
that the notice issued to the assessee u/s.148 of the Act, was barred by time.

On appeal by the Revenue, the Delhi High Court upheld the
decision of the Tribunal and held as under :

“(i) On a plain reading of S. 163(2), it appears that when
an order adverse to the assessee/agent is passed by the Assessing Officer,
then a written order is required to be made. However, if there is no objection
to the agent continuing the proceedings on behalf of the assessee, no specific
order needs to be passed by the Assessing Officer. If a person filing a return
as an agent of the assessee is not accepted as an agent for further
proceedings, then the Assessing Officer must pass an order, so that the agent
or assessee can file an appeal. But as in the present case, if the proceedings
have gone on as if there is no objection to the person filing a return being
treated as an agent of the assessee, no specific order needs to be passed in
this regard.

(ii) Under the circumstances, there is no error in the view
taken by the Tribunal in coming to the conclusion that the notice was issued
to the assessee beyond the period prescribed by law.”


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Penalty u/s.271C and u/s.271B : Failure to deduct tax u/s.194C : Partner only matriculate, assessee new firm, followed advice given by its CA : Penalty cancelled

New Page 1

7 Penalty for failure to deduct tax at source : Ss.194C,
Ss.271C and Ss.273B of Income-tax Act, 1961 : A.Ys. 2000-01 and 2001-02 : New
firm : Partner a matriculate : Assessee explained that it was not advised by its
Chartered Accountant that it was liable to deduct tax at source u/s.194C :
Explanation bona fide : Penalty cancelled.


[CIT v. Fourways International, 166 Taxman 461 (Del.)]

In the A.Ys. 2000-01 and 2001-02, the assessee had made
certain payments for fabrication charges, but had not deducted tax at source.
The Assessing Officer held that the assessee has failed to deduct tax at source
u/s.194C of the Income-tax Act, 1961 without reasonable cause and therefore
imposed penalty u/s.271C of the Act. The contention of the assessee was that it
was not advised by its Chartered Accountant that it was liable to deduct tax at
source u/s.194C of the Act and therefore the failure to deduct tax at source was
bona fide. The assessee therefore contended that there is no
justification of imposition of penalty u/s.271C of the Act. The Tribunal
accepted the contention of the assessee and cancelled the penalty.

On appeal by the Revenue, the Delhi High Court upheld the
decision of the Tribunal and held :

“(i) The Tribunal found the explanation to be bona fide.
The Tribunal concluded that the assessee was not avoiding its liability and
had cooperated with the Revenue in the payment of tax. It also held that the
assessee has not been correctly advised by its Chartered Accountant in regard
to its liability.

(ii) We may note that S. 273B of the Act does not make a
levy of penalty u/s.271C of the Act mandatory. The assessee would not be
liable to penalty if he is able to prove that there was a reasonable cause for
failing to deduct the tax. The assessee in the present case had given an
explanation which found favour with the Tribunal. We think that the view taken
by the Tribunal is one that could have possibly been taken in the matter. It
is not perverse as to warrant interference or which gives rise to a
substantial question of law.”



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Search and seizure — Whether the High Court was justified in holding that the Additional Director (Investigation) do not have jurisdiction to authorise Joint Director to effect search ? — Matter left open since it had become academic.

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3 Search and
seizure — Whether the High Court was justified in holding that the Additional
Director (Investigation) do not have jurisdiction to authorise Joint Director to
effect search ? — Matter left open since it had become academic.


[DCIT v. Dr. Nalin Mahajan,
(2009) 314 ITR 340 (SC)]


The Delhi High Court (257 ITR
123) had inter alia held that the Additional Director (Investigation) did not
have the power to issue any authorisation or warrant to the Joint Director as he did not have any statutory authority to
issue such authorisation or warrant. Consequently, the High Court declared the
Notification dated 6th September, 1989 as not valid to that extent.

The aforesaid decision of the
High Court was challenged before the Supreme Court.

The Supreme Court found that the
above question had become academic because after the impugned judgment, the
Commissioner of Income-tax, Delhi, had issued order u/s.132B of the Act for
release of cash, for release of jewellery and for release of the books of
account that were seized during the search and seizure operations conducted
u/s.132(1), which indicated that the matter had become final so far as the
assessment and recovery of tax was concerned. The Supreme Court therefore did
not examine the issues raised in the civil appeal and dismissed the civil appeal
keeping the questions of law raised therein expressly open.


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Assessment — Intimation u/s.143(1)(a) — Effect of amendment of S. 143(1A) by Finance Act, 1993 — Whether retrospective in case of reduction of loss ? — Matter remanded to the High Court.

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1 Assessment —
Intimation u/s.143(1)(a) — Effect of amendment of S. 143(1A) by Finance Act,
1993 — Whether retrospective in case of reduction of loss ? — Matter remanded to
the High Court.


[CIT v. Ashok Paper Mills,
(2009) 315 ITR 426 (SC)]

In an appeal against the
decision of the learned Single Judge passed in the writ petitions, the Division
Bench of the Gauhati High Court (250 ITR 673) found that there was no challenge
to the decision of the learned Single Judge about the constitutional validity of
the provisions of Ss.(1A) of S. 143 of the Act and therefore it was only
required to deal with the second limb of the order related to the
retrospectivity of the provisions of the aforesaid sub-section substituted by
the Finance Act, 1993.

The Division Bench of the High
Court, referring to the decisions of the Supreme Court in CIT v. Hindustan
Electro Graphites Ltd., (2000) 243 ITR 48 and in ACIT v. J. K. Synthetics
Ltd., (2001) 251 ITR 200, held that the Act or omission for which no
income-tax was payable as per law in force at a given time, could not be
subjected to additional tax with retrospective
effect and thus dismissed the appeal.

In an SLP filed in a connected
tax reference which was decided following the above decision of the Gauhati High
Court, the Supreme Court remanded the matter to the High Court for considering
it afresh in the light of its judgment in
ACIT v. J. K. Synthetics Ltd. (supra).


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Penalty — Concealment of income — Penalty could be imposed u/s.271(1)(c) of the Act even if the returned income as well as the assessed income is a loss.

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2 Penalty —
Concealment of income — Penalty could be imposed u/s.271(1)(c) of the Act even
if the returned income as well as the assessed income is a loss.


[CIT v. Moser Baer India Ltd.,
(2009) 315 ITR 460 (SC)]

The assessee had filed a return
of income declaring a loss of Rs.2,72,12,620. In the course of the assessment
proceedings it was found that although the assessee had excluded the income of
floppy units II and III from its total income by claiming exemption u/s.10A and
u/s.10B of the Act, the depreciation in respect of these units had been deducted
from its income. The assessee had explained that the claim for depreciation was
a clerical mistake. The assessee filed a further application withdrawing its
claim of deduction u/s.10B of the Act in respect of floppy unit II for the
assessment year in question, since that unit had incurred a loss.

The Assessing Officer computed
the total income at Rs. Nil after adjusting the brought forward
losses/depreciation of Rs.47,01,433.11. The Assessing Officer disallowed the
depreciation in respect of floppy unit II and III of Rs.4,81,83,139. The
Assessing Officer also initiated penalty proceedings u/s.271(1)(c) of the Act.
An order imposing penalty of Rs.4,43,28,488 u/s.271(1)(c) of the Act came to be
passed.

The Commissioner of Income-tax
(Appeals) allowed the appeal holding that since the tax payable on the total
income as assessed was nil, there was no positive income, and therefore, the
penalty could be levied.

On an appeal to the Tribunal by
the Revenue, the assessee filed a cross-objection to support the order of the
Commissioner of Income-tax (Appeals) additionally on the ground that the
Assessing Officer had not recorded his satisfaction in the assessment order that
the penalty proceedings ought to be initiated against the assessee.

The Tribunal inter alia,
relied on the decision of the Delhi High Court in CIT v. Ram Commercial
Enterprises Ltd., (2000) 246 ITR 568 and concluded that the Assessing Offer
had not recorded a specific satisfaction before initiating the penalty
proceedings against the assessee and accordingly, the entire penalty proceedings
were set aside.

The High Court dismissed the
appeal of the Revenue following the decision of the Supreme Court in Virtual
Soft Systems Ltd. (2007) 289 ITR 83 (SC) in which it was held that no penalty
could be levied u/s.271(1)(c) of the Act, prior to amendment made to S. 271 by
the Finance Act, 2002, where there is no positive assessed income on which any
tax is payable.

The Supreme Court reversed the
judgment of the High Court in view of the decision of its Larger Bench in CIT
v. Gold Coin Health Food Pvt. Ltd., (2008) 304 ITR 308 and remitted the
matter to the Tribunal for considering the question regarding concealment.

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Disallowance : u/s.43B : Contribution to P.F. and ESI within two to four days after grace period, before filing of return — Amount deductible.

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1 Business expenditure : Disallowance u/s. 43B of Income-tax
Act, 1961 : A.Y. 2001-02 : Contributions to Provident Fund and Employees’ State
Insurance within two to four days after grace period but before filing return :
Amount deductible.


[CIT v. Dharmendra Sharma, 297 ITR 320 (Del.)]

Dealing with the scope of S. 43B of the Income-tax Act, 1961
for the A.Y. 2001-02, the Delhi High Court held as under :

“Contributions made towards Provident Fund and Employees’
State Insurance within 2 to 4 days after the grace period, but before filing
the return are entitled to the benefit provided u/s. 43B.”


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Vote We Must !

Editorial

We are now well into the national election season with the run-up to the Lok Sabha polls, with the newspapers full of reports of alliances and break-ups between various political parties and groupings. Reading about these developments and actions of politicians with absolute disregard for ethics and principles, one wonders as to whose interests our politicians really have at heart — that of the voters whom they are supposed to represent, or their own. It is but natural that one feels revolted by the type of money-based or caste-based politics practised in India, and seeks to maintain a distance from politics. This disgust for politics ultimately gets reflected in our abstention from voting in the elections. Is this however the right approach for educated professionals to take ?

In India, one faces so many problems in day-to-day life — corruption, official apathy, violence, etc. — that one takes the easy way out, by trying to ensure that one does not have to face the issue directly. We tend to believe that so long as the issue does not directly impact us, we should ignore it, not get involved, but just carry on with our day-to-day lives. This tendency of most of us to isolate ourselves from the problems faced by our society and our refusal to tackle them head-on, has resulted in further aggravation of the problems. Most people now realise, after the recent terrorist attacks, that pretending that a problem does not exist does not make the problem go away or diminish — it only increases, till it ultimately threatens to engulf all of us.

If we wish to maintain or improve our lifestyles and those of future generations, if we cherish our freedom, we cannot function in isolation from the society that we live in. We have to contribute to ensuring that the principles that we cherish are protected. We cannot just be passive bystanders. As educated professionals, we owe it to ourselves and to our society to act as a catalyst for change. One of the essential action points for this is ensuring that we vote in elections.

Given the disgust of most educated people with politics, there have been many suggestions made to improve the quality of politics and the system of elections. One such suggestion has been the grant of a right to voters to cast a negative vote — i.e., a vote for none of the candidates. This, it is felt, would indicate to candidates that the voters are not satisfied with any of the candidates standing for election. While this would be a means of sending out a message to politicians, it would not be sufficient by itself.

 

Today, in any case, it is amply clear to politicians that the educated electorate is frustrated with the type of politics one witnesses of late in this country. Yet, one does not see any inclination from our existing bunch of politicians to mend their ways, because they feel there is no alternative to them. What is really needed is an alternative that voters can look forward to, an alternative based on principles and ethics, and an attitude of service to the country and to its people. Fortunately, this election seems to bring a ray of hope, as one sees professionals willing to take the plunge into the cesspool of politics.

Under such circumstances, it is essential that we exercise our rights as voters to show our support to candidates who are eager and willing to usher in change, who are not willing to sacrifice their principles for money, and who can help in stemming the rot that has set in into our political system. At the municipal level, in Mumbai in the recent past, we have seen some deserving candidates being elected with the aid of citizen’s groups interested in improving the governance of their areas. We need to take this forward, so that the entire country is run by politicians interested in improving the lot of the people, and who are accountable to the people.

It is also perhaps time that the manner in which ministers are appointed should undergo a change, so that meritorious persons can be appointed regardless of their political affiliations. This would however require major changes to our political system, which would be possible only when we have a majority of our politicians interested in a change for the better.

Normally, one witnesses mass voting by uneducated voters, organised by politicians. One hopes that this time one will witness mass voting by educated professionals and the business class, who wish to ensure a better future for their country and for themselves. Each one of us needs to take the small step of voting in this election towards this end. Only then do we have the right to demand a better future for ourselves and future generations.

Gautam Nayak

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Tax Deduction at Source in THE Absence of PAN

Editorial

The 1st of April 2010 is not just All Fools Day. It is the
day on which section 206AA of the Income Tax Act comes into effect. This section
basically provides that in cases where tax is deductible at source and the payee
does not furnish his Permanent Account Number (PAN) to the payer, or where the
PAN furnished is invalid, or does not belong to the payee, tax would be
deductible at the actual rate of tax deductible at source (TDS) or 20%,
whichever is higher. This provision will have far-reaching consequences for all
businesses and taxpayers.

Firstly, this provision does not apply only to resident
payees, but also to non-residents and foreign companies which may not have a
presence in India. There are many foreign companies who are paid royalty or fees
for technical services by Indian companies, foreign companies otherwise not
having anything else to do with India. Even in such cases, the tax laws seem to
require such foreign companies to obtain a PAN, or else suffer a higher rate of
TDS. On a practical level, most foreign companies not having a presence in India
are reluctant to obtain a PAN in India, for fear of having to file tax returns
in India, or having further obligations on account of obtaining PAN, etc. Even
if they are willing to obtain a PAN, the procedural requirement of getting their
documents certified by the Indian consulate or embassy in their home country,
acts as a definite dampener and obstacle to their applying for a PAN.

Further, in many cases, the burden of the additional tax
would not fall upon the foreign companies but on the Indian payer companies,
since the foreign companies insist upon receiving their payments tax-free. One
understands that the purpose of ensuring that every payee has a PAN is to
facilitate tax credit under the electronic mode in the Tax Information Network.
In cases where the tax is borne by the Indian payee, is this purpose really
served or does it just add to the cost of the Indian companies?

So far as resident payees are concerned, the income tax
department seems to believe that everybody should have a PAN. In a way, the tax
department is seeking to counter its inefficiency in finding tax evaders through
this measure. Today, PAN is already rquired for most transactions, such as
opening of a bank account, opening of a demat account, subscription to mutual
funds above a limit, share applications above a limit, etc. However, there are
often cases where a person does not have a PAN, and he can give a declaration
instead. It is therefore possible that certain recipients may still not have a
PAN. In such cases, having a higher rate of TDS seems to be justified, to ensure
that such recipients of income are part of the tax net, and if they choose to
remain outside the tax net, they are penalised for it.

The problem however is in cases where the PAN is misstated,
and therefore appears to be of another person or to be invalid. Wherever human
efforts are involved, there are bound to be mistakes. Further, we have to accept
that a large part of our population is not yet fully literate or conversant with
English, and therefore unable to correctly provide the PAN. The presumption of
the tax authorities seems to be that every recipient of income is well trained,
knowledgeable and efficient. While this may be true in a large part for larger
businessmen in bigger cities, the same does not hold good for all depositors or
small businessmen in smaller towns or villages. Common errors can and should be
expected.

In such cases, the payee may be disproportionately penalised
for common clerical errors. While a taxpayer having taxable income can adjust
such excess deduction against his normal tax liability,
persons with income below the taxable limit may have to wait for their refunds,
and lose out in the process. The provision could therefore have the negative
effect of driving certain transactions into the black economy, to avoid these
problems.

The requirement of stating the PAN on all correspondence
between the payee and the payer also seems to be an overdose. Would it mean that
all businesses or depositors should now put their PAN on their letterheads?

Also, while the burden on the taxpayers and public is being
increased, the tax department has to realise that it does have a corresponding
obligation to improve the quality of its services. The process of giving tax
credit has to be improved and made error free, so that no person is deprived of
the legitimate tax payments made on his behalf. TDS payments lying in suspense
in the Tax Information Network have to be sorted out by follow up with the tax
deductor, and proper credit has to be given to the correct deductee. The process
of refunds has to be improved, and speeded up.

It may also be advisable for the tax department to restrict
the applicability of this provision only to resident payees, given the
underlying intention behind the provision. The documentation procedures for
obtaining PAN by foreign companies should also be simplified, so that obtaining
PAN is not regarded as a nuisance. A proper online facility needs to be provided
to all tax deductions free of charge to verify the correctness of the PAN. It is
only then that the provisions would work without causing undue hardship to many.

Gautam Nayak

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Sons of the Soil — Bad Economics ?

Editorial

With this issue, the Journal enters the 40th year of its
publication. While we continue to update you on the latest developments relevant
to the profession, during the course of this year, we also intend to bring you
articles which would provide an insight into what the profession can expect in
the future.


The last couple of months have seen certain political parties
canvassing the ‘sons of the soil’ theory in Maharashtra, and violence being
committed against immigrants from certain other parts of the country. Similar
stands have been taken at times by politicians in different States as well. An
emotional appeal is sought to be made against immigration, on the ground that it
results in jobs being snatched away from locals by the immigrants. Violence is
certainly morally and legally indefensible, and needs to be condemned. Given the
fact that the immigrants are also Indians, and are entitled under the
Constitution to equal opportunities, such a stand is legally indefensible. The
short-term losses caused to industry and trade are clearly visible. The larger
question is — does immigration really adversely financially affect the local
people in the long run ?

It is now universally acknowledged that a country or region
which welcomes immigrants prospers. An expanding workforce facilitates faster
growth, since most immigrants are young and therefore productive.

The classic case of immigration facilitating prosperity is
that of the USA, which has had a high rate of immigration. A large part of the
US economic success is due to the inflow of migrants into that country over the
last couple of centuries. London has become the world’s financial capital,
helped greatly by its policy of welcoming migrants. Countries that take in
immigrants, such as Sweden, Ireland, the USA and the UK, have done better
economically than countries which do not.

The very economic growth of Mumbai itself can largely be
attributed to the influx of immigrants. What would the economy of Mumbai have
been today if it were not for the Parsis, the Marwaris and the Gujaratis, who
came from other places and set up their businesses in Mumbai ?

A United Nations Secretary General report of May 2006 on
International Migration and Development has important findings on the subject,
which equally apply to intra-country migration between different regions.
Growing income differentials have spurred migration. Advanced economies need
migrant workers to fill jobs that cannot be outsourced and that do not find
local workers willing to take up at going wages. As younger generations become
better educated, they are less willing to take up lower paid and physically
demanding jobs. Migration may reduce wages or lead to higher unemployment among
low-skilled workers; however, most migrants complement the skills of domestic
workers instead of competing with them. By performing tasks that either would go
undone or cost more, migrants allow natives to perform other, more productive
and better-paid jobs. They also maintain viable economic activities that would
otherwise be outsourced. By enlarging the labour force and the pool of consumers
and by contributing their entrepreneurial capacities, migrants boost economic
growth in receiving countries.

The report notes that for the full benefits of migration to
be realised, the rights of migrants must be respected. States have the
obligation and must take effective action to protect migrants against all forms
of human rights violations and abuse, and also combat all forms of
discrimination, xenophobia, ethnocentrism and racism. In turn, migrants, just as
citizens, have the obligation to abide by the laws and regulations of receiving
States. Migration policy needs to be complemented by strategies to manage
diversity and promote cross-cultural learning. Migrants have been and continue
to be indispensable to the prosperity of many countries. The leaders of those
countries have a responsibility for shaping public opinion accordingly,
especially through communication strategies that articulate and explain how
existing migration policies are consistent with society’s ability to accommodate
and integrate migrants.

Besides this, what the Government needs to ensure is that
migration is properly managed by ensuring that our public spaces are not
encroached upon by migrants (whether hailing from Maharashtra or outside) for
their stay.

Reservation of jobs for locals is also not the solution.
Reservation in any form is harmful, as it ultimately leads to favouritism,
corruption, suppression of merit and lower productivity. For obvious reasons,
our politicians seek to push through various types of reservations. For
sustainable growth, we must encourage merit, irrespective of the caste or place
of origin of the person.

The only form of help that a meritorious person from a
backward or disadvantaged background needs to come up in life is equal
opportunity and, if required, economic assistance to study — his merit and his
will to succeed will thereafter ensure that he comes up in life, and that the
country as a whole benefits. One hopes that the day is not too far off when
India will move in that direction, notwithstanding the best efforts of some of
her politicians to the contrary !


Gautam Nayak

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Litigation — Public Sector undertakings — Clearance of Committee on Disputes — Time for reference within a period of one month is not rigid — Delay in approaching the Committee does not make it illegal but the delay should not be due to lethargy.

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1 Litigation — Public Sector undertakings —
Clearance of Committee on Disputes — Time for reference within a period of one
month is not rigid — Delay in approaching the Committee does not make it
illegal but the delay should not be due to lethargy.

[CIT v. Oriental Insurance Co. Ltd.,
(2008) 304 ITR 55 (SC)]

The assessee, an insurance company was covered by
the Insurance Act, 1938. According to the appellant, every insurance company
has to be assessed u/s.44 of the Income-tax Act, 1961 as per Rule 5 of the
First Schedule. An assessment was made and the same was upheld by the
Commissioner of Income-tax (Appeals). The Income-tax Appellate Tribunal
deleted the addition made. The Tribunal accepted the stand of the
respondent-insurance company. The question arose as to whether the Department
would prefer appeals and/or file petitions without obtaining necessary
clearance from the Committee of Disputes (in short ‘the COD’) constituted in
terms of order of the Supreme Court. According to the High Court, it was
necessary to refer the matter to the said Committee. The High Court held that
the same was to be done within a period of one month in terms of the order of
the Supreme Court in Oil and Natural Gas Commission v. Collector of Central
Excise, (2004) 6 SCC 437. The High Court dismissed the appeal. The High
Court held that since this Court had set the time frame, there was no scope
for any deviation therefrom.

On an appeal to the Supreme Court, it was
clarified that there was actually no rigid time frame indicated by it. The
emphasis on one month’s time was to show the urgency needed. Merely because
there is some delay in approaching the Committee that does not make the action
illegal. The Committee is required to deal with the matter expeditiously, so
that there is no unnecessary backlog of appeals which ultimately may not be
pursued. In that sense, it is imperative that the concerned authorities take
urgent action, otherwise the intended objective would be frustrated. There is
no scope for lethargy. It is to be tested by the Court as to whether there was
any indifference and lethargy and in appropriate cases refuse to interfere. In
the instant case the Supreme Court found that factual position was not that.
The Supreme Court therefore, set aside the order of the High Court and
directed consideration of the question of desirability to proceed in the
matter before it on receipt of the report from the concerned Committee.

 

Learned counsel for the Department submitted to
the Supreme Court that even if the Committee has declined to grant permission,
it was still open to raise the issues in appropriate proceedings. The Supreme
Court expressed no opinion in that regard, but observed that where the
Committee has declined to deal with the matter on the ground of belated
approach, the same cannot be sustained. The Committee has to consider the
matter on merits.

The Supreme Court further observed that where
permission has been granted by the Committee, there is no impediment on the
Court to examine the matter and take a decision on merits. But where there is
no belated approach, the matter has to be decided. The Court has to decide
whether because of unexplained delay and lethargic action it would decline to
entertain the matters. That would depend on the factual scenario in each case,
and no straitjacket formula can be adopted.

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TDS : S. 194LA of Income-tax Act, 1961 : Compensation for acquisition of agricultural land : Collector had no jurisdiction to deduct tax at source : Deduction illegal.

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7. TDS : S.
194LA of Income-tax Act, 1961 : Compensation for acquisition of agricultural
land : Collector had no jurisdiction to deduct tax at source : Deduction
illegal.



[Risal Singh v. UOI, 321 ITR 251
(P&H)]

The petitioners received
compensation for acquisition of their agricultural land. While disbursing the
compensation, the Collector made deduction of tax at source and remitted the
amount to the Revenue. The Collector rejected the petitioners’ objection stating
that the deduction has been made on the instructions of the Haryana Urben
Development Authority.

On a writ petition filed by the
petitioners, the Revenue contended that alternative remedy is available to the
petitioners to seek refund after getting assessment done. The Punjab and Haryana
High Court allowed the petition and held as under :


“(i) In the absence of
jurisdiction to deduct tax from compensation for agricultural land, the
stand of the Income-tax Department that since there was a remedy of getting
the assessment done and to receive refund could not be accepted.

(ii) The Collector could not
have made deduction without determining the jurisdictional fact that
compensation was for property other than agricultural land. Thus deduction
of tax at source without determining the plea of the petitioner that the
land was agricultural land was not justified. The amount was said to have
been remitted to the Income-tax Department which was illegal.


(iii) We allow this petition and
direct the Income-tax Department to refund the amount to the Collector within
one month from the date of receipt of a copy of this order. Thereafter, the
Collector will determine whether compensation paid is for property other than
agricultural land or otherwise and whether deduction of tax at source was
permissible under any provisions of law. Whether deduction is permissible or not
will be decided by the Collector within two months from the date of receipt of a
copy of this order. If deduction is found not permissible, the amount will be
refunded to the petitioners not later than three months from receipt of a copy
of this order.”

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Deemed profit : S. 41(1) of Income-tax Act, 1961 : A.Y. 1996-97 : Outstanding liability : Continued as liability in the books : Liability not written back : Liability cannot be said to have ceased to exist : It cannot be treated as income u/s.41(1).

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5. Deemed profit
: S. 41(1) of Income-tax Act, 1961 : A.Y. 1996-97 : Outstanding liability :
Continued as liability in the books : Liability not written back : Liability
cannot be said to have ceased to exist : It cannot be treated as income
u/s.41(1).


[CIT v. GP International Ltd.,
229 CTR 86 (P&H)]

For the A.Y. 1996-97, the
Assessing Officer made an addition of Rs.3,30,000 in respect of the outstanding
amount payable to one M/s. ACP relying on the provisions of S. 41(1) of the
Income-tax Act, 1961. The Tribunal found that the assessee has continued to show
the liability as the outstanding liability and has not written back the same.
The tribunal therefore deleted the addition.

On appeal by the Revenue, the
Punjab and Haryana High Court upheld the decision of the Tribunal and held as
under :

“The assessee having shown the
amount payable by it to another company as an existing liability in its books
and not written back the same, it cannot be said that the aforesaid liability
has ceased to exist and, therefore it cannot be treated as income by invoking
the provisions of S. 41(1).”

 

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Manufacture : Exemption u/s.10A, u/s. 10AA of Income-tax Act, 1961 : A.Y. 2004-05 : Definition in Exim Policy applicable : Has wide and liberal meaning : Blending and packing of tea qualifies for exemption.

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6. Manufacture :
Exemption u/s.10A, u/s. 10AA of Income-tax Act, 1961 : A.Y. 2004-05 : Definition
in Exim Policy applicable : Has wide and liberal meaning : Blending and packing
of tea qualifies for exemption.


[Girnar Industries v. CIT, 187
Taxman 136 (Ker.)]

The assessee was an industrial
unit located in the special economic zone, engaged in blending and repacking of
tea for export. For the relevant assessment year i.e., A.Y. 2004-05, it claimed
deduction of export profit in respect of the blended tea exported from the
industrial unit u/s.10A. The assessing authority denied the deduction on the
ground that ‘blending’ did not answer the description of manufacture or
processing before the definition clause of ‘manufacture’ contained in S. 2(r) of
the Special Economic Zones Act, 2005 was incorporated in the provisions of S.
10AA with effect from 10-2-2006. The Tribunal upheld the decision of the
Assessing Officer.

On appeal by the assessee the
Delhi High Court reversed the decision of the Tribunal and held as under :


“(i) Prior to the passing of
the Special Economic Zones Act, 2005, the assessee’s industry was located in
the zone previously known as ‘Cochin Export Processing Zone’ which is a Free
Trade Zone covered by S. 10A. It is clear from the provisions of S. 10A that
deduction is of the profits and gains derived by the industrial undertaking
from the export of articles, etc., manufactured or produced by it.

(ii) In substance, the
provisions of S. 10A and provisions S. 10AA, which were introduced later on,
serve the very same purpose of granting exemption on the profit earned by
the industrial units in the FTZ/SEZ. These provisions introduced in the
Income-tax Act are essentially for implementation of the EXIM Policy
periodically announced by the Government providing incentives to the
export-oriented units located in the FTZ/SEZ mainly to augment the foreign
exchange earnings. In fact, though S. 10A does not contain a definition for
‘manufacture’, definition of the said term contained in S. 2(r) of the SEZ
Act has been incorporated in S. 10AA with effect from 10-2-2006. Admittedly,
the said definition covers blending also. Therefore, blending and packing of
tea done by the assessee qualified for exemption u/s.10AA from 10-2-2006
onwards.

(iii) The question to be
considered was whether the benefit was available to the assessee for the A.Y.
2004-05 for the reason that the then existing provision of S. 10A did not
contain a definition clause. Admittedly, S. 10A also provides for exemption
in respect of goods manufactured or produced and sold by units in the FTZ.
Undoubtedly, the exemption to industries in the FTZ is granted based on the
EXIM Policy framed by the Government periodically. The definition of
‘manufacture’ as per the EXIM Policy is given a very wide definition to take
in even processing involving conversion of something to another thing with a
distinct name, character and use. Even refrigeration of an item, which
involves only freezing, repacking, labelling, etc., is also covered by the
definition of ‘manufacture’. Blending of tea is mixing of different
varieties of tea produced in estates located in different regions having
different altitudes, climatic conditions, etc. It is common knowledge that
new flavours of tea are generated by blending its different varieties.

(iv) Since the purpose of
exemption u/s.10A is to give effect to the EXIM Policy of the Government,
the definition of ‘manufacture’ contained in the EXIM Policy is applicable.
For the purpose of the said provision, ‘manufacture’ as defined under the
EXIM Policy has a wide and liberal meaning covering tea blending as well
and, therefore, blending and packing of tea qualifies for exemption u/s.10A.

(v) Besides that, the
assessee-industry, presently in the SEZ engaged in the same process of
blending and packing of tea, was specifically brought under the exemption
clause through incorporation of S. 2(r) of the SEZ Act in the provisions of
S. 10AA. Therefore, the later amendment is only clarificatory and the
definition of ‘manufacture’ contained in S. 2(r) of the SEZ Act incorporated
in S. 10AA with effect from 10-2-2006, which is essentially the same as the
definition contained in the EXIM Policy, applies to S. 10A also. Therefore,
blending of tea was a manufacturing activity which entitled the assessee to
exemption u/s.10A for the A.Y. 2004-05.”


 

levitra

Deemed profit : S. 41(1) of Income-tax Act, 1961 : Remission or cessation of trading liability : A.Y. 2004-05 : Trading liability shown as outstanding in books and not written back : No remission or cessation of liability merely on account of passage of t

New Page 1

4. Deemed profit
: S. 41(1) of Income-tax Act, 1961 : Remission or cessation of trading liability
: A.Y. 2004-05 : Trading liability shown as outstanding in books and not written
back : No remission or cessation of liability merely on account of passage of
time : S. 41(1) not attracted : Addition not just.


[CIT v. Smt. Sita Devi Juneja,
187 Taxman 96 (P & H)]

For the A.Y. 2004-05, the
Assessing Officer made an addition of Rs.1.47 crores on account of outstanding
sundry credit balances as on 31-3-2004, relying on the provisions of S. 41(1) of
the Income-tax Act, 1961. CIT(A) held that there was no cessation or remission
of liability and deleted the addition. The Revenue’s appeal was dismissed by the
Tribunal.

On appeal by the Revenue, the
Punjab and Haryana High Court upheld the decision of the Tribunal and held as
under :


“(i) It was the conceded
position that in the
assessee’s balance sheet, the liability of Rs.1.47 crores had been shown,
which was payable to the sundry creditors. Such liability shown in the
balance sheet indicated the acknowledgement of the debt payable by the
assessee. Merely because such liability was outstanding for the last six
years, it could not be presumed that the said liability had ceased to exist.

(ii) It was also conceded
position that there was no bilateral act of the assessee and the creditors,
which indicated that the said liability had ceased to exist. In absence of
any bilateral act, the said liability could not have been treated to have
ceased. In view of these facts, the Commissioner (Appeals) as well as the
Tribunal had rightly come to the conclusion that the Assessing Officer had
wrongly invoked the Explanation I to S. 41(1) and made the aforesaid
addition on the basis of presumptions, conjectures and surmises.

(iii) It had been further
found that the Assessing Officer had failed to show that in any earlier year
allowance of deduction had been in respect of any trading liability incurred
by the assessee.

(iv) It was also not proved
that any benefit was obtained by the assessee concerning such a trading
liability by way of remission or cessation thereof during the concerned
year. Thus, there did not accrue any benefit to the
assessee, which could be deemed to be the profit or gain of the assessee’s
business, which would otherwise not be the assessee’s income. It had been
further found as a fact that the assessee had filed the copies of accounts
of sundry creditors signed by the concerned creditors. In view of this fact,
it was to be opined that the ITAT had rightly come to the conclusion that
confirmations from the creditors were produced.”

 



levitra

Appellate Tribunal : Ruling of Authority for Advance Rulings : Not binding on Tribunal : Tribunal can decide in consonance with ruling.

New Page 1

 2 Appellate
Tribunal : Ruling of Authority for Advance Rulings : Not binding on Tribunal :
Tribunal can decide in consonance with ruling.



[CIT v. P. Sekar Trust, 321 ITR
305 (Mad.)]

In this case the Tribunal had
decided an issue before it accepting the ruling of the Authority of Advance
Ruling in Advance Ruling P. No. 10 of 1996, In re (1997) 224 ITR 473 (AAR).

In the appeal filed by the
Revenue, the question raised was as to whether the Tribunal was justified in
following the decision in the Advance Ruling
Authority which does not have binding effect on the assessee’s case.

The Madras High Court held as
under :


“(i) The ruling of the
Authority for Advance Ruling is not binding on others, but there is no bar
on the Tribunal taking a view or forming an opinion in consonance with the
reasoning of the Authority for Advance Ruling de hors the binding nature.

(ii) Since the Tribunal had
not rested its decision on the ruling of the Authority for Advance Rulings,
but had taken in aid and relied on the decision of the Court, the question
of law did not arise for consideration from the order of the Tribunal.”

 



levitra

Deemed dividend : S. 2(22)(e) of Income-tax Act, 1961 : Assessee company received funds from sister concern PE Ltd. for expansion of production capacity as advance for commercial purpose to be adjusted against monies payable by PE Ltd. in subsequent years

New Page 1

3. Deemed
dividend : S. 2(22)(e) of Income-tax Act, 1961 : Assessee company received funds
from sister concern PE Ltd. for expansion of production capacity as advance for
commercial purpose to be adjusted against monies payable by PE Ltd. in
subsequent years : Provisions of S. 2(22)(e) not attracted.


[CIT v. Creative Dyeing &
Painting (P) Ltd., 229 CTR 250 (Del.)]

The assessee company was engaged
in dyeing and printing of cloth and was acting as an ancillary unit of PE Ltd.,
a sister concern, for the last several years. In order to increase its export
business and to compete with the international standards and garment exports
M/s. PE Ltd. suggested modernisation and expansion of the plant and machinery of
the assessee company. Towards this project M/s. PE Ltd. paid to the assessee
company an amount equal to 50% of the project cost as advance to be adjusted
against the entitlement of the moneys of the assessee company payable by PE Ltd.
in the subsequent years. The Assessing Officer treated the said advance amount
as deemed dividend u/s.2(22)(e) of the Income-tax Act, 1961 and made addition
accordingly. The Tribunal deleted the addition, holding that the payment of an
advance for a commercial purpose to the assessee company by its sister concern
is not deemed dividend u/s.2(22)(e) of the Act.

On an appeal filed by the
Revenue, the Delhi High Court upheld the decision of the Tribunal and held as
under :


“(i) The contention that
since PE Ltd. is not into the business of lending of money, the payments
made by it to the assessee company would be covered by S. 2(22)(e)(ii) and
consequently payments even for business transactions would be a deemed
dividend is not acceptable.

(ii) The provision of S.
2(22)(e)(ii) is basically in the nature of an Explanation. That cannot
however, have bearing on interpretation of the main provision of S. 2(22)(e)
and once it is held that the business transactions do not fall within S.
2(22)(e), one need not go further to S. 2(22)(e)(ii).

(iii) The provision of S.
2(22)(e)(ii) gives an example only of one of the situations where the
loan/advance will not be treated as a deemed dividend, but that’s all. The
same cannot be expanded further to take away the basic meaning, intent and
purport of the main part of S. 2(22)(e). This interpretation is in
accordance with the legislative intention of introducing S. 2(22)(e).

(iv) Therefore, the Tribunal
was correct in holding that the amounts advanced for business transaction
between the parties, namely, the assessee company and PE Ltd. was not such
to fall within the definition of deemed dividend u/s.2(22)(e).”


 

levitra

Agricultural land : Capital Gain : Capital asset : S. 2(14)(iii) of Income-tax Act, 1961 : A.Y. 2001-02 : Measurement of distance from municipality : To be measured in terms of the approach by road and not by a straight-line distance on horizontal plane o

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 1 Agricultural
land : Capital Gain : Capital asset : S. 2(14)(iii) of Income-tax Act, 1961 :
A.Y. 2001-02 : Measurement of distance from municipality : To be measured in
terms of the approach by road and not by a straight-line distance on horizontal
plane or as per crow’s flight.


[CIT v. Satinder Pal Singh, 229
CTR 82 (P&H)]

For the purposes of determining
as to whether an agricultural land constitutes a capital asset, the Tribunal
held that the distance from the municipal limits has to be measured as per the
road distance and not as per the straight-line distance on a horizontal plane or
as per crow’s flight.

On appeal by the Revenue, the
Punjab and Haryana High Court upheld the decision of the Tribunal.

 

levitra

Unaccounted income : A.Y. 2001-02 : Value of closing stock given to bank higher than value as per books : Difference added as unaccounted income : Difference in value of closing stock should be reduced by similar difference in opening stock.

New Page 1

 12 Unaccounted income : A.Y. 2001-02 : Value of closing stock given to bank
higher than value as per books : Difference added as unaccounted income :
Difference in value of closing stock should be reduced by similar difference
in opening stock.


[CIT v. Capital Tyres Manufacturing Unit, 176 Taxman
178 (Delhi)]

For the A.Y. 2001-02 the AO found that the assessee had
hypothecated its stock with the bank for availing overdraft facility and that
the value of the stock declared to the bank was much higher than the value of
stock declared in its books of account. The AO rejected the assessee’s
explanation in respect of the difference and made an addition of the
difference as unaccounted income. The CIT(A) held that the addition made on
account of the difference of valuation of the closing stock has to be reduced
by the similar difference in the opening stock. The Tribunal confirmed the
decision of the CIT(A).

On appeal by the Revenue, the Delhi High Court
upheld the decision of
the Tribunal and held : “Both the authorities had taken into account the
opening and closing stock of last year and had rightly excluded the inflated
stock pertaining to the immediately preceding year. Thus, the approach of the
Tribunal could not be said to be perverse or erroneous.”


levitra

Interest : Head of income : S. 28 and S. 56 of Income-tax Act, 1961 : A.Y. 1992-93 : Construction business : Development of properties : Interest on deposit of surplus money received from customers : Interest income is assessable as business income and no

New Page 1

 10 Interest : Head of income : S. 28 and S. 56 of
Income-tax Act, 1961 : A.Y. 1992-93 : Construction business : Development of
properties : Interest on deposit of surplus money received from customers :
Interest income is assessable as business income and not as income from other
sources.

[CIT v. Lok Holdings, 308 ITR 356 (Bom.)]

The assesee firm was in the construction business. It
received monies from the purchasers of flat as advance. Interest received from
the deposit of the surplus amount was treated by the assessee as business
income. For the A.Y. the Assessing Officer assessed the interest income as
‘income from other sources’. On a finding that the entire interest sprang from
the business activity of the assessee and not out of any independent activity,
the Tribunal allowed the assessee’s claim and held that the interest income
was business income.

On appeal by the Revenue, the Bombay High Court upheld the
decision of the Tribunal and held :

“The Tribunal was justified in holding that the interest
income received by the assessee was assess able as business income.”

 


levitra

Interest : Waiver or reduction : S. 220(2A) of Income-tax Act, 1961 : A.Ys. 1993-94 to 1995-96 : Conditions need not co-exist : Those are alternatives : No reasoning given : Order refusing waiver set aside for fresh disposal.

New Page 1

 11 
Interest : Waiver or reduction : S. 220(2A) of

Income-tax Act, 1961 : A.Ys. 1993-94 to 1995-96 : Conditions need not co-exist
: Those are alternatives : No reasoning given : Order refusing waiver set
aside for fresh disposal.

[M. V. Amar Shetty v. Chief CIT, 309 ITR 93 (Kar.)]

For the A.Ys. 1993-94 to 1995-96 the assessee had made an
application u/s.220(2A) of the Income-tax Act, 1961 for waiver of interest
levied u/s.220(2) of the Act. The Chief Commissioner rejected the assessee’s
request on the ground that the assessee had not fulfilled condition (iii) of
S. 220(2A). Assessee’s writ petition challenging the rejection was dismissed
by the single judge of the Karnataka High Court.

The Division Bench of the Karnataka High Court allowed the
assessee’s appeal, set aside the rejection order of the Chief Commissioner and
held as under :

“(i) S. 220(2A) of the Income-tax Act, 1961, prescribes two
grounds by reason of which a reduction or waiver of the amount of interest
paid or payable by an assessee can be sought, viz., (i) payment of such
amount has caused or would cause genuine hardship to the assessee; and (ii)
default in the payment of the amount on which interest has been paid or was
payable U/ss.(2) was due to circumstances beyond the control of the assessee.
Since the word ‘and’ is absent after clause (i) of Ss.(2A) of S. 220 and the
word ‘and’ is inserted after clause (ii) of Ss.(2A) of S. 220, the two
circumstances are mutually exclusive and it is only when a situation where
clause (ii) occurs that the condition under clause (iii) is not applicable to
a case falling under clause (i) of Ss.(2A) of S. 220. All the three conditions
laid down in subsection (2A) of S. 220 need not co-exist before interest can
be waived under the said provision.

(ii) In the order refusing relief U/ss.(2A) of S. 220,
however, while there was a passing reference to ill health of the assessee
there was no application of mind on clause (i) and clause (ii) of Ss.(2A) of
S. 220. The order merely stated that the assessee had not satisfied any of the
conditions and in particular had not co-operated with the Department in filing
of the returns, nor in the assessment proceedings/payment of tax demand,
therefore the assessee’s petition was rejected. There was no reasoning with
regard to the genuine hardship of the assessee or on the fact that the default
in the payment of the amount was due to circumstances beyond the control of
the assessee.”

The order of the Single Judge was set aside and the
authorities were directed to consider the request made by the assessee for
waiver of interest.

 


levitra

Interest : S. 234B of Income-tax Act, 1961 : A.Ys. 1996-97 and 1997-98 : Assessee non resident compay was employed by another non-resident company : Failure by employer to deduct tax at source : Employee not liable to pay interest u/s.234B.

New Page 1

9
Interest : S. 234B of Income-tax Act, 1961 : A.Ys. 1996-97 and 1997-98 :
Assessee non
resident compay was employed
by another non-resident company : Failure by employer to deduct tax at source
: Employee not liable to pay interest u/s.234B.


[CIT v. Tide Water Marine International Inc., 309
ITR 85 (Uttarakhand)]

The assessee, a non-resident foreign company, was engaged
in the business of mineral oils by another non-resident foreign company. For
the A.Ys. 199697 and 1997-98 the employer company did not deduct tax at source
u/s.195 of the Income-tax Act, 1961 on payments to the assessee. While
assessing the assessee’s income u/s.143 of the Act the Assessing Officer
charged interest u/s.234B of the Act. The Tribunal held that the interest was
not payable by the assessee.

On appeal by the Revenue, the Uttarakhand High Court upheld
the decision of the Tribunal and held as under :

“There was no illegality in the Tribunal’s order since the
assessee could not be made liable to pay the interest u/s.234B of the Act as
it was the duty of the non-resident foreign company which had engaged the
assessee to deduct the tax at source.”

 

levitra

Interest : S. 115JA, S. 234B and S. 234C of Income-tax Act, 1961 : Assessment of company u/s.115JA : Interest u/s.234B and u/s. 234C is not leviable.

New Page 1

 8. Interest : S. 115JA, S. 234B and S. 234C of
Income-tax Act, 1961 : Assessment of company
u/s.115JA : Interest u/s.234B and u/s. 234C is not leviable.

 [Snowcem India Ltd. v. Dy. CIT, 221 CTR
594 (Bom.)]

In the instant case income of the assessee
company was computed u/s.115JA of the Income-tax Act, 1961. The Assessing
Officer also levied interest u/s. 234B and u/s.234C of the Act. Levy of
interest was upheld by the Tribunal.

In appeal, the assessee raised the following
question : “Whether on the facts and in the circumstances of the case and in
law, the Tribunal was right in holding that interest u/s.234B and u/s.234C was
leviable in case of computation of income under the provisions of S. 115JA of
the Act ?”

The Bombay High Court noted that in CIT v.
Kotak Mahindra Finance Ltd., 265 ITR 119 (Bom.), the Bombay High Court has
taken a view that even in a case covered by S. 115J the provisions of S. 234B
and S. 234C are attracted and also noted that in that case the Bombay High
Court had disagreed with the judgment of the Karnataka High Court in the case
of Kwality Biscuits Ltd. v. CIT, 243 ITR 519 (Kar.) wherein it was held
that where the income is computed u/s.115J of the Act, interest u/s.234B and
u/s.234C are not attracted.

In the instant case the Bombay High Court noted
that the appeal against the said judgment of the Karnataka High Court has been
dismissed by the Supreme Court and held as under :

“(i) In the instant case we are concerned with S.

115JA under Chapter XII-B. The terminology used
in S. 115JA is the same or similar as contained in S. 115J.

(ii) The judgment of the Karnataka High Court was
taken in appeal by way of Special Leave to the Supreme Court in CIT v.
Kwality Biscuits Ltd., 284 ITR 434 (SC), and the following order was
passed :

“The appeals are dismissed.”

(iii) If the Special Leave Petition had only been
dismissed, then perhaps it would have been possible to say that there was no
merger of the judgment of the Karnataka High Court and the Supreme Court had
refused to grant Special Leave to appeal and consequently it was not an order
of affirmation. See Kunhayammed v. State of Kerala, (2000) 162 CTR (SC)
97. However, the order passed by the Supreme Court is “The Appeals are
dismissed” being Civil Appeal Nos. 1284 and 1285 of 2001. Once the Appeals are
dismissed then it can be said that the judgment of the Karnataka High Court
has been affirmed by the Supreme Court. That would not be the case in the
event only Special Leave Petitions had been dismissed, in which event it would
be said that the Supreme Court chose not to interfere with the judgment of the
Karnataka High Court. In such an event the doctrine of merger would not apply.
Once the judgment of the Karnataka High Court in Kwality Biscuits Ltd. (supra)
has been affirmed by the Supreme Court by dismissing the appeals, in our
opinion, the law binding on us would be the judgment in Quality Biscuits. (supra).

(iv) Considering the above, in our opinion, the
appeal will have to be allowed. Accordingly, the question as framed is
answered in the negative against the Revenue and in favour of the assessee.”


 

levitra

Manner of Disclosure of Accounting Policies

From Published Accounts

1 ITC
Limited — (31-3-2009)

Significant Accounting Policies

It is corporate policy :

Convention :

To prepare financial statements
in accordance with applicable Accounting Standards in India.

A summary of important
accounting policies is set out below. The financial statements have also been
prepared in accordance with relevant presentational requirements of the
Companies Act, 1956.

Basis of accounting :

To prepare financial statements
in accordance with the historical cost convention modified by revaluation of
certain Fixed Assets as and when undertaken as detailed below.

Fixed assets :

To state Fixed Assets at cost of
acquisition inclusive of inward freight, duties and taxes and incidental
expenses related to acquisition. In respect of major projects involving
construction, related pre-operational expenses form part of the value of assets
capitalised. Expenses capitalised also include applicable borrowing costs.

To capitalise software where it
is expected to provide future enduring economic benefits. Capitalisation costs
include licence fees and costs of implementation/system integration services.

The costs are capitalised in the
year in which the relevant software is implemented for use.

To charge off as a revenue
expenditure all upgradation/enhancements unless they bring similar significant
additional benefits.

Depreciation :

To calculate depreciation on
Fixed Assets and Intangible Assets in a manner that amortises the cost of the
assets after commissioning, over their estimated useful lives or, where
specified, lives based on the rates specified in Schedule XIV to the Companies
Act, 1956, whichever is lower, by equal annual instalments. Leasehold properties
are amortised over the period of the lease.

To amortise capitalised software
costs over a period of five years.

Revaluation of assets :

As and when Fixed Assets are
revalued, to adjust the provision for depreciation on such revalued Fixed
Assets, where applicable, in order to make allowance for consequent additional
diminution in value on considerations of age, condition and unexpired useful
life of such Fixed Assets; to transfer to Revaluation Reserve the difference
between the written-up value of the Fixed Assets revalued and depreciation
adjustment and to charge Revaluation Reserve Account with annual depreciation on
that portion of the value which is written up.

Investments :

To state Current Investments at
lower of cost and fair value; and Long-Term Investments, including in Joint
Ventures and Associates, at cost. Where applicable, provision is made where
there is a permanent fall in valuation of Long-Term Investments.

Inventories :

To state inventories including
work-in-progress at lower of cost and net realisable value. The cost is
calculated on weighted average method. Cost comprises expenditure incurred in
the normal course of business in bringing such inventories to its location and
includes, where applicable, appropriate overheads based on normal level of
activity. Obsolete, slow moving and defective inventories are identified at the
time of physical verification of inventories and, where necessary, provision is
made for such inventories.

Sales :

To state net sales after
deducting taxes and duties from invoiced value of goods and services rendered.

Investment income :

To account for Income from
Investments on an accrual basis, inclusive of related tax deducted at source.

Proposed dividend :

To provide for Dividends
(including income-tax thereon) in the books of account as proposed by the
Directors, pending approval at the Annual General Meeting.

Employee benefits :

To make regular monthly
contributions to various Provident Funds which are in the nature of defined
contribution scheme and such paid/payable amounts are charged against revenue.

To administer such Funds through
duly constituted and approved independent trusts with the exception of Provident
Fund and Family Pension contributions in respect of unionised staff which are
statutorily deposited with the Government.

To administer through duly constituted and approved independent trusts, various Gratuity and Pension Funds which are in the nature of defined benefit/contribution schemes. To determine the liabilities towards such schemes, as applicable, and towards employee leave encashment by an independent actuarial valuation as per the requirements of Accounting Standard-15 (revised 2005) on ‘Employee Benefits’. To determine actuarial gains or losses and to recognise such gains or losses immediately in Profit and Loss Account as income or expense.

To charge against revenue, actual disbursements made, when due, under the Workers’ Voluntary Retirement Scheme.

Lease rentals?:

To charge rentals in respect of leased equipment to the Profit and Loss Account.

Research and Development?:

To write off all expenditure other than capital expenditure on Research and Development in the year it is incurred. Capital expenditure on Research and Development is included under Fixed Assets.

Taxes on income?:

To provide current tax as the amount of tax payable in respect of taxable income for the period.

To provide deferred tax on timing differences between taxable income and accounting income-subject to consideration of prudence. Not to recognise deferred tax assets on unabsorbed depreciation and carry forward of losses unless there is virtual certainty that there will be sufficient future taxable income available to realise such assets.

Foreign currency translation?:

To account for transactions in foreign currency at the exchange rate prevailing on the date of transactions. Gains/Losses arising out of fluctuations in the exchange rates are recognised in the Profit and Loss Account in the period in which they arise. To account for differences between the forward exchange rates and the exchange rates at the date of transactions, as income or expense over the life of the contracts.

To account for profit/loss arising on cancellation or renewal of forward exchange contracts as income/ expense for the period.

To account for premium paid on currency options in the Profit and Loss Account at the inception of the option.

To account for profit/loss arising on settlement or cancellation of currency option as income/expense for the period.

To recognise the net mark-to-market loss in the Profit and Loss Account on the outstanding portfolio of options as at the Balance Sheet date, and to ignore the net gain, if any.

To account for gains/losses in the Profit and Loss Account on foreign exchange rate fluctuations relating to monetary items at the year end.

Caims?:

To disclose claims against the Company not acknowledged as debts after a careful evaluation of the facts and legal aspects of the matter involved.

Segment reporting?:

To identify segments based on the dominant source and nature of risks and returns and the internal organisation and management structure.

To account for inter-segment revenue on the basis of transactions which are primarily market-led.

To include under ‘Unallocated Corporate Expenses’ revenue and expenses which relate to the enterprise as a whole and are not attributable to segments.

Joint ventures for oil and gas fields

New Page 1VIDEOCON INDUSTRIES LTD.

7. Joint ventures for oil and gas fields :

In respect of joint ventures in the nature of Production
Sharing Contracts (PSC) entered into by the Company for oil and gas exploration
and production activities, the Company’s share in the assets and liabilities as
well as income and expenditure of joint venture operations are accounted for
according to the participating interest of the Company as per the PSC and the
joint-operating agreements on a line-by-line basis in the Company’s financial
statements.

Exploration, development and production costs :

The Company follows the ‘Successful Efforts Method’ of
accounting for oil and gas exploration, development and production activities as
explained below :

(a) Exploration and production costs are expensed in the
year/period in which these are incurred.

(b) Development costs are capitalised and reflected as
‘Producing Properties’. Costs include recharges to the joint venture by the
operator/affiliate in respect of the actual cost incurred and as set out in
the Production Sharing Contract (PSC). Producing properties are depleted using
the ‘Unit of Production Method’.


Abandonment costs :

Abandonment Costs relating to dismantling, abandoning and
restoring offshore well sites and allied facilities are provided for on the
basis of ‘Unit of Production Method’. Aggregate abandonment costs to be incurred
are estimated, based on technical evaluation by experts.

Revenue recognition :

(a) Revenue is recognised on transfer of significant risk and reward in respect of ownership.

(b) Sale of crude oil and natural gas are exclusive of sales tax. Other sales/turnover includes sales value of goods, services, excise duty, duty drawback and other recoveries such as insurance, transportation and packing charges, but excludes sale tax and recovery of financial and discounting charges.

levitra

Section A : Illustration of accounts and audit report of a company based in United States where the assumption of Going Concern is questioned

General Motors Corporation, USA — (31-12-2008)

From Notes to Consolidated Financial Statements :
Note 2 : Basis of Presentation :

Going Concern :

The accompanying consolidated financial statements have been prepared assuming that we will continue as a going concern, which contemplates the realisation of assets and the liquidation of liabilities in the normal course of business. We have incurred significant losses from 2005 through 2008, attributable to operations and to restructurings and other charges such as support for Delphi and past, present and future costcutting measures. We have managed our liquidity during this time through a series of cost reduction initiatives, capital markets transactions and sales of assets. However, the global credit market crisis has had a dramatic effect on our industry.

In the second half of 2008, the increased turmoil in the mortgage and overall credit markets (particularly the lack of financing to buyers or lessees of vehicles), the continued reductions in U.S. housing values, the volatility in the price of oil, the recession in the United States and Western Europe and the slowdown of economic growth in the rest of the world created a substantially more difficult business environment. The ability to execute capital markets transactions or sales of assets was extremely limited, and vehicle sales in North America and Western Europe contracted severely and the pace of vehicle sales in the rest of the world slowed. Our liquidity position, as well as our operating performance, were negatively affected by these economic and industry conditions and by other financial and business factors, many of which are beyond our control.

These conditions have not improved through January 2009, with sales of total vehicles for the U.S. industry falling to 657,000 vehicles, or a seasonally adjusted rate of 9.8 million vehicles, which was the lowest level for January since 1982. We do not believe it is likely that these adverse economic conditions, and their effect on the automotive industry, will improve significantly during 2009, notwithstanding the unprecedented intervention by governments in the United States and other countries in the global banking and financial systems.

Due to this sudden and rapid decline of our industry and sales, particularly in the three months ended December 31, 2008, we determined that, despite the far-reaching actions to restructure our U.S. business, we would be unable to pay our obligations in the normal course of business in 2009 or service our debt in a timely fashion, which required the development of a new plan that depended on financial assistance from the U.S. Government. On December 31, 2008, we entered into a Loan and Security Agreement (UST Loan Agreement) with the United States Department of the Treasury (UST), pursuant to which the UST agreed to provide us with a $ 13.4 billion secured term loan facility (UST Loan Facility). We borrowed $ 4.0 billion under the UST Loan Facility on December 31, 2008, an additional $ 5.4 billion on January 21, 2009 and $ 4.0 billion on February 17, 2009. As a condition to obtaining the UST Loan Facility, we agreed to achieve certain restructuring targets within designated time frames as more fully described in Note 15.

Pursuant to the terms of the UST Loan Facility and as described more fully in Note 15, we submitted to the UST on February 17, 2009 our plan to return to profitability and to operate as a going concern (Viability Plan). In order to execute the Viability Plan, we have requested additional U.S. Government funding of $ 22.5 billion to cover our baseline scenario liquidity requirements and $ 30.0 billion to cover our downside sensitivity liquidity requirements. We proposed that the funding could be met through a combination of a secured term loan of $ 6.0 billion and preferred equity of $ 16.5 billion under a Viability Plan baseline scenario, representing an increase of $ 4.5 billion over our December 2008 request, reflecting changes in various assumptions subsequent to the December 2, 2008 submission and $ 9.1 billion incremental to the $ 13.4 billion currently outstanding. We have suggested to the UST that the current amount outstanding as of February 28, 2009 of $ 13.4 billion under the UST Loan Facility plus an incremental $ 3.1 billion requested in 2009 could be provided in the form of preferred stock. We believe this structure would provide the necessary medium-term funding we need and provide a higher return to the UST, commensurate with the higher returns the UST receives on other preferred stock investments in financial institutions.

Under a Viability Plan downside sensitivity sce-nario, an additional $ 7.5 billion of funding would be required above the amounts described above, which we have requested in the form of a secured revolving credit facility. The collateral used to sup-port the current $ 13.4 billion UST Loan Facility would be used to support the proposed $ 7.5 billion secured revolving credit facility and the $ 6.0 billion term loan. Our Viability Plan also assumes $ 7.7 billion in loans under the provisions of the Energy Independence and Security Act of 2007 (Section 136 Loans) from the Department of Energy. Our 2009 baseline vehicle sales forecast is 10.5 million vehicles in the United States and 57.5 million vehicles globally. In 2009, our liquidity, under our Baseline plan, is dependent on obtaining $ 4.6 billion of funding from the UST in addition to the $ 13.4 billion received to date; a net $ 2.3 billion from other non-U.S. governmental entitles the receipt of $ 2.0 billion in Section 136 Loans; and the sale of certain assets for net proceeds of $ 1.5 billion. This funding and additional amounts described above are required to provide the necessary working capital to operate our business until the global economy recovers and consumers have an available credit and begin purchasing automobiles at more historical volume levels. In addition, the Viability Plan is dependent on our ability to execute the bond exchange and voluntary employee beneficiary association (VEBA) modifications contemplated in our submissions to the UST and our ability to achieve the revenue targets and execute the cost reduction and other restructuring plans. We currently have approximately $1 billion of outstanding Series D convertible debentures that mature on June 1, 2009. Our funding plan described -above does not include the payment at maturity of the principal amount of these debentures. If we are unable to restructure the Series D convertible debentures prior to June 1, 2009, or otherwise satisfactorily address the payment due on June I, 2009, a default would arise with respect to payment of these obligations, which could also trigger cross defaults in other outstanding debt, thereby potentially requiring us to seek relief under the U.S. Bankruptcy Code.

The following is a summary of significant cost reduction and restructuring actions contemplated by the Viability Plan:

(Not reproduced here)

Report of Independent Registered Public Accounting Firm :

We have audited the accompanying Consolidated Balance Sheets of General Motors Corporation and subsidiaries (the Corporation) as of December 31, 2008 and 2007, and the related Consolidated Statements of Operations, Cash Flows and Stockholders’ Equity (Deficit) for each of the three years in the period ended December 31, 2008. Our audits also included the financial statement schedule listed in the Index at Item 15. These financial statements and financial statement schedule are the responsibility of the Corporation’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Over-sight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of General Motors Corporation and subsidiaries at December 31, 2008 and 2007, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2008, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

The accompanying consolidated financial statements for the year ended December 31,2008, have been prepared assuming that the Corporation will continue as a going concern. As discussed in Note 2 to the consolidated financial statements, the Corporation’s recurring losses from operations, stockholders’ deficit, and inability to generate sufficient cash flow to meet its obligations and sustain its operations raise substantial doubt about its ability to continue as a going concern. Management’s plans concerning these matters are also discussed in Note 2 to the consolidated financial statements. The consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.

As discussed in Note 3 to the consolidated financial statements, the Corporation: (1) effective January 1, 2008, adopted Statement of Financial Accounting Standards No.157, Fair Value Measurements, (2) effective January 1, 2007, adopted the recognition and measurement provisions of FASB Interpretation No. 48,Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement No. 109, (3) effective January 1, 2007, changed the measurement date for defined benefit plan assets and liabilities to coincide with its year end to conform to Statement of Financial Accounting Standards No. 158,Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans – an amendment of FASB Statements No. 87, 88, 106 and 132 (R) (SFAS No.158), and (4) effective December 31, 2006, began to recognise the funded status of its defined benefit plan in its consolidated balance sheets to conform to SFAS No. 158.

As discussed in Note 4 to the consolidated financial statements, on November 30,2006, the Corporation sold a 51% controlling interest in GMAC LLC, its former wholly-owned finance subsidiary. The Corporation’s remaining interest in GMAC LLC is accounted for as an equity method investment.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Corporation’s internal control over financial reporting as of December 31, 2008, based on the criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organisations of the Treadway Commission and our report dated 4-3-2009 expressed an adverse opinion on the Corporation’s internal control over financial reporting.

Oil and gas exploration and development costs

New Page 1ESSAR OIL LTD. — (31-3-2007)

6. Oil and gas exploration and development costs

The Company follows the ‘Full Cost Method’ of accounting for
its oil and gas exploration and development activities, whereby all costs
associated with acquisition, exploration and development of oil and gas
reserves, are capitalised under capital work-in-progress, irrespective of
success or failure of specific parts of the overall exploration activity within
or outside a cost centre (known as ‘cost pool’). Exploration and survey costs
incurred are held outside cost pools until the existence or otherwise of
commercial reserves are determined. These costs remain undepleted pending
determination, subject to there being no evidence of impairment. Costs are
released to its cost pool upon determination or otherwise of reserves. When any
field in a cost pool is ready to commence commercial production, the accumulated
costs in that cost pool are transferred from capital work-in-progress to the
gross block of assets under producing properties. Subsequent exploration
expenditure in that cost pool will be added to gross block of assets, either on
commencement of commercial production from a field discovery or failure. In case
a block is surrendered, the accumulated exploration expenditure pertaining to
such block is transferred to the gross block of assets. Expenditure carried
within each cost pool (including future development cost) will be depleted on a
unit-of-production basis with reference to quantities, with depletion computed
on the basis of the ratio that oil and gas production bears to the balance
proved and probable reserves at commencement of the year. The financial
statements of the Company reflect its share of assets, liabilities, income and
expenditure of the joint-venture operations, which are accounted on the basis of
available information on line-to-line basis, with similar items in the Company’s
financial statements to the extent of the participating interest of the Company
as per the various joint-venture agreement(s).

Revenue recognition :

Revenue on sale of goods is recognised when the property in
the goods is transferred to buyer for a price, or when all significant risks and
rewards of ownership have been transferred to the buyer and no effective control
is retained by the Company in respect of the goods transferred to a degree
usually associated with ownership and no significant uncertainty exists
regarding the amount of consideration that will be derived from the sale of
goods.

Revenue on transactions of rendering services is recognised,
either under the completed service contract method or under the proportionate
completion method, as appropriate. Performance is regarded as achieved when no
significant uncertainty exists regarding the amount of consideration that will
be derived from rendering the services.


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Oil and gas assets

New Page 1CAIRN INDIA LTD. — (31-12-2006)

4. Oil and gas assets :

Cairn India Group follows the ‘Successful Efforts Method’ for
accounting for oil and gas assets as set out by the Guidance Note issued by the
ICAI on ‘Accounting for Oil and Gas Producing Activities’.

Expenditure incurred on the acquisition of a licence interest
is initially capitalised on a licence-by-licence basis. Costs are held,
undepleted, within exploratory & development wells in progress until the
exploration phase relating to the licence area is complete or commercial oil and
gas reserves have been discovered.

Exploration expenditure incurred in the process of
determining exploration targets which cannot be directly related to individual
exploration wells is expensed in the period in which it is incurred.

Exploration/appraisal drilling costs are initially
capitalised within exploratory & development wells in progress on a well basis
until the success or otherwise of the well has been established. The success or
failure of each exploration/appraisal effort is judged on a well-by-well basis.
Drilling costs are written off on completion of a well, unless the results
indicate that oil and gas reserves exist and there is a reasonable prospect that
these reserves are commercial.

Where results of exploration drilling indicate the presence
of oil and gas reserves which are ultimately not considered commercially viable,
all related costs are written off to the Profit and Loss Account. Following
appraisal of successful exploration wells, when a well is ready for commencement
of commercial production, the related exploratory and development wells in
progress are transferred into a single-field cost centre within producing
properties, after testing for impairment.

Where costs are incurred after technical feasibility and
commercial viability of producing oil and gas is demonstrated and it has been
determined that the wells are ready for commencement of commercial production,
they are capitalised within producing properties for each cost centre.
Subsequent expenditure is capitalised when it enhances the economic benefits of
the producing properties or replaces part of the existing producing properties.
Any costs remaining associated with such part replaced are expensed in the
financial statements.

Net proceeds from any disposal of an exploration asset within
exploratory and development wells in progress are initially credited against the
previously capitalised costs and any surplus proceeds are credited to the Profit
and Loss Account. Net proceeds from any disposal of producing properties are
credited against the previously capitalised cost and any gain or loss on
disposal of producing properties is recognised in the Profit and Loss Account,
to the extent that the net proceeds exceed or are less than the appropriate
portion of the net capitalised costs of the asset.


(c) Depletion :



The expenditure on producing properties is depleted within
each cost centre. Depletion is charged on a unit-of-production basis, based on
proved reserves for acquisition costs and proved and developed reserves for
other costs.


(d) Site restoration costs :



At the end of the producing life of a field, costs are
incurred in removing and restoring the site of production facilities. Cairn
India Group recognises the full cost of site restoration as an asset and
liability when the obligation to rectify environmental damage arises. The site
restoration asset is included within producing properties of the related asset.
The amortisation of the asset, calculated on a unit-of-production basis on
proved and developed reserves, is included in the ‘depletion and site
restoration costs’ in the Profit and Loss Account.

Revenue from operating activities :

Revenue represents the Cairn India Group’s share of oil, gas
and condensate production, recognised on a direct-entitlement basis and tariff
income received for third-party use of operating facilities and pipelines in
accordance with agreements.


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Accounting for Oil and Gas Activity

New Page 1RELIANCE INDUSTRIES LTD. — (31-3-2007)

3. Accounting for Oil and Gas Activity :

The Company has adopted ‘Full Cost Method’ of accounting for
its oil and gas activity and all costs incurred in acquisition, exploration and
development are accumulated considering the country as a cost centre. Oil and
gas joint ventures are in the nature of jointly controlled assets. Accordingly,
assets and liabilities as well as income and expenditure are accounted on the
basis of available information, on line-by-line basis with similar items in the
Company’s financial statements, according to the participating interest of the
Company.

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Exploration, Development & Production Costs

New Page 1Oil and Natural Gas Corporation Ltd. — (31-3-2007)

1. Exploration, Development & Production Costs :

5.1 Acquisition cost :


Acquisition cost of an oil and gas property in
exploration/development stage is taken to acquisition cost under the respective
category. In case of overseas projects, the same is taken to capital work in
progress. Such costs are capitalised by transferring to producing property when
it is ready to commence commercial production. In case of abandonment, such
costs are expensed. Acquisition cost of a producing oil and gas property is
capitalised as producing property.

5.2 Survey costs :


Cost of surveys and prospecting activities conducted in the
search of oil and gas are expensed in the year in which these are incurred.

5.3 Exploratory/Development wells in progress :


5.3.1 All acquisition costs, exploration costs involved in
drilling and equipping exploratory and appraisal wells, cost of drilling
exploratory type stratigraphic test wells are initially capitalised as
exploratory wells in progress till the time these are either transferred to
producing properties on completion as per policy no. 5.4.1 or expensed in the
year when determined to be dry or of no further use, as the case may be.

5.3.2 All wells under as ‘exploratory wells in progress’
which are more than two years old from the date of completion of drilling are
charged to Profit and Loss Account except those wells which have proved reserves
and the development of the fields in which the wells are located has been
planned.

5.3.3 All costs relating to development wells are initially
capitalised as development wells in progress and transferred to producing
properties on completion as per policy no. 5.4.1.

5.4 Producing properties :


5.4.1 Producing properties are created in respect of an
area/field having proved developed oil and gas reserves, when the well in the
area/field is ready to commence commercial production.

5.4.2 Cost of temporary occupation of land, successful
exploratory wells, all development wells, depreciation on related equipment and
facilities, and estimated future abandonment costs are capitalised and reflected
as producing properties.

5.4.3 Depletion of producing properties :


Producing properties are depleted using the ‘Unit of
Production Method’. The rate of depletion is computed with reference to the area
covered by individual lease/licence/asset/amortisation base by considering the
proved developed reserves and related capital costs incurred including estimated
future abandonment costs. In case of acquisition, cost of producing properties
is depleted by considering the proved reserves. These reserves are estimated
annually by the Reserve Estimates Committee of the Company, which follows the
International Reservoir Engineering Procedures.

5.5 General administrative expenses :


General administrative expenses at assets, basins, services,
regions and headquarters are charged to Profit and Loss Account.

5.6 Production costs :


Production costs include pre-well head and post well head
expenses including depreciation and applicable operating costs of support
equipment and facilities.

Abandonment costs :

7.1 The full eventual estimated liability towards costs
relating to dismantling, abandoning and restoring offshore well sites and allied
facilities is recognised at the initial stage as cost of producing property and
liability for abandonment cost, based on the latest technical assessment
available at current costs with the Company. The same is reviewed annually.

7.2 Cost relating to dismantling, abandoning and restoring
onshore well sites and allied facilities are accounted for in the year in which
such costs are incurred, as the salvage value is expected to take care of the
abandonment costs.

Revenue recognition :

15.1 Revenue from sale of products is recognised on transfer
of custody to customers.

15.2 Sale of crude oil and gas produced from exploratory
wells in progress in exploratory areas is deducted from expenditure on such
wells.

15.3 Sales are inclusive of all statutory levies except Value
Added Tax (VAT). Any retrospective revision in prices is accounted for in the
year of such revision.

15.4 Revenue in respect of fixed price contracts is
recognised for the quantum of work done on the basis of percentage of completion
method. The quantum of work done is measured in proportion of cost incurred to
date to the estimated total cost of the contract or based on reports of physical
work done.

15.5 Finance income in respect of assets given on finance
lease is recognised based on a pattern reflecting a constant periodic rate of
return on the net investment outstanding in respect of the finance lease.

15.6 Revenue in respect of the following is recognised when
there is reasonable certainty regarding ultimate collection :

(a) Shortlifted quantity of gas.
(b) Gas pipeline transportation charges and statutory duties thereon.
(c) Reimbursable subsides and grants.
(d) Interest on delayed realisation from customers.
(e) Liquidated damages from contractors.

Valuation of closing stock — Application to review the decision in CIT v. Hindustan Zinc Ltd. — Rejected

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4 Valuation of closing stock — Application to
review the decision in CIT v. Hindustan Zinc Ltd. — Rejected


[Hindustan Zinc Ltd. v. CIT, (2007) 295 ITR 453 (SC)]

The Supreme Court in CIT v. Hindustan Zinc Ltd., [(2007) 291
ITR 391] had held that goods should not be written down below the cost, except
where there is an actual or anticipated loss and if the fall in the price is
only such as it would reduce merely the prospective profits, there would be no
justification to discard the initial valuation at cost. The assessee’s
application to review the aforesaid judgment was rejected by the Supreme Court,
holding that no case for review was made out.

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Questions of Law — No interference made on findings — Questions of law left open.

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2 Questions of Law — No interference made on
findings — Questions of law left open.


[CIT v. Alfa Laval (India) Ltd., (2008) 295 ITR 451 (SC)]

The Bombay High Court in Alfa Laval (India) Ltd. v. Deputy
Commissioner of Income-tax, (266 ITR 418) had held as follows :

(1) the assessee is entitled to value the closing stock at
market value or at cost, whichever is lower and the Assessing Officer was not
justified in valuing the items in question at 50% of the cost without
disclosing the basis of such valuation as against valuation made by the
assessee at 10% of the cost based upon auditor’s certificate and which items
were in fact sold in the subsequent year at a price less than 10%.

(2) the depreciation written back as a result of change in
the basis of working out depreciation in compliance with the Circular of the
Company Law Board and credited to the profit and loss account should not be
reduced in working out the relief u/s.32AB(3) of the Act, as it could be said
that there was withdrawal of amount from reserve or provisions.

(3) the interest from customers and sales tax set-off
received by the assessee being assessed as the part of business profits under
head ‘Profits or gains of business or profession’, the same could not be
excluded while calculating deductions u/s.80HHC of the Act.

 

On an appeal against the aforesaid order by the Department to
the Supreme Court, the Supreme Court dismissed the appeal stating that it was
not the case which required interference and left the question of law open.

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Rectification of mistake — Non-consideration of material on record amounts to mistake apparent from record.

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3 Rectification of mistake —
Non-consideration of material on record amounts to mistake apparent from record.


[Honda Siel Power Products Ltd. v. CIT, (2007) 295 ITR
466]

The assessee-company, engaged in the manufacture of portable
generator sets in technical collaboration with Honda Motor Company, Japan filed
its return of income for the A.Y. 1991-92 on December 30, 1991, declaring nil
income. During the relevant year, the assessee had taken a term loan in foreign
exchange for import of machinery. On account of fluctuation in the foreign
exchange rate, the liability of the assessee to repay the loan in terms of
rupees went up by Rs.7,10,910. By referring to the provisions of S. 43A, the
assessee enhanced the figure of WDV (written-down value) of the block of assets
and claimed depreciation accordingly. The Assessing Officer came to the
conclusion that such revision in the actual cost was not admissible as S. 43A
refers to adjustment qua the actual cost of the machinery on account of increase
or decrease in the liability of unpaid loans utilised for the purchase of
machinery. Aggrieved by the said decision, the matter was carried in appeal by
the assessee before the Commissioner of Income-tax (Appeals) who took the view
that the claim of the assessee was admissible in view of the fact that in the
year preceding the A.Y. 1991-92, increased depreciation was given to the
assessee. On this aspect, therefore, the Department carried the matter in appeal
to the Tribunal for both the A.Ys. 1990-91 and 1991-92. The Tribunal held that
the Commissioner of Income-tax (Appeals) had erred in allowing the enhanced
depreciation as u/s.43A. Actual payment was a condition precedent for availing
of the benefit under that Section. According to the Tribunal, if actual payment
was not made after fluctuation, then the value of the asset cannot be increased
by adding the increase on account of fluctuation. On the facts, the Tribunal
found that in the present case, there was no actual payment after the
fluctuation and, therefore, the assessee was not entitled to claim the benefit
u/s.43A. The assessee moved the Tribunal for rectification of mistake apparent
from its order. In the rectification application, the assessee pointed out the
earlier judgment of the Co-ordinate Bench of the Tribunal in the case of
Deputy CIT v. Samtel Color Limited, in which it was held that enhanced
depreciation was allowable even on notional increase in the cost of the asset on
account of exchange rate fluctuation and despite the fact that the additional
liability resulting from the said fluctuation had not been paid by the assessee.
It was held that the word ‘paid’ in S. 43(2) meant amount actually paid or
incurred according to the method of accounting. In this connection, reliance was
also placed by the Tribunal on Circular No. 5-P of the Central Board of Direct
Taxes, dated October 9, 1967. The Tribunal, allowed the rectification
application filed by the assessee stating that the judgment of the Co-ordinate
Bench in Samtel Color Limited (supra) had escaped its attention. Against
the said order, the Department carried the matter in appeal to the High Court.
The High Court came to the conclusion, relying on its earlier decision, that the
power to rectify any mistake was not equivalent to a power to review or recall
the order sought to be rectified. The High Court came to the conclusion that in
the guise of rectification, the Tribunal had, in fact, reviewed its earlier
order which fell outside the scope of S. 254(2) of the 1961 Act and,
consequently, the High Court set aside the order of the Tribunal passed in
Miscellaneous Application. On appeal, the Supreme Court held that the Tribunal
was justified in exercising its powers u/s.254(2) when it was pointed out to the
Tribunal when the original order came to be passed but it had committed a
mistake in not considering the material which was already on record. The
Tribunal has acknowledged its mistake, it has accordingly rectified its order.
According to the Supreme Court, the High Court was not justified in interfering
with the said order.

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Kar Vivad Samadhan Scheme — Though the declaration was originally rejected for the reason that no appeal was pending as the delay was not condoned, the declaration ought to have been subsequently accepted when Tribunal held that there was no delay.

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1 Kar Vivad Samadhan Scheme — Though the
declaration was originally rejected for the reason that no appeal was pending as
the delay was not condoned, the declaration ought to have been subsequently
accepted when Tribunal held that there was no delay.


[Swan Mills Ltd. v. Union of India, (2008) 296 ITR 1
(SC)]

 

The appellant is a composite textile mill engaged in the
manufacture of cotton yarn, man-made yarn, cotton fabrics and man-made fabrics,
as well as processing amongst other activities. For the period from October,
1994 to February, 1997, the appellant was served with 14 show-cause notices for
recovery of differential duty of approximately Rs.50 lakhs. The said show-cause
notices were adjudicated by the Assistant Commissioner of Central Excise,
Mumbai-II vide order-in-original Nos. 781/398/97 to 794/411/97, dated November
12, 1997, confirming the demands covered thereunder along with interest. The
Assistant Commissioner of Central Excise also imposed penalty of Rs.5,000. There
being incorrect computation, he directed the Range Superintendent to verify
figures and work out a fresh demand. The Range Superintendent re-worked the duty
amount of Rs.9,40,753 and issued a demand notice on May 18, 1998, requiring the
appellant to pay the said amount along with penalty of Rs.5,000. Dissatisfied
with the order dated November 12, 1997, passed by the Assistant Commissioner of
Central Excise and the order of Range Superintendent, dated May 18, 1998, the
appellant preferred an appeal before the Commissioner of Central Excise
(Appeals) on September 2, 1998, along with a stay application. The Commissioner
of Central Excise (Appeals), vide order dated December 28, 1998, asked the
appellant to deposit the amount of duty and penalty within four weeks from the
date of the order. The Finance (No. 2) Act, 1998 came out with a scheme known as
‘Kar Vivad Samadhan Scheme, 1998’ (for short ‘KVSS’). The said scheme provided
for settling the tax arrears by paying 50 per cent of the disputed tax arrears.
Under the KVSS, the Commissioner of Central Excise was appointed as designated
authority. The scheme was operative from September 1, 1998, to January 31, 1999.
The appellant filed a declaration u/s.89 of the Finance (No. 2) Act, 1998,
before the Commissioner of Central Excise on December 31, 1998. The aforesaid
declaration filed by the appellant came to be rejected by the designated
authority, vide his order dated February 25, 1999, on the ground that the appeal
was filed by the appellant before the Commissioner of Central Excise (Appeals)
after the limitation for filing the appeal had already expired and that delay in
filing the appeal was not condoned by the Commissioner of Central Excise
(Appeals). Aggrieved by the order in appeal dated February 25, 1999, the
appellant preferred an appeal before the Customs, Excise and Gold (Control)
Appellate Tribunal, West Regional Bench, Mumbai (for short, ‘the Tribunal’). The
Tribunal vide its order dated November 29, 1999, held that the appeal preferred
by the appellant before the Commissioner (Appeals) was within time and,
accordingly, set aside the order of the Commissioner (Appeals) and remanded the
matter back to him for fresh disposal in accordance with law. On remand, the
Commissioner (Appeals) vide order dated June 29, 2001, upheld the order dated
November 12, 1997. After the Tribunal passed by the order on November 29, 1999,
holding that the appeal preferred by the appellant before the Commissioner
(Appeals) was within time, the appellant approached the designed authority, vide
its letter dated April 24, 2001, for reconsideration of the earlier order dated
February 25, 1999, and give the appellant the benefit of the KVSS in the matter
of the application filed u/s.89 of the KVSS on January 28, 1999. The
Superintendent of Central Excise, Range-II, on January 18, 2002, informed the
appellant that the application u/s.89 of the KVSS was re-examined by the Chief
Commissioner’s Office, Mumbai, and since the KVSS no longer exists, the question
of accepting the application does not arise. The appellant approached the Bombay
High Court by filing a writ petition. The appellant challenged principally the
order dated February 25, 1999, passed by the designated authority. It prayed for
direction to the respondents to accept the appellant’s declaration dated
December 31, 1998, made u/s.89 of the Finance (No. 2) Act, 1998, in respect of
the KVSS and restrain the respondents from recovery of interest amount of
Rs.11,58,647 as per the demand dated December 7, 2005. Analysing the various
provisions of the KVSS, the High Court held that since the appeal was filed
after the limitation and the delay was not condoned, the appellant was not
entitled to get the benefit of KVSS. On appeal the Supreme Court held that
undisputedly, the Tribunal had held that the appeal was within time. That being
so, for the purpose of the KVSS, the appeal was to be treated as pending. The
ratio in CIT v. Shatrusailya Digvijaysingh Jadeja, (2005) 7 SCC 294, was
clearly applicable. In the instant case, the appeal is to be treated as pending.
The High Court was not justified in dismissing the writ petition. The Supreme
Court set aside the order of the High Court and quashed the orders of the
designated authority, rejecting the declaration filed by the appellant.

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Income deemed to accrue or arise in India : S. 9 of Income-tax Act, 1961 r/w Article 15 of DTAA between India and UK : A.Y. 1996-97 : Assessee non-resident rendering services in India : Assessee liable to be taxed in India only for that part of income att

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 7 Income deemed to accrue or arise in India :
S. 9 of Income-tax
Act, 1961 r/w Article 15
of DTAA between India
and UK : A.Y. 1996-97 : Assessee non-resident rendering services in India :
Assessee liable to be taxed in India only for that part of income attributable
to services rendered by it in India and utilised in India.

[Clifford Chance v. Dy. CIT, 176 Taxman
458 (Bom.)]

The assessee was an international firm of
solicitors resident in the United Kingdom. It had no office or fixed base in
India. During the A.Y. 1996-97, it was appointed as the English law legal
adviser for four projects in India. Its partners were in India for more than
90 days. It filed its return of income showing income attributable to its
operations in India in respect of the said four projects. However, the
Assessing Officer held that the entire fees received by the assessee from the
four projects, whether services were rendered in India or outside India, was
taxable in India. The Tribunal upheld that view.

On appeal by the assesee the Bombay High Court
reversed the decision of the Tribunal and held as under :

“(i) The territorial nexus doctrine plays an
important part in the assessment of tax. Tax is levied on one transaction
where the operations, which may give rise to income, may take place partly in
one territory and partly in another territory. Income arising out of
operations in more than one jurisdiction would have territorial nexus with
each of the jurisdiction on actual basis. If that be so, it may not be correct
to contend that the entire income ‘accrues or arises’ in each of the
jurisdiction.

(ii) In the case of Ishikawajima Harima Heavy
Industries Ltd. v. DIT, (2007) 288 ITR 408, the Supreme Court, while
interpreting the provisions of S. 9(1)(vii)(c), has observed that it requires
two conditions to be met — the services which are the source of the income
that is sought to be taxed, have to be rendered in India, as well as utilised
in India, to be taxable in India. Both the above conditions have to be
satisfied simultaneously. Thus, for a non-resident to be taxed on income for
services, such a service needs to be rendered within India and has to be part
of a business or profession carried out by such person in India.

(iii) As per the judgment of the Supreme Court,
territorial nexus for the purpose of determining the tax liability is an
internationally accepted principle. An endeavor should, thus, be made to
construe the taxability of a non-resident in respect of income derived by it.
Having regard to the internationally accepted principle and the DTAA, no
extended meaning can be given to the words ‘income deemed to arise in India’
as expressed in S. 9 which incorporates various heads of income on which tax
is sought to be levied by the Republic of India. Whatever is payable by a
resident to a non-resident by way of fees for services, thus, would not always
come within the purview of S. 9(1)(vii). It must have sufficient territorial
nexus with India so as to furnish a basis for imposition of tax. Whereas a
resident would come within the purview of S. 9(1)(vii), a non-resident would
not, as services of a non-resident to a resident utilised in India may not
have much relevance in determining whether the income of a nonresident accrues
or arises in India. It must have a direct link with the services rendered in
India. When such a link is established, the same may again be subjected to any
relief under the DTAA. A distinction may also be made between rendition of
service and utilisation
thereof.


(iv)
The above
understanding of the law laid down by the Apex Court and S. 9(1)(vii)(c),
read in its plain language, envisage the fulfillment of two conditions:
services, which are source of income sought to be taxed in India, must
be (i) utilised in India; and (ii) rendered in India. In the instant
case, both those conditions had not been satisfied simultaneously.

(v)
In the above view of
the matter, contentions raised by the assessee were to be accepted. Thus the
income of the assessee charged on hourly basis in India and utilised in
India would only be chargeable to income-tax as disclosed in the return of
income.”

 

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Income : S. 2(24) of Income-tax Act, 1961 : A.Ys. 1987-88 and 1988-89 : Refund collected by producing bogus TDS certificates is income taxable under residuary head.

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 6 Income : S.
2(24) of Income-tax Act, 1961 :
A.Ys. 1987-88 and
1988-89 : Refund collected by producing bogus TDS certificates is income
taxable under residuary head.

[CIT v. K. Thangamani, 309 ITR 15 (Mad.)]

The assessee was engaged in tax consultancy and
audit work. For the A.Ys. 1987-88 and 1988-89 the Assessing Officer assessed
the refunds received by the assessee on the basis of bogus TDS certificates as
income from other sources. The Tribunal deleted the addition holding that the
amount of refunds received by the assessee by fraudulent means could not be
assessed as income of the assessee.

On appeal by the Revenue the Madras High Court
reversed the decision of the Tribunal and held as under :

“(i) The expression ‘income’ in S. 2(24) of the
Income-tax Act, 1961 is wide and the object of the Act being to tax income it
has to be given an extended meaning. Any kind of income earned by the assessee
attracts income-tax at the point of earning and tax law is not concerned with
the ultimate event how the income is expended. The Act makes an obligation to
pay tax on all income received. The Act considers income earned legally as
well as tainted income alike.

(ii) When the Tribunal found that the assessee
had indulged in fabricating TDS certificates and got refunds from the
Department, it should not have come to the conclusion that such income was not
taxable. There is a clear factual finding recorded by the Assessing Officer as
well as the Commissioner (Appeals) to the effect that the assessee had
indulged in filing bogus TDS certificates and got refund of the amount from
the Department. It was also the admitted case of the assessee before the
Department as well as the Central Bureau of Investigation during the course of
investigation into the offence that he had indulged in the act of fabricating
TDS certificates and collecting refunds from the Department.”

 

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Educational institution : Exemption u/s. 5 10(23C)(vi) of Income-tax Act, 1961 : Application filed after prescribed time : No statutory bar for condonation : Application for condonation of delay should be considered.

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 5 Educational institution : Exemption u/s.
5 10(23C)(vi) of
Income-tax Act, 1961 : Application filed after prescribed time : No statutory
bar for condonation : Application for condonation of delay should be
considered.



[Padmashree Krutarth Acharya Institute of
Engineering and Technology v. Chief CIT, 309 ITR 13 (Ori.)]

The assessee is an educational institution
eligible for exemption u/s.10(23C)(vi) of the Income-tax Act, 1961. It filed
an application for grant of approval for exemption u/s.10(23C)(vi) of the Act.
The Chief Commissioner rejected the application on the ground that the
application was filed beyond time and the proviso added to S. 10(23C)(vi) did
not empower him to condone the delay.

The Madras High Court allowed the writ petition
filed by the assessee and held as under :

“(i) The Commissioner while deciding the rights
of the parties acts in a quasi-judicial capacity and has to decide the rights
after a hearing. Any authority exercising such quasi-judicial functions should
also have incidental power of condoning delay if there was a justifiable
ground for such condonation. There is no clear statutory bar precluding such
condonation.

(ii) The Commissioner was to decide the
application for condonmation of delay on the merits and then consider the
application for exemption on the merits.”

 


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Busness expenditure : S. 37(1) of Income-tax Act, 1961 : Textile business : Closure of one unit : Retrenchment compensation, interest, PF to employees, legal expenses and reimbursement of loss to PF trust on sale of securities is allowable business expend

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 3 Busness expenditure : S. 37(1) of Income-tax
Act, 1961 : Textile business : Closure of one unit : Retrenchment
compensation, interest, PF to employees, legal expenses and reimbursement of
loss to PF trust on sale of securities is allowable business expenditure.

[CIT v. DCM Ltd., 221 CTR 513 (Del.)]

The assessee was in the business of textile
manufacturing. It closed one of its manufacturing units out of four units. It
paid Rs.8,71,20,781 by way of retrenchment compensation. It had incurred an
expenditure of Rs.1,86,69,703 by way of interest on monies borrowed for the
purpose of payment of retrenchment compensation and PF to the employees of the
closed unit. It had also incurred an expenditure of Rs.3,57,700 as legal
expenses on account of the closure of the unit. The Assessing Officer
disallowed the claim for deduction of the these expenses.

On termination of services of the employees of
the closed unit when the PF dues were required to be paid, the employees PF
trust approached the RPF Commissioner to obtain approval for sale of
Government securities, in order to make payment to the employees. The RPF
Commissioner granted the permission with a caveat that in the event of any
deficiency on sale of securities the burden would have to be borne by the
assessee, in order to assure that the employees would get the rate of interest
equivalent to the rate paid by the Central Government. The loss so incurred by
the employees PF trust was Rs.1,80,20,261 and the same was reimbursed by the
assessee to the trust. The assessee’s claim for deduction of the said
expenditure was rejected by the Assessing Officer relying on the provisions of
S. 14A of the Act. The Tribunal allowed the assessee’s claims.

On appeal by the Revenue, the Delhi High Court
upheld the decision of the Tribunal and held as under :

“(i) As found by the Tribunal there was no
closure of business since DCM mill unit was only a part of the textile
manufacturing operations, which continued even after the closure of the DCM
mill unit as the assessee continued in the business of manufacture of textiles
in the three remaining units. It is specifically noted that the assessee
prepared a consolidated P & L a/c and balance sheet of all its manufacturing
units taken together. The control and management of the assessee was
centralised in the head office, and also, the fact that all important policy
decisions were taken at the head office. The Tribunal came to the conclusion
that there was interconnection, interlacing and unity of control and
management, common decision-making mechanism and use of common funds in
respect of all four units. It repelled the arguments of the Revenue for
consideration that the DCM mill unit was a separate business and hence with
the closure of the DCM mill unit, the assessee ought not to be allowed
deduction of the expenses, based on the fact that in respect of the DCM mill
unit the assessee maintained separate books of account and engaged separate
workers. In view of the finding of fact returned by the Tribunal, no fault can
be found with the
reasoning of the Tribunal.

(ii) Expenditure incurred by the assessee company
to make up the deficiency arising on sale of securities by the employees PF
trust in order to ensure that its employees are paid a rate of interest
equivalent to that paid by the Central Government was an expenditure incurred
by the assessee towards its employees and, therefore, provisions of S. 14A
were not applicable.”

 

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Business expenditure : Bonus : S. 36(1)(ii) of Income-tax Act, 1961 : A.Y. 1985-86 : Customary bonus over and above payable under the Bonus Act : Paid for last 10 years as a practice : Eligible for deduction u/s.36(1)(ii) second proviso.

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 4 Business expenditure : Bonus : S. 36(1)(ii)
of Income-tax Act, 1961 : A.Y. 1985-86 : Customary bonus over and above
payable under the Bonus Act : Paid for last 10 years as a practice : Eligible
for deduction u/s.36(1)(ii) second proviso.

[CIT v. Sesa Goa Ltd., 221 CTR 590 (Bom.)]

As a general practice in the business, the
assessee had paid an amount of Rs.18,73,192 by way of bonus to the employees
over and above the statutory bonus prescribed under the Bonus Act and claimed
the deduction. The Assessing Officer disallowed the claim for deduction
holding that it is not permissible u/s.36 of the Income-tax Act, 1961. The
Tribunal allowed the claim.

On appeal by the Revenue, the Bombay High Court
upheld the decision of the Tribunal and held as under :

“(i) It is true that wherever a bonus is paid to
an employee in excess or otherwise than what is required to be paid under the
Bonus Act, such a payment is not entitled for deduction automatically, but the
assessee has to satisfy all the three ingredients, namely, the pay of the
employee and the condition of his service; the profits of the business or
profession for the previous year in question; and the general practice in
similar business and profession. The determination of these conditions should
lead to bonus being reasonable, and therefore, entitled to deduction in terms
of second proviso to S. 36(1)(ii).

(ii) In the present case, the assessee had been
paying bonus for the last 10 years otherwise in excess of the Bonus Act and
this had become a practice and the CIT(A) as well as the Tribunal have
recorded the finding that such bonus was payable as a general practice
followed in similar business or profession. The finding in question being a
primary question of fact, there is no reason to interfere with the impugned
order.”

 


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Appellate Tribunal : A.Y. 2001-02 : Order passed beyond four months after hearing and without giving reasons : Quashed as not valid.

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 2  Appellate Tribunal : A.Y. 2001-02 : Order passed
beyond four months after hearing and without giving reasons : Quashed as

not valid.


[Shivsagar Veg Restaurant, 176 Taxman 260 (Bom.)]

For the A.Y. 2001-02 the Tribunal had heard the
assessee’s appeal on 2-6-2005, but the order was passed on 21-10-2005 i.e.,
almost after a delay of more than four months dismissing the appeal without
recording reasons, discussing propositions of law and case law relied upon by
the assessee.

On appeal filed by the assessee the Bombay High
Court set aside the order of the Tribunal for fresh disposal and held as under :

“(i) The Appellate Tribunal being the final author-ity
of facts, it is incumbent upon it to appreciate the evidence, consider the
reasons of the authorities below and assign its own reasons as to why it
disagrees with the reasons and findings of the authorities below. Merely because
the Tribunal happened to be an appellate authority, it does not get the right to
brush aside reasons or findings recorded by the first authority or the lower
appellate authority. It has to examine validity of the reasons given and
findings recorded. Mere recording that the conclusions arrived at did not
require discussion of the case law and other propositions of law is no
consideration. Merely by saying that the findings of the Commissioner (Appeals)
are just, fair and in accordance with the law can hardly tantamount to giving
reasons. The absence of reasons had rendered the impugned order of the Tribunal
unsustainable.

 

(ii) The basic rule of natural justice requires
recording of reasons in support of the order. The order has to be
self-explanatory and should not keep the Higher Court guessing for reasons.
Reasons provide live link between conclusion and evidence and that vital link
is a safeguard against arbitrariness, passion and prejudice.

(iii) Reason is a manifestation of mind of
adjudicator. It is a tool for judging the validity of the order under
challenge. It gives opportunity to the Higher Court to see whether or not the
adjudicator has proceeded on the relevant consideration, material and
evidence.

(iv) Having said so, the inordinate unexplained
delay in pronouncement of the impugned judgment had also rendered it
vulnerable.”

 

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Wealth Tax : Valuation of immovable property sublet by tenant : To be determined on basis of rent and deposit received by assessee from tenant, irrespective of rent and deposit received by tenant from sub-tenant

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12 Wealth-tax : Valuation of immovable property sublet by
tenant : For determining the value of the property u/r. 3 of Schedule III to W.
T. Act, 1957 the rent and deposit received by the assessee from the tenant and
not the rent and deposit received by the tenant from the sub-tenant or ultimate
user of the premises are to be taken into account.


[CWT v. Spellbound Trading (P) Ltd., 214 CTR 324 (Bom.)]

Dealing with Rule 3 of Schedule III to the Wealth-tax Act,
1957 for valuation of immovable property, the Bombay High Court held as under :

“Rent and deposit received by the assessee from the tenant and not the rent
and deposit received by the tenant from the sub-tenant or ultimate user of the
premises are to be taken into account for determining the value of the property
under Rule 3 of Schedule III to the Wealth-tax Act.”



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Appeal to CIT(A) : S. 143(1) and S. 246 of Income-tax Act, 1961 : A.Y. 1995-96: CIT(A) allowed appeal in respect of one claim and rejected in respect of another : Not justified : Claims on basis of facts on record should be considered : Tax can be collect

New Page 1

 1 Appeal to CIT(A) : S. 143(1) and S. 246 of 
Income-tax Act, 1961 : A.Y. 1995-96: CIT(A) allowed appeal in respect of one
claim and rejected in respect of another : Not justified : Claims on basis of
facts on record should be considered : Tax can be collected only as per law.

[Balmukund Acharya v. Dy. CIT, 176 Taxman
316 (Bom.)]

In the return of income for the A.Y. 1995-96 the
assessee had computed long-term capital gain on sale of godown taking the cost
of acquisition as Nil. However, he had not claimed exemption of the capital
gain. The Assessing Officer passed an order u/s.143(1) of the Income-tax Act,
1961 and sent an intimation and demand notice including interest u/ s.234C of
the Act. In appeal before the CIT(A) the assessee raised two grounds. In the
first ground the assessee claimed that the interest liability u/s.234C is not
applicable in the case of capital gain, as there was no obligation for payment
of advance tax. In the second ground the assessee claimed that there is no tax
liability on the capital gain, since the cost of acquisition was Nil. The
CIT(A) allowed the first ground and directed the Assessing Officer to
recalculate the same. The Tribunal rejected the assessee’s appeal.

On appeal by the assessee, the Bombay High Court allowed the
assessee’s claim and held as under : “(i) For the A.Y. 1995-96, appeal lies
against an intimation u/s.143(1).

(ii) The authorities under the Act are under an
obligation to act in accordance with law. Tax can be collected only as
provided under the Act. If any assessee, under a mistake, misconceptions or on
not being properly instructed, is over-assessed, the authorities under the Act
are required to assist him and ensure that only due legitimate taxes are
collected. If a particular levy is not permitted under the Act, tax cannot be
levied by applying the doctrine of estoppel.

(iii) Acquiescence cannot take away from a party the relief
that she is entitled to where the tax is levied or collected without
authority of law. In the instant case, it was obligatory on the part of
the Assessing Officer to apply his mind to the facts disclosed in the
return and assess the assessee, keeping in mind the law holding the field.

 

(iii) One more aspect needs to be touched while
disposing of the appeal. The
Commissioner (Appeals) had entertained appeal in part and rejected in part.
If the appeal is not maintainable, it is not maintainable at all. It cannot
be said that for a particular ground, an appeal is maintainable and for
another it is not. Once the appeal is filed and entertained, then all
grounds can be raised by the appellant requiring consideration. If the
Revenue was of the view that an appeal itself was not maintainable before
the Commissioner (Appeals), in that event, the order of the Commissioner
(Appeals) allowing appeal in part was bad order and that part of the order
ought to have been challenged by the Revenue. The Revenue did not challenge
the said order believing maintainability of the appeal. The Revenue at that
stage could not be allowed to contend otherwise. It could not be allowed to
blow hot and cold. Thus, taking an overall view of the matter and for the
reasons recorded, the appeal preferred by the assessee was very much
maintainable.”

 

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Survey : S. 69 and S. 133A : Addition to income merely on the basis of the statement recorded in the course of survey : Invalid

New Page 1

11 Survey : S. 69 and S. 133A of Income-tax Act, 1961 : A.Y.
2001-02 : Addition to income merely on the basis of the statement recorded in
the course of survey : Not valid.


[CIT v. S. Khader Khan Son, 214 CTR 589 (Mad.)]

On 24-07-2001, survey action u/s.133A of the Income-tax Act,
1961 was carried out in the premises of the assessee, wherein a statement of the
partner was recorded offering an additional income of Rs.20,00,000 for the A.Y.
2001-02 and Rs.30,00,000 for the A.Y. 2002-03. The said statement was retracted
by the assessee through a letter dated 3-8-2001. The Assessing Officer made
additions to the income on the basis of the survey. The CIT(A) and the Tribunal
deleted the addition.

On appeal by the Revenue, the Madras High Court upheld the
decision of the Tribunal and held as under :

“S. 133A does not empower any I. T. Authority to examine
any person on oath, hence, any such statement has no evidentiary value and any
admission made during such statement cannot, by itself, be made the basis for
addition.”




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Scientific Research and Development Expenditure : S. 35 : Whether machine being used for R&D purpose or for manufacturing, AO not authority to decide but prescribed authority u/s.35(3)

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10 Scientific Research and Development Expenditure :
Deduction u/s.35 of Income-tax Act, 1961 : A.Y. 1999-00 : Axial machine and
computers : Whether machine being used for research and development purposes or
for manufacturing activity : Assessing Officer not an authority to decide :
Matter to be referred to prescribed authority u/s.35(3)


[CIT v. Deltron Ltd., 297 ITR 426 (Del.)]

The assessee incurred an expenditure of Rs.87,22,447 on
purchasing an axial machine along with machinery spares and computers. For the
A.Y. 1999-2000, it claimed the expenditure as a research and development
expenditure u/s.35(1) of the Income-tax Act, 1961. The Assessing Officer looked
at the brochure of the machine and came to the conclusion that the machine was
not used for research and development work and disallowed the claim. The
Commissioner (Appeals) held that the AO could not have disallowed the
expenditure without following the procedure prescribed u/s.35(3). Thereafter,
the Revenue could have made an attempt to find out the actual use of the
machine, but it did not do so. The Tribunal confirmed the view taken by the
Commissioner (Appeals).

The Delhi High Court dismissed the appeal filed by the
Revenue and held as under :

“(i) The prescribed authority in this case was not the
Assessing Officer and he could not determine whether the machinery was used by
the assessee for research and development purposes or not.

(ii) Even assuming that the Assessing Officer had the
authority, the least that would have been expected from him was to confirm
physically whether or not the machine was being used for research and
development purposes. No conclusion could be arrived at by the Assessing
Officer by merely looking at the brochure. Therefore, there was no error in
the order passed by the Tribunal.

(iii) Moreover, since there was a gap of so many years, it
would not be appropriate to remand the matter to the Assessing Officer to
refer the matter to the prescribed authority to decide the question whether
the machinery was used for research and development purposes or not.”




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New plea — Pure question of law can be raised at any time — Civil Procedure Code section 96.

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4 New plea —
Pure question of law can be raised at any time — Civil Procedure Code section
96.


[ Ashok Kumar Dulichand
Sharma v. Jethmal Motilal Jedia & Ors., AIR 2010 (NOC) 36 Bom.]


The plaintiff had filed a
suit for declaration that the sale deed executed in favour of the defendant No.
1 was void. The plaintiff had also prayed that the agreement of sale and the
power of attorney executed were null and void. The suit was dismissed. In appeal
before the Court, the appellant plaintiff contented that the registration of
sale deed is void, since the power of attorney itself was not registered as
contemplated by section 32 and section 33 of the Registration Act, 1908. The ld.
counsel for the respondent objected to such a plea being considered on two
counts. First, that such a plea is not raised in the Trial Court and second; had
such plea been raised in the Trial Court, the respondent would have shown that
his case falls in the proviso to section 33.

The Court held that the
first ground needs to be rejected because this was purely a question of law and
could be raised at any time and in any case. As far as the second ground is
concerned, such exemption is granted to a person executing power of attorney and
not to the person in whose favour it is executed. The plaintiff never claimed
such an exemption and was a fit person. Thus the person authorised must hold
registered power of attorney and if he does not hold registered power of
attorney, the registration at his instance is void. The registration of the sale
deed is, therefore, void.


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Precedent — Binding nature — Only ratio decidendi of judgment which constitutes binding precedent.

New Page 1

3 Precedent
— Binding nature — Only ratio
decidendi of judgment which
constitutes binding precedent.


[Amar Kumar Mahto & Anr. v.
State of Bihar & Ors., AIR 2010 Patna 19]

A review application had
been filed by the petitioner for review of order of the learned Single Judge
passed even in absence of the learned counsel for the petitioner, writ
application of the
petitioner was dismissed on merits.

The petitioner relied upon
the decision of a Division Bench of this Court in the case of Kishori Prasad v.
State of Bihar, [reported in 2008(2) PLJR 458] and contended that when the
counsel for the petitioner was not present, the ordinary course open to the
learned Single Judge was either to postpone the hearing of the case or dismiss
it for want of prosecution. But in no circumstance could the same be decided on
merits.

The respondents, in reply,
referred to a later decision of a Division Bench of this Court in the case of
Kedar Nath Tripathi v. The State of Bihar, [reported in 2008(3) PLJR 470]. He
submitted that the later Division Bench in the case of Kedar Nath Tripathi
(supra) considered the decision of the earlier Division Bench in the case of
Kishori Prasad (supra), and explained the same as not laying down correct
proposition of law.

The Court observed that the
doctrines of ‘binding precedent’ and ‘per incurium’ are deeply embedded
in the judicial system and have been discussed and explained in long series of
judicial pronouncements of English Courts as well as the Supreme Court and the
different High Courts of this country.

Doctrines of ‘decision
per incuriam’ and ‘decision sub silentio’ are exceptions to the fundamental
rules of administration of justice, which require certainty in law and
consistency in judicial decisions for the system to work efficiently and in the
interest of society. Hence, the doctrine of binding precedent was evolved by the
English Courts, laying down that judicial propriety and decorum demand the same
to be followed by the Judges as a rule to ensure uniformity in law and judicial
decisions, unless certain exceptional circumstances are held to exist. Thus,
judicial discipline requires a Co-ordinate Bench to follow the judgment of an
earlier Co-ordinate Bench rendered on the issues of law for general application.
That is why in absence of a law laid down or interpreted by the Apex Court under
Article 141 for universal application, the law laid down by one High Court on
the same issue also has a persuasive value for the other Courts in the country.
This indispensable foundation for dispensation of justice has been evolved to
provide at least some degree of certainty upon which individuals can rely in the
conduct of their affairs, as well as a basis for orderly development of legal
rules and to avoid, to the maximum, uncertainty and confusion in the application
of law in the process of healthy development of social fabric. But it is not
that the whole judgment and all observations and findings therein are to be
taken as binding precedent by a subsequent Co-ordinate Bench. It is only the ‘ratio
decidendi’ of the judgment which constitutes a binding precedent.

The ‘obiter dicta’ of
a Judge has also no precedential value. It is only a considered enunciation of
law by the Judge on points arising or raised in the case directly, which has a
precedential value, and not the unnecessary statements or opinion, out of
context, made beyond the occasion, unnecessary for the purpose at hand or made
by way of passing remark.

Decisions rendered ‘per
incuriam’ also fall outside the category of binding precedent. Hence
decisions, contrary to the provisions of the Act or patently erroneous are not
to be treated as binding precedent. ‘Incuria’ literally means ‘carelessness’ and
‘per incuriam’ are those decisions rendered in ignorance of some clear statutory
provision or in ignorance of some law laid down by the Apex Court or a clear
decision of a Co-ordinate or Larger Bench of the same Court on the question of
law of universal
application.

But merely a different
opinion or a possible different interpretation of law cannot be a ground to hold
an earlier decision of a Co-ordinate Bench as rendered ‘per incuriam’ or ‘sub
silentio’ or not a binding precedent.

Thus, it is only a decision,
rendered contrary to law, statutory or Judge-made, or a binding precedent, or an
obligatory authority, and patently erroneous, is ‘per incuriam’. In the
circumstances, the Court found that there was no merit in the review
application.

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Retracted confession : No reliance can be placed on the retracted statement, unless the same was corroborated substantially in material particulars by some independent evidence : FERA, 1973.

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5 Retracted confession : No reliance can be
placed on the retracted statement, unless the same was corroborated
substantially in material particulars by some independent evidence : FERA,
1973.

Search action was undertaken at the office
premises of the appellant on 25-10-1994. He was detained for next two
succeeding days where he allegedly made two statements before the authorities
under the Act. He is stated to have confessed that he was responsible for
remittance of the foreign exchange.

On 28-10-1994, he was produced before the Chief
Metropolitan Magistrate, Bombay (CMM). Before the CMM he filed an application
retracting his confession. Thereafter the respondent initiated proceeding
u/s.8(3) of the Act. The appellant contended that no reliance should be placed
on the retracted confession statement unless the same was corroborated
substantially in material particulars by some independent evidence.

The authority on the basis of the confession
imposed a consolidated penalty of Rs.10 lacs. The Appellate Tribunal dismissed
the appeal and held that the onus of proof was on the appellant that the
confession was obtained from him by threat, coercion or force. On further
appeal the High Court upheld that finding of the Tribunal.

On further appeal to the Supreme Court, the Court
observed that indisputably, a confession made by an accused would come within
the purview of S. 24 of the Indian Evidence Act, 1872. The FERA Act is a
special Act, which confers various powers upon the authorities prescribed
therein. Even the salutary principles of mens rea and actus reus
in a proceeding under the Act may not be held to be applicable. It was now a
well-settled principle that presumption of innocence as contained in Article
14(2) of the International Covenant on Civil and Political Rights is a human
right, although per se it may not be treated to be a fundamental right
within the meaning of Article 21 of the Constitution of India.

It was a trite law that evidences brought on
record by way of confession which stood retracted must be substantially
corroborated by other independent and cogent evidences, which would lend
adequate assurance to the Court that it may seek to rely thereupon. In some of
the cases retracted confession has been used as a piece of corroborative
evidence and not as the evidence on the basis whereof alone a judgment of
conviction and sentence has been recorded.

A person accused of commission of an offence is
not expected to prove to the hilt that the confession had been obtained from
him by any inducement, threat or promise by a person in authority. The burden
is on the prosecution to show that the confession is voluntary in nature and
not obtained as an outcome of threat, etc. if the same is to be relied upon
solely for the purpose of securing a conviction. With a view to arrive at a
finding as regards the voluntary nature of a statement or otherwise of a
confession which has since been retracted, the Court must bear in mind the
attending circumstances which would include the time of retraction, the nature
thereof, the manner in which such retraction has been made and other relevant
factors. Law does not say that the accused has to prove that retraction of
confession made by him was because of threat, coercion, etc., but the
requirement is that it may appear to the Court as such.

In the instant case, the Investigating Officers
did not examine themselves. The authorities under the Act as also the Tribunal
did not arrive at a finding upon application of their mind to the retraction
and rejected the same upon assigning cogent and valid reasons therefor.
Whereas mere retraction of a confession may not be sufficient to make the
confessional statement irrelevant for the purpose of a proceeding in a
criminal case or a quasi-criminal case, but there cannot be any doubt
whatsoever that the Court is obligated to take into consideration the pros and
cons of both the confession and retraction made by the accused. It is one
thing to say that a retracted confession is used as a corroborative piece of
evidence to record a finding of guilt, but it is another thing to say that
such a finding is arrived at only on the basis of such confession although
retracted at a later stage.

The Court further observed that the appellant was
arrested on 27-10-1994; he was produced before the learned Chief Metropolitan
Magistrate on 28-101994. He retracted his confession and categorically stated
the manner in which such confession was purported to have been obtained.
According to him, he had no connection with any alleged import transactions,
opening of bank accounts, or floating of company export control, bill of entry
and other documents or alleged remittances. He stated that confessions were
not only untrue, but also involuntary.

The allegation that he was detained in the Office of
Enforcement Department for two days and two nights had not been refuted. No
attempt was made to controvert the statements made by the appellant in his
application filed on 28-10-1994 before the learned Chief Metropolitan
Magistrate. Furthermore, the Tribunal as also the authorities misdirected
themselves in law insofar as they failed to pose unto themselves a correct
question. The Tribunal proceeded on the basis that issuance and services of a
show-cause notice subserves the requirements of law only because by reason
thereof an opportunity was afforded to the proceedee to submit its
explanation. The Tribunal ought to have based its decision on applying the
correct principles of law. The statement made by the appellant before
the learned Chief Metropolitan
Magistrate was not a bald statement. The inference that burden of proof that
he had made those statements under threat and coercion was solely on the
proceedee does not rest on any legal principle. The question of the
appellant’s failure to discharge the burden would arise only when the burden
was on him. If the burden was on the Revenue, it was for it to prove the said
fact. The Tribunal on its independent examination of the factual matrix placed before it did not arrive at any finding that the confession being free from any threat, inducement or force could not attract the provisions of S. 24 of the Indian Evidence Act.

In view of the above the appeal was allowed.

[Vinod Solanki v. UOI & Anrs., Civil Appeal No. 7407 of 2008, dated 18-12-2008, Supreme Court. (source: itatonline.org), 2009 (233) ELT 157 (SC)

Liability of legal heirs — Partner — Loan borrowed by firm on mortgage — Partnership Act 1932 section 18 and section 22.

New Page 1

1 Liability
of legal heirs — Partner — Loan borrowed by firm on mortgage — Partnership Act
1932 section 18 and section 22.


[Smt. Bramaramba v. T.
Madhawarao & Co. & Ors., AIR 2010 (NOC) 244 (Mad.)]

Loan was borrowed by firm on
mortgage. Promissory note was executed by partners in name and on behalf of
firm. Partners admitted borrowing and execution of promissory note.
Subsequently, partnership dissolved on account of death of one of partners. The
Court held that remaining partners were personally liable to discharge the debt.
The estate of deceased partner also answerable to suit debt apart from mortgaged
property. However, legal heirs of deceased partner were not personally liable
for suit debt, but were entitled to share of balance amount of sale proceeds of
mortgaged property in auction. Amount due under promissory note, not binding on
legal heirs.

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Public action : Bank has discretion to sell property below reserve price : Security Interest (Enforcement) Rules 2002, Rule 9

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4 Public action : Bank has discretion to sell
property below reserve price : Security Interest (Enforcement) Rules 2002,
Rule 9.

In the instant case, the Bank invited bids for
sale of the house and as per the Bank it had received highest bid of Rs.50
lakhs and reserved price of the house has been fixed at Rs.60 lakhs by the
Bank. Question arose as to whether the Bank can sell the house in a price less
than the reserve price ? The Court held that as per proviso of Rule 9(2) no
sale under this rule shall be confirmed if the amount offered by sale price is
less than the reserve price, however, the proviso to the aforesaid Rule
further provides that if the authorised officer fails to obtain a price higher
than reserve price, he may with the consent of the borrower and the creditor
effect the sale at such price.

Question arose whether authorised officer is
bound to sell the immovable property with the consent of the borrower and
secured creditor, if he fails to obtain higher price than reserve price or it
is the discretion of the authorised officer to obtain the consent of the
borrower and secured creditor or without consent he can effect the sale at
lower than the reserve price. The Court held that as per the aforesaid Rule
the Bank is obliged not to auction sale the property below the reserve price.
However, in the aforesaid Rule the word ‘may’ in the facts of the case cannot
be interpreted as a mandatory dictate to the Bank not to sell the property
below the reserve price. When the word ‘may’ has been used in statute or rule
it cannot always be interpreted that it is a mandatory provision and in view
of the provisions of the aforesaid Rule the word ‘may’ cannot be construed as
mandatory, because the Act has been enacted to facilitate recovery of loan by
financial institutions. It may be possible that in certain circumstances, as
in the instant case, financial institution is not in a position to fetch or
receive the reserve price, hence it has a discretion to sell the property
below the reserve price of the property.

[Smt. Godawari Shridhar v. Union Bank of India
& Anr., AIR 2009 Madhya Pradesh 13]

[Farhd K. Wadia v. UOI & Others, Civil
Appeal No. 7131 of 2008 {Arising out of SLP (Civil) No. 22939 of 2004), dated
5-12-2008 Supreme Court}

(source : itatonline.org) 2009 (1) scale
293]

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Hindu Marriage : A marriage under Hindu Marriage Act, 1955 can be entered into by two Hindus : Hindu Marriage Act, 1955

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2 Hindu Marriage : A marriage under Hindu
Marriage Act, 1955 can be entered into by two Hindus : Hindu Marriage Act,
1955.

The issue involved in the instant case is as
under: Whether a marriage entered into by a Hindu with a Christian is valid
under the provisions of the Hindu Marriage Act, 1955 ?

The appellant, who is a Roman Catholic Christian
allegedly married the respondent, who is a Hindu, on 24-10-1996, in a temple
only by exchange of ‘Thali’ and in the absence of any representative from
either side. Subsequently, the marriage was registered on 2-11-1996 u/s.8 of
the Hindu Marriage Act, 1955.

Soon thereafter, on 13-3-1997, the
respondent-wife filed a petition before the Family Court u/s.12(1)(c) of 1955
Act, for a decree of nullity of the marriage entered into between the parties
on 24-10-1996 on the grounds mentioned in the said petition.

The main ground for declaring the marriage to be
a nullity was mainly misrepresentation by the appellant regarding his social
status and that he was a Hindu by religion, although it transpired after the
marriage that the appellant and his family members all professed the Christian
faith. The Family Court dismissed the said petition against which an appeal
was preferred by the respondent before the High Court, which allowed the
appeal by its judgment and order dated 12-9-2002 upon holding that the
marriage between a Hindu and a Christian under the 1955 Act is void ab
initio and that the marriage was, therefore, a nullity.

The appellant filed a Special Leave Petition out
of which the present appeal arises. The argument advanced on behalf of the
appellant, that the Hindu Marriage Act, 1955 does not preclude a Hindu from
marrying a person of some other faith.

The Court observed that there is no dispute that
at the time of the purported marriage between the appellant and the respondent
the appellant was a Christian and continues to be so, whereas the respondent
was a Hindu and continues to be so. There is also no dispute that the marriage
was alleged to have been performed under the Hindu Marriage Act, 1955, and was
also registered u/s.8 thereof.


The provisions of S. 5 of the 1955 Act which
prescribes the conditions for a Hindu marriage are as follows :

“A marriage may be solemnised between any two
Hindus, if the following conditions are fulfilled, namely : . . . .”

The Preamble to the Hindu Marriage Act, 1955,

reads as follows : “An Act to amend and codify the law relating
to marriage among Hindus.”

The Court observed that the Preamble itself
indicates that the Act was enacted to codify the law relating to marriage
amongst Hindus. S. 2 of the Act which deals with application of the Act, and
has been reproduced hereinabove, reinforces the said proposition.

S. 5 of the Act thereafter also makes it clear
that a marriage may be solemnised between any two Hindus if the conditions
contained in the said Section were fulfilled. The usage of the expression
‘may’ in the opening line of the Section, does not make the provision of S. 5
optional. On the other hand, it in positive terms, indicates that a marriage
can be solemnised between two Hindus if the conditions indicated were
fulfilled. In other words, in the event the conditions remain unfulfilled, a
marriage between two Hindus could not be solemnised. The expression ‘may’ used
in the opening words of

S. 5 was not directory, as has been sought to be
argued, but mandatory and non-fulfilment thereof would not permit a marriage
under the Act between two Hindus. S. 7 of the 1955 Act is to be read along
with S. 5 in that a Hindu marriage, as understood u/s.5, could be solemnised
according to the ceremonies indicated therein. Accordingly the appeal was
dismissed.

[Gullipilli Sowria Raj v. Bandaru Pavani,
Civil Appeal No. 2446 of 2005, dated 4-12-2008 Supreme Court. (Source :
itatonline.org) 2008 (16) SCALE 109]

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Noise pollution : Silence is one of the human rights as noise is injurious to human health : Violation of Articles 14 and 21 of the Constitution of India

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3 Noise pollution : Silence is one of the
human rights as noise is injurious to human health : Violation of Articles 14
and 21 of the Constitution of India.

The question involved in the appeal was as under
: Whether musical functions in an open theatre being Rang Bhavan should be
allowed to be carried on or not despite the fact that it is situated within
100 meters of an educational institution and a hospital ?

Rang Bhavan is an institution owned and run by
the State of Maharashtra. It is the only open theatre in the city of Mumbai.
It is let out on hire for the purpose of holding music and cultural programmes.
It charges a meagre amount for allowing private parties to hold functions. It
has a sitting capacity of 4000 persons. It is stated that the world’s greatest
artists, both Western and Indian, have performed therein. Dr. Yeshwant Trimbak
Oke & Ors. filed a public interest litigation bearing PIL No. 2053 of 2003 for
a direction to the State to curb noise pollution in general in the city of
Mumbai and particularly during the festive season of Navratri and Ganesh Utsav.
An order was passed by a Division Bench of the Bombay High Court, directing
that no loudspeaker permission be granted in respect of ‘Silence Zone’ as
defined and discussed in the Noise Pollution (Regulation & Control) Rules,
2000, as amended from time to time.

While the said order was operating, the appellant
made an application to book Rang Bhavan from 13th to 15th August, 2004 in
regard to performance of Western Cultural Music. The said application was
rejected by the State by an order dated 2-6-2004.

The Directorate of Cultural Affairs in a letter
dated 9-7-2004 addressed to the Secretary, Power Productions, also informed
that in accordance with the High Court’s order no. 2503, dated 25-9-2003,
Rangbhavan, Dhobi Talao, Mumbai, the open-air theatre comes under the silence
zone and hence the use of loudspeakers has been banned.

Contending that the said Rang Bhavan had been
lying closed for the past few years and the directions issued by the High
Court are not in consonance with the rules governing noise pollution framed by
the State of Maharashtra, a writ petition was filed by the appellant herein.
The purported public interest litigation was filed by the appellant herein to
seek an exception to the earlier order of the Bombay High Court.

The Court observed that the High Court in the
earlier public interest litigation, being writ petition No. 2053 of 2003,
admittedly passed an order of injunction. If the said order was required to be
modified or clarified and/or relaxation was to be prayed for and granted in
regard to Rang Bhavan, the appellant should have filed an application in the
said proceeding. An independent public interest litigation to obtain a relief
which would be contrary to and inconsistent with the order of injunction
passed by the Court was not maintainable. Inter alia, the doctrine of
comity or amity demands the same.

Silence Zone is an area comprising not less than
100 metres around hospitals, educational institutions, courts, religious
places or any other area which is declared as such by the competent authority.

Thus contention of the appellant that the State
Government has not declared the said zone was an irrelevant point. The High
Court, while passing its interim order dated 25-9-2003, did not state that
silence zone was required to be declared, but passed the order of restraint in
respect of silence zone, as ‘defined and discussed in the Rules’. The parties
thereto and particularly the State of Maharashtra had understood the said
order in that light.

Interference by the Court in respect of noise
pollution is premised on the basis that a citizen has certain rights being
‘necessity of silence’, ‘necessity of sleep’, ‘process during sleep’ and
‘rest’, which are biological necessities and essential for health. Silence is
considered to be golden. It is considered to be one of the human rights as
noise is injurious to human health which is required to be preserved at any
cost.

As there was no merit in this appeal the petition
was dismissed.

[Farhd K. Wadia v. UOI & Others, Civil
Appeal No. 7131 of 2008 {Arising out of SLP (Civil) No. 22939 of 2004), dated
5-12-2008 Supreme Court}

(source : itatonline.org) 2009 (1) scale
293]

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Co-operative Housing Society cannot be said to be public authority : Right to Information Act, S. 2(h)

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1 Co-operative Housing Society cannot be said to
be public authority : Right to Information Act, S. 2(h).

It is the case of the society that in the month of
Feb. 1970 it was registered under the Karnataka Co-operative Societies Act,
1959. The society is governed by bye-laws approved by the respondent. It is
contended that the society has not received any financial assistance from the
State Govt. and therefore the society cannot be a public authority within the
scope of the Act. But the respondent No. 2 Registrar of Cooperative Societies
has issued a notification dated 22-9-2005 to the effect that all co-operative
societies in the State are public authorities. When certain members sought for
information, the other members of the society opposed divulging information
pertaining to them. Therefore, the society rejected their request to furnish the
information on both counts. When the appeal was preferred to the Chairman of the
society, he wrote a letter to respondent No. 2 pointing out the provisions of
the Act. The Respondent No. 2 by his reply dated 30-10-2006 intimated the
Chairman of the society stating that u/s.2(h)(d) of the Act all co-operative
societies are public authorities. The respondent No. 1/Karnataka Information
Commission, on the basis of the notification dated 22-9-2005, by order dated
1-9-2006, directed the Registrar of Co-op. Societies to seek information from
the society and furnish the same to the applicant. The petitioner society
therefore filed writ under Article 226 of the Constitution of India before the
Court.

The Court observed that in the instant case the
petitioner/housing society is neither owned nor funded nor controlled by the
State. It is not the case of the State that the notification dated 22-9-2005 has
been issued u/s.2(h)(d) of the RTI Act. Solely on the basis of supervision and
control by the Registrar of Societies; and the definition of ‘public servant’ in
the Karnataka Co-op. Societies Act and in the Karnataka Lokayukta Act, 1984 a
society cannot be termed as ‘public authority’. So as to include a society
within the definition of the term ‘public authority’, it should fulfil the
conditions stipulated in sub-clause (d) of clause (h) of S. 2 of the RTI Act.
Therefore the petition was allowed holding that the petitioner-society was not a
public authority under the provision of the RTI Act, 2005.

[Dattaprasad Co-op. Hsg. Society Ltd., Bangalore
v. Karnataka State Chief Information Commissioner & Anr., AIR 2009 Karnataka
1.]

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Surety’s liability : where liability of principal debtor is extinguished, the surety’s liability gets automatically terminated – contract act s. 128

New Page 1

4 Surety’s liability : where liability of
principal debtor is extinguished, the surety’s liability gets automatically
terminated : contract act s. 128.


In the instant case, the suit against the principal debtor
was dismissed for default and decision became final. Therefore, under law, there
was no liability surviving against debtor for realisation of amount due to the
creditor.

 

The Andhra Pradesh High Court held that once the liability of
principal debtor was extinguished, the sureties’ liability gets automatically
terminated. Therefore, without making the principal debtor liable for payment of
amount to the creditor, the sureties cannot be made liable for recovery of the
amount.

 

A surety is a person who comes forward to pay the amount in
the event of the borrower failing to pay the amount, unless it is held by a
competent Court through a decree that he is not liable to pay the amount due to
the creditor and when he denies the liability, it becomes difficult for the
creditor to realise the amount. In the event of a decree in favour of the
creditor against the principal borrower, the wings of the decree can also be
extended against the sureties as their liability is co-extensive with the
principal debtor. Once there is a decree, the creditor is at liberty to proceed
either against the principal borrower or sureties, provided that the remedy of
the surety is available for recovery of the amount against the principal debtor
after payment of the amount to the creditor.

[M/s. Kurnool Chit Funds (P) Ltd. v. P. Narasimha &
Ors., AIR 2008 AP 38.]

 


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Unfair trade practice by car manufacturer : Consumer Protection Act. S. 2(1)(r) and S. 2(1)(g)

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5 Unfair trade practice by car manufacturer :
Consumer Protection Act. S. 2(1)(r) and S. 2(1)(g).


The consumer purchased a Mercedez Benz, a luxurious car :
There was one manufacturing defect pointed out, which required repeated repairs
after its purchase. It was held that the consumer was entitled to get
replacement or refund of purchase price of car. Non-replacement of vehicle would
tantamount to unfair trade practice.

[M/s. Controls & Switchgear Company Ltd. v. M/s. Daimler-Chrysler India
Pvt. Ltd. & Anr., AIR 2008 (NOC) 385 (NCC)]

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Precedent : Constitution of India, Article 141

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3 Precedent : Constitution of India, Article
141.


Every decision contains three basic postulates : (a) findings
of material facts, direct and inferential. An inferential finding of facts is
the inference which the judge draws from the direct, or perceptible facts; (b)
statements of the principles of law applicable to the legal problems disclosed
by the facts; and (c) judgment based on the combined effect of the above. A
decision is an authority for what it actually decides What is of the essence in
a decision is its ratio and not every observation found therein, nor what flows
logically from the various observations made in the judgment. The enunciation of
the reason or principle on which a question before a Court has been decided is
alone binding as a precedent. Observations of Courts are neither to be read as
Euclid’s theorems, nor as provisions of the statute and that too taken out of
their context.

[Oriental Insurance Co. Ltd. v. Smt. Rajkumari & Ors.,
AIR 2008 SC 403]

 


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Adoption : Law does not recognise an adoption by a Hindu of any person other than a Hindu: Hindu Adoption & Maintenance Act, 1956, S. 6

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1 Adoption : Law does not recognise an
adoption by a Hindu of any person other than a Hindu: Hindu Adoption &
Maintenance Act, 1956, S. 6.


The petitioner Kumar Sursen, who was then a minor had filed
the petition for grant of caste certificate and residential certificate on basis
that he was the adopted son of Kamal Prasad Roy and was residing with him at
village Madarpur in the district of Vaishali. The district authorities had
dismissed the petition, on the ground that the petitioner was in fact a Muslim
boy named Sahadat and is the natural son of Majid Mian and Ayesha Khatoon. The
petitioner’s case was that he was adopted by Kamal Prasad Roy. The said Kamal
Prasad Roy does not dispute the above fact. He, accordingly, wanted this boy to
have this caste and his residential certificates.

 

The Patna High Court held that under the Hindu Adoption and
Maintenance Act, 1956, S. 6 thereof permits adoption by a Hindu of a Hindu child
alone. Law does not recognise an adoption by a Hindu of any person other than a
Hindu. If that be so, the adoption, as sought to be done in respect of the
petitioner by Kamal Prasad Roy, has no legal sanctity, though it may be morally
binding between the parties. If that be so, then unfortunately the boy cannot
get the caste certificate of his alleged adoptive parents. Similarly, he cannot
get a residential certificate and both cannot be granted in his name showing him
son of Kamal Prasad Roy.

 

Writ application was dismissed, as such giving liberty to the
petitioner or his alleged adoptive parents to approach for grant of requisite
certificate.

[ Kumar Sursen v. State of Bihar & Ors., AIR 2008
Patna 24]

HUF recovery of loan : Karta of HUF can enter into contract for mortgage of undivided share of his minor son for legal necessity

New Page 1

2 HUF recovery of loan : Karta of HUF can
enter into contract for mortgage of undivided share of his minor son for legal
necessity.


The undivided share of the appellant in the joint Hindu
family was mortgaged by his father as karta for family business and for legal
necessity. At the time of availing of the loan, the appellant was a minor. The
respondent bank filed the original application against five borrowers for
recovery of Rs.67 lakhs. The Debts Recovery Tribunal held in favour of the bank.
Thereafter, the bank proceeded to recover the due amount by putting to auction
the mortgaged property. The appellant preferred objections before the Recovery
Officer. Which were rejected by the Recovery Officer.

 

On appeal, the Debt Recovery Appellate Tribunal dismissed the
appeal, holding that the debt had not been raised by the appellant’s father as a
karta for his personal benefit and had not been taken for immoral or illegal
purposes. The loan and credit facilities were availed of by the appellant’s
father as karta of the joint Hindu family very much for legal necessity that is
family business. The appellant could challenge the mortgage with regard to his
share only on establishing that the mortgage had been created without legal
necessity or that it was tainted with illegaility or immorality. The mortgage
was binding on the appellant.

 

The property belonging to a joint family is ordinarily
managed by the father or other senior member for the time being of the family.
The manager of a joint Hindu family is called the karta. So long as the members
of a family remain undivided, the senior member of the family is entitled to
manage the family property. The karta or manager has the power to contract debts
for family purpose and family business. A joint Hindu family may have no
business at all, and yet debts may be contracted by the manager for a joint
family purpose. Such debts are binding on other members. Besides the power to
contract debts for the family business, the manager has the power of making
contracts, giving receipts and compromising or discharging claims ordinarily
incidental to the business. Indeed without a general power of that kind, it
would be impossible to carry on the business. The power of the manager of a
joint Hindu family to alienate the joint family property is analogous to that of
a manager for an infant heir. The manger of a joint Hindu family has the power
to alienate for value, joint Hindu family property, so as to bind the interest
of both adults and minors in the property, provided that the alienation is made
for legal necessity for the benefit of the estate.

[ Rajat Pangaria v. State Bank of Bikaner and Jaipur &
Ors., (2008) 141 Comp Cas 323 (DRAT) (Delhi)]

 


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Relaxation of Additional Fees for some forms till 31-03-2013

Accounting Standards – Twenty seven tales on Consolidated Financial<br /> Statements (AS 21)

14. Relaxation of Additional Fees for some forms till 31-03-2013

The Ministry of Corporate Affairs has vide General Circular No. 7/2013, dated 20-03-2013 relaxed the additional fees payable on filing of various forms with the MCA till 31-03-2013 which was earlier relaxed till 28-02-2013 vide the general Circular no. 3/2013 dated 08-02-2013.

Gaps in GAAP – Compensated absences (such as annual leave) – Whether long-term or short-term under IAS 19s?

Accounting Standards

Fact pattern :


In India, employees are entitled to fixed annual leave, say
20 days, per completed year of service. The employees have a right to utilise
the leave at any time after entitlement or alternatively seek cash compensation
on resignation/retirement. Based on past experience, employees generally do not
utilise their leave entitlement immediately. Rather they carry forward a
substantial portion of the unutilised leaves (usually representing the maximum
ceiling imposed by the company — this could range from 180-300 days) up to
retirement/resignation. The carry forward leave is then encashed at the time of
retirement/resignation.

The value of leave liability if determined based on
short-term or long-term classification under IAS 19, may provide materially
different provision amounts. This is because long-term classification involves
discounting and use of the PUC actuarial valuation method.


Question:





  •  From IAS 19 perspective, whether compen sated absences
    are short-term or other long-term employee benefits ?


  •  How is the presentation of the liability done under IAS
    1 — whether current or non-current ?



Term


Definition pre-2007 amendment


Definition post-2007 amendment

Short-term
employee benefits


Short-term employee benefits are
employee benefits (other than termination benefits) which fall due
wholly within twelve months after the end of the period in which the
employees render the related service.


Short-term employee benefits are
employee benefits (other than termination benefits) that are due to be
settled within twelve months after the end of the period in which
the employees render the related service.

Other long-term employee benefits

Other long-term employee benefits
are employee benefits (other than post-employment benefits and termination
benefits) which do not fall due wholly within twelve months
after the end of the period in which the employees render the related
service.

Other long-term employee benefits
are employee benefits (other than post-employment benefits and termination
benefits) that are not due to be settled within twelve months
after the end of the period in which the employees render the related
service.

Paragraph 8

extracts


Short-term employee benefits include
items such as : short-term compensated absences (such as paid annual leave
and paid sick leave) where the absences are expected to occur within
twelve months after the end of the period in which the employees render the
related employee service.

Short-term employee benefits include
items such as : short-term compensated absences (such as paid annual leave
and paid sick leave) where the compensation for the
absences is due to be settled within twelve months after the end of
the period in which the employees render the related employee service.

Discussion:

Requirements of IAS 19:

Position before amendment of IAS 19 in 2007:

Before the 2007 annual improvements project, paragraph 7 of
IAS 19 stated that short-term benefits (which include compensated absences) fall
due within twelve months from the end of the reporting period when the employee
has rendered the service. Short-term compensated absences were described in
paragraph 8 as benefits ‘expected to occur’ within twelve months after the end
of the period. Other long-term employee benefits were defined as employee
benefits which are expected to ‘fall due’ more than twelve months from the end
of the period. Therefore, a compensated absence which is due to the employee but
is not expected to occur for more than twelve months, was not an ‘other
long-term employee benefit’ as defined in paragraph 7 of IAS 19, nor was it a
short-term compensated absence as described in paragraph 8 of IAS 19.

Amendment in annual improvement project 2007:

The IASB’s intention was to require measurement based on
expected time of settlement. With a view to resolve the above conflict, the IASB
amended the definition of short-term employee benefits and other long-term
employee benefits to replace the terms ‘fall due’ and ‘expected to occur’ with
‘due to be settled.’ It has made a similar amendment in paragraph 8 as well.

Basis for conclusion paragraphs BC4B and BC4C to the amendment provide as below?:

“BC4B?.?.?.?.?the IASB concluded that the critical factor in distinguishing between long-term and short-term benefits is the timing of the expected settlement. Therefore, the IASB clarified that other long-term benefits are those that are not due to be settled within twelve months after the end of the period in which the employees rendered the service.

BC4C?.?.?.?.?The IASB noted that this distinction between short-term and long-term benefits is consistent with the current/ non-current liability distinction in IAS 1 Presentation of Financial Statements. However, the fact that for presentation purposes a long-term benefit may be split into current and non-current portions does not change how the entire long-term benefit would be measured.”

While paragraph BC4B indicates that short-term/ long-term classification should be based on expected settlement, reference to IAS 1 in paragraph BC4C means that a leave may be treated as long-term only if the entity has an unconditional right to defer settlement of liability for at least twelve months after the reporting period.

In other words, whilst the IASB’s intention was to measure such liability based on expected time of settlement, the confusing wordings in IAS 19, both pre and post revision, lend itself to two views.

Position in India?:

In Indian GAAP, the requirements of accounting standard are in line with pre-revised IAS 19. The ICAI has taken a view to treat compensated absences as other long-term employee benefits. Consequently, the practice under Indian GAAP is to treat the leave liability as long-term. In the few IFRS accounts published by Indian companies, it appears that leave liability has been provided based on long-term classification. However, that may not necessarily be what other companies would do, as they start adopting IFRS in 2011.

Further points to consider?:

   i) The IASB has also recognised this issue and has tentatively approved a proposal to amend paragraph BC4C in the basis for conclusion to delete the reference to consistency with IAS 1 and add a sentence to paragraph BC4B to clarify that the definitions of short-term employee benefits and other long-term employee benefits are based on the timing of when the entity expects the benefit to become due to be settled. This indicates that IASB preference is to treat accumulated absences as long-term.

    ii) Globally there appears to be a mixed practice and a mixed view on this issue.

Authors view?:

Under IAS 19?:

The long-term classification for measurement of liability under IAS 19 seems more relevant to India given that this is how it has been accounted for so far, this is the intent of the IASB as well as this is based on ICAI guidance. However, given the confus-ing drafting and reference to IAS 1 in the BC, and the use of the words ‘due to be settled’, the short-term view is also sustainable.

Under IAS 1?:

With regards to presentation under IAS 1 as current or non-current, the same would be current liability because the entity does not have an unconditional right to defer settlement of the liability for at least twelve months after the reporting period.

GAPs in GAAP – AS-7 – Percentage of completion accounting based on an output measure

In applying percentage of completion accounting based on an output measure (e.g., completion of physical proportion of contract work), how should incurred costs be accounted for ? The following example is used to illustrate the issue. Assume that all contract costs incurred in each period can be attributed to the output in that period.

View 1: Allocate costs in the same proportion as revenue

AS-7, paragraph 21 requires both contract revenue and contract costs to be recognised as revenue and expenses by reference to the stage of completion. Paragraph 24 also states that contract revenue is matched with the contract costs incurred in reaching the stage of completion, resulting in the reporting of revenue, expenses and profit that can be attributed to the proportion of work completed. Therefore when revenue is recognised based on an output measure, the actual incurred contract cost should be allocated pro rata between expenses and inventory. This view results in the same gross margin percentage throughout the contract period as can be seen below.


View 2:

Recognise  costs as incurred

Paragraph 25 indicates that contract costs usually are recognised as an expense in the accounting periods in which the work to which they relate is performed. Paragraph 26 requires incurred costs that related to future activity to be recognised as assets. Therefore incurred costs that can be attributed to activity in the current period should be expensed. This view results in a changing gross margin percentage throughout the contract period.


Conclusion:

As can be seen from a plain reading of the standard, two views are possible. The standard-setters should clarify this issue, so that there can be uniformity  in practice  on this issue.

Whether Transfer of Intellectual Property Rights, While Transferring Whole Business, Liable to Sales Tax?

Introduction

Under Sales Tax/VAT Laws , tax is levied on transaction of ‘sale’. ‘Sale’ can be said to have taken place when it fulfills minimum criteria laid down in the Sale of Goods Act. This aspect has also been dealt with by Honourable Supreme Court, in the landmark judgment, in the case of Gannon Dunkerley and Co. (9 STC 353). In respect of ‘sale’ transaction, Honourable Supreme Court has observed as under:

“Thus, according to the law both of England and of India, in order to constitute a sale, it is necessary that there should be an agreement between the parties for the purpose of transferring title to goods, which of course presupposes capacity to contract, that it must be supported by money consideration, and that as a result of the transaction property must actually pass in the goods ……”

From the above passage, it is clear that to be a ‘sale’, the following criteria should be fulfilled.

(i)    There should be two parties to contract i.e., seller and purchaser,
(ii)    The subject matter of sale should be moveable goods,
(iii)    There must be money consideration and
(iv)    Transfer of property i.e., transfers of ownership from seller to purchaser.

If the above criteria are fulfilled, there is no doubt that it will be a ‘sale’. However, to come within sales tax net, the further requirement is that it should be in ‘course of business’.

Part/whole transfer of business – vis-à-vis Sale of Intellectual Rights

An issue arises when intellectual rights are transferred to transferee while transferring part or whole of business. In other words, there may be cases where a running division of a business concern may be transferred to other business concern or the whole business concern may be transferred to another entity.

Normally, transfer of division or whole business to other concern does amount to sale. It is a transaction of change in constitution. Reference can be made to determination order in case of Bharat Bijlee Ltd. (DDQ 11/2004/Adm-5/54/B-2 dt. 12-10-2004)

In this case, one division of the company was transferred to another company under a scheme of arrangement. Commissioner of Sales Tax, Maharashtra State, noted that the Division is transferred in its entirety and held that there is no sale of any goods as such. It is change of constitution and not ‘sale’.

The judgment in case of Coromandel Fertilisers Ltd. (112 STC 1)(A.P.) was relied upon.

Coromandel Fertilisers Ltd. (112 STC 1)(A.P.)

In this case, the whole business was transferred to the other company. Sales tax authority considered the same as sale of ‘good’ i.e., the transfer of busi-ness was considered as sale of goods liable to tax. Honourable A.P. High Court rejected the contention, holding that it is not covered under Sales Tax Laws. The goods consisted in business were also held as not liable to tax, as business itself ended and transaction cannot be said to be in the course of business.

Kwality Biscuits (P) Ltd. vs. State of Karnataka (53 VST 66)(Karn)

Recently Honourable Karnataka High Court had an occasion to consider this situation.

In this case, the facts were as under:

“The petitioner- dealer was engaged in manufacture and sale of biscuits and confectionery, wheat products, jams, jellies and creams. Its promoters entered into an agreement with Britannia, under which the promoters of the dealer-company agreed to exit the business of biscuits by effecting a sale of the entire business as a whole and as a going concern. The entire assets as well as liabilities including the movables and immovables, goodwill, intellectual property assets such as registered trademarks and brand names as well as unregistered trademarks and brand names stood transferred by virtue of sale/transfer of equity shares held by the promoters along with their family members in the dealer-company in favour of Britannia. The question was whether the sale of intellectual property owned by the dealer-company attracted payment of sales tax under the Karnataka Sales Tax Act, 1957:

Honourable Court referred to various judgments, throwing light on various aspects involved like, meaning of ‘business’, ‘goods’ and others.

In respect of ‘business’, amongst others, reference made to judgment of Honourable A. P. High Court in Coromandel Fertilisers Ltd. (112 STC 1)(A.P.) as under:

“22. In order to highlight the issue which we propose to address ourselves in extenso, it is necessary to note that the Act ordains that transfer of property in goods for valuable consideration must be ‘in the course of trade or business’ (vide section 2(1)(n)). This is so, because the incidence of tax falls on a dealer who ‘carries on the business of buying, selling, supplying or distributing goods’ (vide section 2(1) (e)). A sale by a person who carries on the business of buying, selling, etc., and a sale in the course of business are the twin indispensable requirements to attract the charge of tax under the APGST Act. The crucial question then is, whether these requirements are satisfied. Is there an element of business present in these disputed transactions? Assuming there was a sale of goods, did such sale take place ‘in the course of business’ and by a person who carries on the business of buying and selling goods?”

They have also referred to the meaning of the word “business” as explained in the aforesaid Raipur case [1967] 19 STC 1 (SC), as under (pages 14 and 29 in 112 STC):

“24. The expression ‘business’, though extensively used in taxing statutes, is a word of indefinite import. In taxing statutes, it is used in the sense of an occupation, or profession which occupies the time, attention and labour of a person, normally with the object of making profit. To regard an activity as business, there must be a course of dealings, either actually continued or contemplated to be continued with a profit-motive, and not for sport or pleasure. Whether a person carries on business in a particular commodity must depend upon the volume, frequency, continuity and regularity of transactions of purchase and sale in a class of goods and the transactions must ordinarily be entered into with a profit-motive. By the use of the expression ‘profit-motive’, it is not intended that profit must in fact be earned. Nor does the expression cover a mere desire to make some monetary gain out of a transaction or even a series of transactions. It predicates a motive which pervades the whole series of transactions effected by the person in the course of his activity. In actual practice, the profit motive may be easily discernible in some transactions; in others, it would have to be inferred from a review of the circumstances attendant upon the transaction.

70.    We are therefore of the view that transfer of goods involved in the process of disposing of the entire cement manufacturing unit hitherto owned by the petitioner-company does not tantamount to ‘business’ within the meaning of section 2(1)(bbb) of the Act and the sale is not ‘in the course of business’. The charge to tax is therefore not attracted under the APGST Act.”

In the light of above, Honourable High Court made observations as under:

“Therefore, to attract the liability to pay tax u/s. 5 of the Act, a dealer must be carrying on the business of buying, selling, supplying and distributing goods. A person to be a dealer must be engaged in the business of buying or selling or supplying goods. A person is a dealer within the meaning of the Act, when he carries on the business of buying or selling of goods for consideration paid or payable in future. What is required is that, sale or purchase must take place during the course of business of buying or selling in view of definition of “dealer” in clause (h) of section 2 of the Act. The expression “business”, though extensively used in taxing statutes, is a word of indefinite import. In taxing statutes, it is used in the sense of an occupation, or profession which occupies the time, attention and labour of a person, normally with the object of making profit. To regard an activity as business, there must be a course of dealings, either actually continued or contemplated to be continued with a profit-motive and not for sport or pleasure. Whether a person carries on business in a particular commodity must depend upon the volume, frequency, continuity and regularity of transactions of purchase and sale in a class of goods and the transactions must ordinarily be entered into with a profit-motive. “During the course of business” postulates a continuous exercise of an activity. It also connotes some real, substantial and systematic or organised course of activity or conduct set with a purpose. In taxing statutes, it is used in the sense of a whole time occupation or profession of a person which requires continuous attention and labour. The expression “carrying on business” requires something more than mere selling or buying. It is not merely the act of selling or buying that makes a person a dealer, but the object of the person who carries on the activity is important to attract levy of sales tax. “Sale” means every transfer of the property in goods by one person to another in the course of trade or business for cash or for deferred payment or other valuable consideration. A sale by a person who carries on the business of buying, selling, etc., and a sale in the course of business are the twin indispensable requirements to attract the charge of tax. The taxing statutes must be construed with strictness and no payment is to be exacted from the subject, which is not clearly and unequivocally required by the statute.”

On the facts of the case, Honourable High Court held that the intellectual properties are required till business is running and there is no possibility of selling them. In other words, the High Court held that the sale is not in the course of business or incidental to carrying on business and no tax can be attracted on the same.

Conclusion

The judgment throws light on aspect of ‘course of business’ vis-à-vis such inevitable items where transfer can take place alongwith transfer of running business only and there cannot be independent sale, so as to become taxable as separate sale. It will be useful for dealers in taxation of similar transactions.

Taxability of interest on disputed compensation

Controversies

1. Issue for consideration :


1.1 The Government under the Constitution of India is vested
with the power to compulsorily acquire the private property of its subject in
the given circumstances on payment of compensation. This compensation may in
some cases get enhanced, by the Government or by a Court, where the owner of the
property challenges the quantum of compensation. In such cases of enhancement,
the owner in addition to the compensation is granted interest on the delayed
payment which usually spreads over a period exceeding a year. It is also seen
that the Government in turn challenges the orders of enhancement and interest
thereon, passed by the Courts, before the higher forum, before whom the issue is
finally settled.

1.2 In the circumstances stated in paragraph 1.1, the issues
that arise under the law of income-tax are; whether the compensation received is
taxable or not; whether the interest received thereon is taxable or not and if
yes in which year it will be taxable and whether the interest can be taxed
pending the finalisation of the dispute surrounding the quantum of compensation.

1.3 The first issue referred to in paragraph 1.2 is sought to
be taken care of by insertion of S. 45(5) which provides for taxation of deemed
capital gains on compulsory acquisition of a property. The second issue about
the year of taxation of the interest is rested by the decision of the Apex Court
in the case of Ramabai v. CIT, 181 ITR 400 (SC), wherein it was held that
the interest received on additional compensation should not be taken to have
been accrued in the year of the order, but should be held to have accrued year
after year from the date of handing of the possession of the property till the
date of the order granting the interest and should be spread over the period for
which the same was granted and should be taxed in the respective years. The
third issue continues to emerge repeatedly before the Courts requiring the
Courts to address the issue of the taxability of interest pending its
finalisation.

1.4 A good number of decisions of the High Courts confirms
that the interest on enhanced compensation cannot be taxed till such time the
same is free of any dispute and it is only when the payment thereof is free of
any disputes that it can be brought to tax. As against this, the Revenue
regularly relies on the sole decision of the Andhra Pradesh High Court which
held that the interest should be taxed in the year in which the same was
received under the order of additional compensation and the fact that the
Government had filed an appeal against the order of enhancement shall not defer
the taxation.

2. M. Sarojini Devi’s case :


2.1 The issue came up for consideration of the Andhra Pradesh
High Court in the case of CIT v. M. Sarojini Devi, 250 ITR 759. In that
case, land belonging to the assessee had been acquired by the Government in the
year 1966 and compensation was awarded by the Land Acquisition Officer. The
amount of compensation was challenged by the assessee and on reference,
compensation at a higher rate was awarded in the previous year relevant to the
A.Y. 1976-77, together with an interest of Rs.43,642 for the period 1966 to
1975. The State Government challenged the said order of enhancement in an appeal
before the Supreme Court, which was pending. The Assessing Officer held that the
entire amount of interest on enhanced compensation was liable to tax in A.Y.
1976-77.

2.2 The assessment was challenged in appeal before the
Appellate Commissioner who held that the amount of interest received by the
assessee could not be taxed, as the matter had not become final and an appeal
was pending before the Supreme Court. In deciding the issue, he relied on a
judgment of the same Court in CIT v. Smt. Sankari Manickyamma, 105 ITR
172 (AP). On further appeal before the Tribunal, the Appellate Commissioner’s
view was upheld by following the said decision of the Court.

2.3 The Revenue being aggrieved referred the following
question to the Court : “Whether, on the facts and in the circumstances of the
case, the interest on compensation for the assessment year for which the
interest should be brought to tax is the one in which it was awarded or the year
in which issue of quantum of compensation becomes final ?”

The question raised was reframed by the Court as follows;
“Whether the AO has to wait till the final disposal by the final Court in an
acquisition matter before the interest accrued is taxed ?”

2.4 The Court on consideration of the facts noted that the
question was already answered by the Supreme Court in Rama Bai v. CIT,
181 ITR 400 (SC). The Court observed that the fact that the compensation was
enhanced by the High Court in an appeal and the interest accruing thereon was
received by the assessee made him liable to pay the tax, however, the interest
would be spread over the period for which it accrued to him, in accordance with
the Supreme Court judgment. It also noted that in case the judgment enhancing
the compensation in favour of the assessee was reversed by the Supreme Court,
the assessee, even after payment of tax on the accrued interest, would not be
remediless, as he could seek refund of the tax so paid, by making appropriate
application for rectification of the assessment. Lastly, the Court was of the
view that the judgment relied upon by the Tribunal in Smt. Sankari Manickyamma’s
case, 105 ITR 172 (AP), stood reversed in view of the judgment of the Supreme
Court in Rama Bai’s case, 181 ITR 400.

2.5 The Andhra Pradesh High Court for the above reasons,
answered the question in favour of the Revenue and against the assessee.

3. Karanbir Singh’s case :


3.1 The Punjab & Haryana High Court recently was required to
deal with the issue in the case of CIT v. Karanbir Singh, 216 CTR 585. In
that case land belonging to the assessee was acquired by the Punjab State
Electricity Board in 1962. During the previous year relevant to A.Y. 1986-87,
the assessee received enhanced compensation and interest to the tune of
Rs.11,87,485 and Rs.17,06,686, respectively. The State Government filed an
appeal against the said order of enhancement, which appeal was pending at the
time of assessment. The AO held that the entire amount of interest received of
Rs.17,06,686 was assessable in the assessee’s hands for the A.Y. 1986-87, as the
amount was actually received during that year.

3.2 Aggrieved by the order of assessment on this count, the assessee preferred an appeal before the CIT(A) and inter alia contended that the amount of interest received by the assessee was not taxable in his hands during the year in question in terms of judgment of the Supreme Court in CIT v. Hindustan Housing & Land Development Trust Ltd., 161 ITR 524. The CIT(A) did not accept the contention of the assessee, but directed for taxing only that amount of interest which accrued to the assessee during the assessment year in question, by relying on the decision in the case of Smt. Rama Bai v..CIT, 181 ITR 400 (SC).

3.3 The assessee, being still aggrieved, preferred an appeal before the Tribunal where the Tribunal relying upon decision of the Supreme Court in Hindustan Housing & Land Development Trust Ltd.’s case (supra) accepted the appeal of the assessee by holding that no amount of interest should be taxable, as the matter regarding compensation had not attained finality and was still fluid.

3.4 At the instance of the Revenue, the following question was referred to the Punjab & Haryana High Court; “Whether on the facts and in the circumstances of the case, the Tribunal was right in law in holding that the amount of interest on enhanced compensation received in June, 1985 in consequence upon judgment of District Judge and the amount having been utilised/invested in discretion of the assessee was not includible in the total income of the assessee ?”

3.5 The Revenue contended that the principles of law laid down in Hindustan Housing & Land Development Trust Ltd.’s case (supra) were not applicable in the facts and circumstances of the present case, as the right to receive compensation by the assessee was not in dispute and it was only the quantification thereof on account of which the appeals were pending at the relevant time; that merely because the quantum issue had not attained finality, the amount which had actually been received and was available at the discretion of the assessee could not be held to be non-taxable, as the same would be totally against the spirit of the taxing statute. Reliance was placed upon the judgment of the Andhra Pradesh High Court in CIT v. Smt. M. Sarojini Devi (supra).

3.6 The High Court noted that against a solitary judgment of the Andhra Pradesh High Court in Smt. M. Sarojini Devi’s case (supra), there were many judgments of different Courts taking a view in favour of the assessee on the issue, namely, CIT v. Laxman Das & Anr., 246 ITR 622 (All), Director of IT (Exemption) v. Goyal Charitable Trust, 125 CTR (Del.) 426, 215 ITR 672 (Del.), Chief CIT & Anr. v. Smt. Shantavva, 188 CTR (Kar.) 162,267 ITR 67 (Kar.) and CIT v. Abdul Mannan Shah Mohammed, 248 ITR 614 (Bom.). It also noted that a special leave peti-tion in a similar case was dismissed by the Supreme Court reported in CIT v. [anabaiViihabai Dudhe, 268 ITR (St) 215.

3.7 The High Court agreed that the Andhra Pradesh High Court in Smt. M. Sarojini Devi’s case (supra) had taken the view that the AO need not wait till the matter regarding assessment of compensation attained finality, however, for arriving at the above conclusion, much discussion was not available in that judgment. As against that, the Court found that in a number of judgments as referred to above, different Courts had held that such interest was to be taxed in the year of settlement of dispute and that under similar circumstances, a special leave petition to appeal against the judgment of the Bombay High Court had also been dismissed.

3.8 Keeping in view the totality of circumstances and the ratio of judgment referred to above, the Court decided the issue’ in favour of the assessee and against the Revenue, by holding that the Revenue was not entitled to tax the amount of interest received by the assessee on account of acquisition of land till such time the proceedings in reference thereto attained a finality.

Observations:

4.1 The Supreme Court in CIT v. Hindustan Housing & Land Development Trust Ltd., 161 ITR 524 (SC), held that when the Government had appealed against the award and the- additional amount of compensation was deposited in the Court, it was not taxable at that stage, as the additional compensation would not accrue as income when it was specifically disputed by the Government in appeal.

4.2 A position  that has emerged  and  has gained acceptance on account of the above decision of the Supreme  Court  is that  where  the disputed  additional compensation does not accrue till such time the dispute relating thereto is settled; the question of taxing interest thereon should not arise at all, as the same has also not accrued till then.

4.3 The Bombay High Court following  the above referred Supreme Court decision in the case of Abdul Mannan Shah’s case (supra) held that in view of the said judgment of the Supreme Court, there was no merit in the Revenue’s appeal and that no substantial question of law arose as the judgment of the Supreme Court, on facts, squarely applied to the facts of the case before them. In that case, the Court was required to consider the taxability of the interest on enhanced compensation pending the appeal by the Government.

4.4 Recently a similar view was expressed by the Delhi High Court in Paragon Constructions (I) (P) Ltd. v. CIT & Anr., 274 ITR 413, in a matter pertaining to arbitration where the amount of arbitration award received by the assessee was not held to be taxable till the proceedings attained a finality.

4.5 The issue appears to be fairly settled in favour of the assessee, not only by the decisions of the High Courts, but also by the decision of the Supreme Court in the case of Hindustan Housing & Land Development Trust Ltd. (supra) and in all fairness the Revenue should accept the position law laid down under these decisions to be final where the right to receive enhanced compensation itself is disputed by the Government. This acceptance will in turn avoid any futile litigation. The interest on enhanced compensation whenever in dispute before whichever forum should not be brought to tax till such time there remains no dispute regarding the quantum of enhanced compensation payable or paid in pursuance of an order of compulsory acquisition.

4.6 It is at the same time appropriate to note that the Supreme Court in the above mentioned case of Hindustan Housing & Land Development Trust Ltd. (supra) held that when the right to receive enhanced compensation itself was under dispute and was not absolute that the compensation cannot be said to have accrued, however, where the right was admitted and only quantification thereof was disputed, the taxation of the admitted undisputed amount need not be deferred. In that case, the enhanced compensation awarded by the arbitrators was allowed to be withdrawn on furnishing of a security bond that the amount released would be refunded in the event of the assessee found to be disentitled to the compensation so enhanced. In Abdul Mannan Shah’s case (supra), the case before the Bombay High Court, the assessee was permitted to withdraw the amount of interest deposited in the Court on furnishing the security for refund.

Virtual Data Rooms — Part 2

Computer Interface

The previous write-up was about the importance of information
for decision making, specifically in mergers and acquisition. Sensitive
information can make or break the deal or tilt the scales either way. As
mentioned, the confidentiality is of prime importance, given the fact that the
target is laying bare his soul (literally). The dilemma is how to make
information available, simultaneously, to a selected large group of
individuals/experts, within the limited time and costs while maintaining control
on the flow and the use of the information provided. See picture 1.

Virtual Data Rooms (VDRs) are online repositories, providing
an infrastructure for uploading and sharing digitised data. These data rooms can
contain documents — files, letters, records and transcripts —but may also
include other relevant information in any form, from audiotapes to soil samples.
The data in the data room are resources that represent legal proof of the target
company’s asset value and reveal its earning potential and ultimately its value.

Before entering a data room, potential buyers typically have
a good understanding of the target and its business, and have a preliminary
opinion on the consideration they are willing to pay for the target. In these
cases, potential buyers inspect documents to discover hidden earning potential
that may be capitalised upon or to uncover hidden risks that are not publicly
known. The potential buyer sends its team of experts to verify their known
information about the target with the contents of the data room and to gather
new information.

The prime objective of review is to act diligently and verify
in detail the information presented by the target. In a well executed due
diligence process, an expert in the field would inspect each document in the
data room, regardless of whether the information is obvious.

A Virtual Data Room has several advantages over a Physical
Data Room such as :

Text recognition :

Offered by some VDR providers; allows text in scanned
documents to be recognised by a computer program, effective for searching and
spell-checking.

Search function :

A key feature of a VDR; enables users to search documents for
specific words and phrases, similar to Internet search engines. A significant
improvement over PDRs, where document searches are done using the document index
and are only document-level searches that do not allow for searching of specific
words and phrases.

Q&A function :

Buyers are permitted to ask sellers, questions related to the
data room and its contents, securely and efficiently. VDR users may ask
questions through the VDR screen interface by clicking on a ‘Q&A’ icon; some
VDRs may allow for routing of questions directly to the appropriate operations
team member. While asking and replying to a question, both buyer and seller
representatives may easily refer to the document in question by simply clicking
on its icon.

Audit trail function :

The target can in real terms track the documents, including
viewing access by frequency, date and user; enhances transparency of the data
room process. This gives the target the ability to profile and rank potential
buyers, based on their level of interest and indicates the most frequently
accessed documents; this is important in ascertaining the buyers that should
proceed to a second round of due diligence, which usually involves disclosing
sensitive company documents. In the event of legal proceedings or misuse of
confidential documents in the VDR, the audit trail provides proof that a certain
user acceses specific documents. Alternatively, the buyer may use the same tool
against the target if documents are not made available to the buyer.

Dynamic indexing :

Allows sellers to upload ‘late’ documents to the VDR by
efficiently placing them in their appropriate position in the VDR index; allows
the seller to quickly reorder documents in the index and to inform potential
buyers through email or SMS of changes to the index and data room contents. A
complete change of the index however may not be possible. This is a significant
improvement over the paper-based, manual indexing system and filing of PDRs,
which were prone to errors and sometimes resulted in buyers not being informed
of updates to data room contents.

Restricted use :

In a PDR, the data room supervisor has to physically manage
documents that may or may not be permitted to be copied; as against this, in a
VDR, digital documents are flagged as restricted with respect to copying,
printing, downloading or viewing. Further, restrictions may be placed on certain
portions of documents, and may allow for contingent restrictions, such as
allowing a legal expert to download only legal documents, but not financial
documents. Viewing restrictions may be placed on sensitive documents available
only during a second round of due diligence.

Watermarking :

A security feature for digital documents in a VDR;
watermarking is the printing of certain words (such as the user’s name) across
the face of a document as identification and allows tracking of the document in
the event of illegal distribution.

Variety of file formats :

VDRs can usually store files of varying formats, including
PDF, Excel, PowerPoint, Word, GIF, MPEG, JPEG, and TIFF, eliminating the need to
convert files to a specific file type or the VDR system will transform the files
into a specific format required by the system.

A basic SWOT analysis between the Physical & Virtual Data
Room can be summarised below :

Advantages of VDRs to buyer :

  • Cost savings
  • Tune savings
  • Comfort
  • Transparency
  • Fair playing field


Disadvantages to buyer:

  • Additional work
  • Competitive price
  • Reading documents online
  • System speed
  • Non-digital information


Advantages of VDRs to seller:

  • Simplicity
  • Ease of setup
  • Cost savings
  • Competitive price
  • Legal compliance
  • Time savings
  • Security


Disadvantages to seller:

  • Security


So the next time you are involved in a due diligence exercise, do make it a point to assess the positives and negatives highlighted in this write-up. Probably the next time you could add value by advising your client on how to manage risk in the process.

Kal, Aaj aur Kal

Computer Interface

In the previous article I wrote about technological innovations which shaped our present. Continuing from where we stopped, we know what the past is …. what everyone wants (usually) is what’s the future gonna be like ? . . . . well I can’t tell you that, but what I can talk about is what to look out for.

Some of the trends (according to me) to watch out for are :

  • Open document formats

  • XBRL

  • Mashups

  • Virtualisation

  • Convergence

Open Document Formats (‘ODF’) :

They say change is inevitable and with newer versions of software released in the market, we migrate to them like fish to water. But the trouble with change is that not everyone can change at the same pace and when that happens, then you are faced with the question posed in the movie — whats wrong with the old format, why do we have to change — so on so forth….

Using open standards like ODF ensures that the users’ information is accessible across platforms and applications, even as technologies change. Organisations and individuals that store their data in an open format avoid being locked in to a single software vendor, leaving them free to switch software if their current vendor goes out of business, raises its prices, changes its software, or changes its licensing terms to something less favorable for the user. Adoption of open standards is particularly important for governmental applications because it can effectively ensure that a government document saved today will not be technologically locked tomorrow.

ODF is likely to become a whole lot bigger in future (to learn more about open document formats read my write-ups in the Jan-Mar 2006 and May 2008 issues of the BCAJ).

eXtensible Business Reporting Language (‘XBRL’) :

As Chartered Accountants one thing we know better than most people is that — compliance is a huge part of our practice. We are always faced with the issue of shrinking deadlines and ever-increasing requirement to report information. Such reporting may not be limited to tax filings — it would also extend to financial, legal, statutory reporting, etc.

Part II

But reporting is one thing and analysing and interpreting i.e., using the reported information, is another thing. Interpretation and analysis is the real deal and as we all know, unless everyone follows the same set of rules the interpretation and analysis could lead to different results. In general we usually report the information in a generalised/resultoriented summary. These summaries are usually accompanied by a whole lot of notes (to help the user understand the summary). Nonetheless, users still spend humongous amounts of time trying to normalise data.

XBRL stands for eXtensible Business Reporting Language (XBRL), an XML-based technology standard, it is a language for capturing financial information throughout a business information process that will eventually be reported to shareholders, banks, regulators, and other parties. The goal of XBRL is to make the analysis and exchange of corporate information more reliable and easier to facilitate, in that it can help business in increasing the business value and provide reliable, and transparent financial data. The adoption of XBRL may permit stakeholders to access, compare and analyse data in ways that are at this time impractical or unreal. The reason is that the language is robust enough to boast of capabilities like :

  • Drill-down facility for abridged data

  • Reduced preparation time, effort and cost

  • Enhanced analytical capability

  • Standardised and simplified international access and acceptability

  • Platform neutrality ensures wider acceptability

  • Leverages the efficiencies of the Internet.

I am looking forward to the day that we will be able to file (upload) tons of information at a single click— hopefully this experience will be less painful as compared to what we face today. (learn more about open document formats — read my write-up in the Jan-Mar 2006 and May 2008 issues of the BCAJ).

Mashup tools :

In web development, a mashup is a web application that combines data from one or more sources into a single integrated tool. An example of a mashup is the use of cartographic data from Google Maps to add location information to real estate data, thereby creating a new and distinct web service that was not originally provided by either source. Mashups and meshups are different from simple embedding of data from another site to form a compound page. A mashup or meshup site must access third-party data and process that data to add value for the site’s users. Mashups typically ‘screen-scrape’ or use other brute-force methods to access the untyped linked data; meshups typically use APIs to access typed linked data. A mashup or meshup web application has two parts:

  • A new service delivered through a web page, using its own data and data from other sources.

  • The blended data, made available across the web through an API or other protocols such as HTTP, RSS, REST, etc.

Our methods of collecting and sharing information have evolved over a period of time. Mashup tools hold the promise of an intelligent information collection as well as a collaboration tool. Watch out for more on this tool.

Desktop  virtualisation  :

Desktop virtualisation is the decoupling of a user’s physical machine from the desktop and software he or she uses to work. Most desktop virtualisation products emulate the PC hardware environment of the client and run a virtual machine alongside the existing operating system located on the local machine or delivered to a thin client from a data center server. Virtual desktop infrastructure (VDI) is a server-centric computing model that borrows from the traditional thin-client model, but is designed to give system administrators and end users the best of both worlds: the ability to host and centrally manage desktop virtual machines in the data center while giving end users a full PC desktop experience. The user experience is intended to be identical to that of a standard PC, but from a thin-client device or similar, from the same office or remotely. Installing and maintaining separate PC workstations is complex, and traditionally users have almost unlimited ability to instal or remove software.

Desktop virtualisation provides many of the advantages of a terminal server, but (if so desired and configured by system administrators) can provide users much more flexibility. Each, for instance might be allowed to instal and configure his own applications. Users also gain the ability to access their server-based virtual desktop from other locations.

Advantages:

  • Instant  provisioning  of new desktops

  • Near-zero downtime in the event of hardware failures

  • Significant reduction in the cost of new application deployment

  • Robust desktop  image management  capabilities

  • Normal 2-3 year PC refresh cycle extended to 5-6 years or more

  • Existing desktop-like performance including multiple monitors, bi-directional audio/video, streaming video, USB support, etc.

  • Ability to access the users’ enterprise desktop environment from any PC, (including the employee’s home PC)

Convergence:

This is one development that has been talked about for as long as I can remember. Telecom Media Convergence is about crossing multiple industries. Fixed, mobile, and IP service providers can offer content and media services, and equipment providers can offer services directly to the end user. Content providers are consistently looking for new distribution channels. Convergence is the combination of all these different media into one operating plat-form. It is the merger of telecom, data processing and imaging technologies. This convergence is ushering in a new epoch of multimedia, in which voice, data and images are combined to render services to the user. I am waiting for the day when 3G/WIMAX will be a common thing and your mobile phone will be more than just a communication device – it would be your TV, your travel guide, your office away from office (yikes – strike that out), your wallet.

Well that’s all for now. Just to share a small secret, as I was penning this write-up, it gave me a chance to go thru my earlier articles and it made me realise what seemed outrageous then seems like a no-brainer today, innovation is so much a part of our life today, that, changes in the last few years also seem so significant.

I will probably revisit this write up next March to see where we stand……….

Marriage — Marriage between Christian and Hindu according to Hindu rituals — Void and Null — Hindu Marriage Act, 1955, section 5, section 7 and section 11.

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2 Marriage —
Marriage between Christian and Hindu according to Hindu rituals — Void and Null
— Hindu Marriage Act, 1955, section 5, section 7 and section 11.


[Nilesh Narin Rajesh Lal v.
Kashmira Bhupendrabhai Banker, AIR 2010 Gujarat 3]

The appellant, a Christian,
had married the respondent, a Hindu. The marriage was solemnised according to
the Hindu rituals. The marriage was registered under the Hindu Marriage Act. A
baby girl was born to the appellant and the respondent. The respondent deserted
the appellant. The appellant filed a family suit u/s.11 of the Hindu Marriage
Act, 1955 for a declaration that the marriage between the appellant and the
respondent was void. It was alleged that at the time of her marriage to the
appellant, the respondent was already married and the first
marriage was subsisting.

The Trial Court refused to
declare the marriage void as prayed for. However the Court held that the
marriage between the appellant and the respondent was not valid and was not in
consonance with section 5 read with section 7 and section 11 of the Act of 1955.
The suit for declaration under the Act of 1955 was, therefore, not maintainable.

On appeal the Court observed
that the appellant, a Christian, had married the respondent, a Hindu lady.
According to the Hindu rituals, therefore, such marriage is a void marriage
u/s.5 read with section 7 and section 11 of the Act of 1955.

The Act was enacted to
codify the law relating to marriage amongst Hindus. section 5 of the Act makes
it clear that a marriage may be solemnised between any two Hindus if the
conditions contained in the said Section were fulfilled. The usage of the
expression ‘may’ in the opening line of the Section, does not make the provision
of section 5 optional. On the other hand, it in positive terms, indicates that a
marriage can be solemnised between two Hindus if the conditions indicated were
fulfilled. In other words, in the event the conditions remain unfulfilled, a
marriage between two Hindus could not be solemnised.

The Court therefore held
that the marriage between the appellant and the respondent was a nullity. The
said marriage was void ab-initio. The marriage between the appellant and the
respondent was not a legal and valid marriage, therefore, the appeal was
allowed.

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Family settlement — Can be among not only heirs of particular class, but also can take in its fold, persons outside purview of succession — Family settlement — Non-registration — Cannot be treated as inadmissible — Transfer of Property Act section 5, Stam

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5 Family
settlement — Can be among not only heirs of particular class, but also can take
in its fold, persons outside purview of succession — Family settlement —
Non-registration — Cannot be treated as inadmissible — Transfer of Property Act
section 5, Stamp Act, 2(24). Registration Act section 27.


[Zaheda Begum & Anr. v. Lal
Ahemed Khem & Ors., AIR 2010 Andhra Pradesh 1]

One Mr. Ghouse Khan had
three brothers i.e., respondent Nos. 1 to 3 and two sisters, the first appellant
and late Malika Begum, the mother of the second appellant. Ghouse Khan did not
marry and remained a bachelor. He purchased the suit schedule property through a
registered sale deed dated 29-7-1981. After the death of Ghouse Khan, the
appellants and the respondents effected a family settlement through document
dated 7-2-1992. According to this, the second appellant was to be given part of
the suit schedule house and the first appellant and the respondent Nos. 1 to 3
were to be allotted ¼th share each in the rest of the property. The appellants pleaded that in spite of repeated demands, the respondents did not
agree for partition of the property in accordance with the settlement.

In the light of the
arguments advanced on behalf of the parties, the question raised for
consideration was as under; whether there can be a family
settlement among the persons who are not sharers according to Law of Succession.

The Court observed that the
settlement in family is not confined to any particular category of people. The
medium of settlement is chosen to resolve the disputes among the family members.
It is resorted to not only when the disputes as such exist, but also when there
exists a possibility for them to surface.

A family settlement need not
be confined to only one among the legal heirs, or successors. If the aim is only
to provide for arrangement in accordance to succession, the whole exercise would
be redundant. The reason is that the Law of Succession would take its course. It
is only when an arrangement, in slight or major deviation from natural
succession, as a price for bringing about comity and harmony is chosen, that a
settlement comes into existence.

The connotation of the word
‘family’ changes depending upon the context. For instance, its purport under the
Income-tax Act may not be the same as the one under the Urban Land (Ceilings and
Regulation) Act or other similar Enactments. Much would depend upon the context
in which the term is used. Where the concept of joint family exists, the family
may comprise persons of 3 to 4 generations. In a narrow sense, the family may
comprise the spouses and their children. In the context of settlement, the
family takes in its fold several persons, some of whom may be a bit distantly
related to those who constitute the core of the family.

Sub-section (24) of section
2 of the Indian Stamp Act defines the term ‘settlement’. Thus settlement,
particularly within a family need not be restricted to the members of the family
up to a particular degree. Therefore, the irresistible conclusion is that a
family settlement can be among not only heirs of a particular class, but also
can take in its fold persons outside the purview of succession.

As regard to registration of
family settlement, it was observed that though the object underlying the
settlement is to bring about harmony among the parties to it, the legal
implications arising out of settlements are not uniform. In some cases, the
settlement may bring about transfer or conferment of rights instantly upon the
parties to it, vis-à-vis movable or immovable properties. If the
settlement confers rights upon the individual, vis-à-vis on items of immovable
property, which he is not otherwise entitled to, under the relevant Law of
Succession, a transfer comes into existence, and thereby the deed of settlement
becomes liable to be registered.

It is not uncommon that
settlements provide for arrangements which would materialise at a future date.
In such cases, the manner in which the rights are to be conferred on various
parties is defined, and the actual transfer of rights takes place at a future
date.

In Tek Bahadur Bhujil v.
Debi Singh Bhujil and Ors., AIR 1966 SC 292, it was held by the
Supreme Court that there can be oral family arrangements also and that the gist
of the same can be recorded in writing.

Family arrangement as such
can be arrived at orally. Its terms may be recorded in writing as a memorandum
of what has been agreed upon between the parties. The memorandum need not be
prepared for the purpose of being used as a document on which future title of
the parties be founded. It is usually prepared as a record of what has been
agreed upon, so that there be no hazy notions about it in future. It is only
when the parties reduce the family arrangement in writing with the purpose of
using that writing as proof of what they had arranged and, where the arrangement
is brought about by the document as such, that the document requires
registration, as it is then that it would be a document of title declaring for
future what rights in what properties are possessed by whom.

Thus, a settlement which does not create any
right ‘in praesenti’ cannot be treated as inadmissible on the ground that
it is not registered.

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Whether interest u/s.234A can be levied in case of delayed Return of Income even if self-assessment tax is paid before the due date ?

Closements

Introduction :

1.1 S. 234A provides for interest in case of default in furnishing return of income as provided in the Income-tax Act (the Act). S. 234A(1) effectively provides that if the return of income u/s.139(1)/(4) or in response to notice u/s.142(1) is furnished after the due date (or is not furnished), the assessee is liable to pay simple interest @ 1% for every month or part of a month for the period of delay. (In case of failure in furnishing the return of income also provision is made with which we are not concerned in this write-up.) The rate of interest was originally 2% per month, which has subsequently been reduced from time to time. Such interest is payable on the amount of tax on the total income as reduced by the advance tax, if any, paid and TDS (or TCS). Considering the issue under consideration in this write-up, it is assumed that the returned income is accepted and the amendment made by the Finance Act, 2007 with regard to granting credit for relief u/s.90, etc. is not relevant. In the context of this write-up, effectively, interest u/s.234A(1) is required to be charged on the tax on such total income as reduced by advance tax, if any, paid and TDS or TCS.

1.2 In many cases, furnishing of return of income gets delayed on the part of assessee for various reasons. However, in such cases, the assessee, in many cases, decides to pay the self-assessment tax before the due date of return of income. In such cases, the issue is under debate as to whether interest u/s.234A(1) can be charged even if the assessee has paid the full amount of tax before the due date of return by way of self-assessment tax. In short, the issue is: whether for the purpose of determining the amount of interest u/s.234A(1), tax paid by way of self-assessment before the due date of return of income can be given credit or not as there is no specific provision to grant such credit for such purpose. The Courts are divided on the issue.

1.3 Recently, the Apex Court had an occasion to consider the issue referred to in Para 1.2 above in the case of Dr. Prannoy Roy and Another and the issue got resolved. Considering the importance of the issue, it is thought fit to consider this judgment in this column.

Dr. Prannoy Roy and Another v. CIT and Another,

254 ITR 755 (Delhi) :

2.1 The above case was concerned with A.Y. 1995

96. The brief facts were: The assessee had made substantial capital gain and the return of income

was due to be filed on 31-10-1995, but such return was actually filed on 29-9-1996 (i.e., delay of about eleven months). However, the assessee has paid taxes due on 25-9-1995 (i.e., before the due date of furnishing the return of income). The return of income was accepted on 29-1-1998, but interest u/s. 234A was charged on the ground that the tax paid on 25-9-1995 cannot be reduced from the tax due on assessment for the purpose of determining the amount of tax on which interest is chargeable u/s. 234A(1). The assessee had filed revision petition u/s.264 before the Administrative Commissioner, requesting him to delete the interest u/s.234A charged by the Assessing Officer (AO). However, the Commissioner passed an order dated 9-3-1999 confirming the action of the AO on the ground that there is no provision in 234A to grant credit for self-assessment tax paid on 25-9-1995 and the interest u/s.234A compensates for the delay/default in filing return of income and not the tax. Against this order, the assessee filed the writ petition before the Delhi High Court. Accordingly, the issue referred in Para 1.2 above came up for consideration before the Delhi High Court.

2.2 For the purpose of determining the issue, the High Court referred to the provisions of S. 234A and also the historical background thereof as given in CBDT Circular No. 549, dated 31-10-1989 [182 ITR (St.) 37]. After referring to this, the Court noted that it is not in dispute that S. 234A of the Act is an amalgam of earlier S. 139(8), S. 271(1)(a) and S. 140A(3) of the Act. The said provisions mandate payability of the tax as the basis for calculation of the compensation or penalty due to the Department in case of violation.

2.3 The Court, then, considered various judgments of Courts [including the judgment of the Apex Court in the case of Central Provinces Manganese Ore Co. Ltd. (160 ITR 961), in which the Courts have taken a view that interest is compensatory in nature. The Court also noted the judgment of the Karnataka High Court in the case of Dr. S. Reddappa (234 ITR 62), wherein after considering various case laws, the Court has taken a view that it is fairly obvious that provisions of S. 234A, S. 234B and S. 234C, which replace the earlier provisions postulating payment of interest and are in pari materia with the said provisions cannot be anything except compensatory in character. The only material difference in the two sets of provisions is that while the old provisions conferred power to waive or reduce the levy of interest, the impugned provisions make the same automatic.

2.4 The Court then proceeded to consider the principles of interpretation of taxing statute and stated that it is true that the Court must interpret the provisions of the statute upon ascertaining the object of the Legislature through the medium or authoritative forms in which it is expressed. It is well-settled that the Court should, in such cases, assign its ordinary meaning. Referring to the judgment of the Apex Court in the case of Anjum M. H. Ghaswalla (251 ITR 1), the Court stated that it is well settled that for the purpose of imposition of penal interest express provision in that regard in a statute must exist. The Court, then, further observed as under (Page 763) :

“In relation to beneficent construction, the basic rules of interpretation are not to be applied where

(i) the result would be re-legislation of a provision by addition, substitution or alteration of words and violence would be done to the spirit of the provision; (ii) where the words of a provision are capable of being given only one meaning; and (iii) where there is no ambiguity in provision — where there is a doubt, however, the Court may apply the rule of beneficent construction in order to advance the object of the Act [see Shyam Sunder v. Ram Kumar, (2001) 8 SCC 24; AIR 2001 SC 2472].

We are not unmindful that the golden rule of interpretation of a statute is that it should be read liberally.”
 
2.5 After considering the above, the Court also stated that it is equally well settled that where the statute is capable of two interpretations, the principles of just construction should be taken recourse to.

2.6 Referring to the contentions raised on behalf of the Revenue, the Court observed as under Wage 764) :

“The contention of the Revenue is that by reason of S. 234A, interest is charged for default in filing return as regards whereto it does not cease or stop with payment of taxes, whereas on the other hand, the contention of the assessee is that in a situation of this nature, where the assessee could not file a return for reasons beyond his control, he is not liable to pay interest, as thereby the Revenue does not suffer any loss inasmuch as tax, although strictly not in terms of definition of advance tax as contained in S. 208 of the Act, has been paid, but tax therefore has already been paid.

For the purpose of determining the issue, it is necessary to consider as to whether penalty and interest both were charged for failure to perform a statutory obligation. We think not. Failure to comply with the statutory provisions may lead to penal consequences. Interest, on the other hand, is payable either by way of compensation or damages. Even penal interest can be levied only in the case of a chronic defaulter.”

2.7 Referring to the Full Bench judgment of Andhra Pradesh High Court in the case of SMS Schloemann Siemeg, A.G. (254 ITR 97), the Court stated that in this judgment, the High Court has taken a view that interest is payable if the sum is due. Where the assessee is in default in making payment of the assessed amount demanded from him, he is liable to pay interest by way of compensation, but the same would not mean that although there does not exist any demand, interest would become payable. After referring to this judgment, the Court took the view that in a situation of this nature, the commonsense meaning of ‘interest’ must be applied even in S. 234A of the Act. The Court also referred to the dictionary meaning of the word ‘interest’ to show that the same is compensatory in nature. To support the view that interest cannot be charged when no tax is outstanding, the Court also relied on the judgments of the Apex Court in the cases of Shashikant Laxman Kale (185 ITR 105) and Ganesh Das Sreeram (169 ITR 221).

2.8 Dealing with the principles of imposition of penalty, the Court observed as under (Pages 766-767) :

“Penalty cannot be imposed in the absence of a clear provision. Imposition of penalty would ordinarily attract compliance with the principles of natural justice. It in certain situations would attract the principles of existence of mens rea. While a penalty is to be levied, discretionary power is ordinarily conferred on the authority. Unless such discretion is granted, the provisions may be held to be unconstitutional.”

2.9 Having referred to the above principles, the object of levying interest and the nature of interest, the Court opined that in situation of this nature, the doctrine of purposive construction must be taken recourse to. For this, the Court referred to various judgments dealing with the principle of purposive construction to support the opinion formed by the Court.

2.10 Referring to the contentions raised by the counsel on behalf of the Revenue to the effect that such payment of tax cannot be a ground for not charging interest u/s.234A and that will defeat the object and purpose u/s.234A, the Court stated that the object of S. 234A is to receive interest by way of compensation, if such was not the intention of the Legislature, it could have said so in explicit terms.

2.11 The Court then took notice of insertion of 271F w.e.f. 1-4-1999, providing for penalty for delay/default in furnishing return of income as referred to therein. The Court also noted the object of introducing this provision as explained in the memorandum explaining the insertion of the provision. Having referred to this, the Court stated that the purpose and the object of the Act is to realise the direct tax. It imposes a fiscal burden. When the statute says that an interest, which would be compensatory in nature, would be levied upon the happening of a particular event or inaction, the same by necessary implication would mean that the same can be levied on an ascertained sum. The Court then also considered the meaning of the term ‘advance tax’ in the context of this situation and observed as under (page 769):

“The interpretation clause, as is well known, is not a positive enactment. The interpretation clause also begins with the word ‘unless the context otherwise requires’. Advance tax has been defined to mean the advance tax payable in accordance with the provisions of Chapter XVII-Co Such a definition is not an exhaustive one. If the word ‘advance tax’ is given a literal meaning, the same apart from being used only for the purpose of Chapter XVII-C may be held to be tax paid in advance before its due date, i.e., tax paid before the due date. The matter might have been otherwise, had there been an exhaustive definition of the said provision. The scheme of payment of advance tax is that it will have to be paid having regard to the anticipated income on September 15, December 15 and March 15. A person, who does not pay the entire tax by way of advance tax, may deposit the balance amount of tax along his return.

In the instant case, tax has been paid although no return has been filed. The Revenue, therefore, has not suffered any monetary loss.”

2.12 Finally, the Court took the view that in this case if the doctrine of purposive construction is not applied, the same may betray the purpose and object of the Act. Otherwise, we will have to read the penal provision in 234A, which was not and could not have been the object of the law for the reasons stated hereinbefore. The Court also stated that it is further well known that in the case of a doubt or dispute, taxation statute must be liberally construed. Therefore, we are not in a position to assign stringent meaning to the words, ‘advance tax’ as contended by the learned counsel on behalf of the Revenue.

2.13 Rejecting the contention raised on behalf of the Revenue with regard to the penal nature of the provision, the Court stated as under (Page 770) :

“If a penal provision is to be read in S. 234A, the same may border on unconstitutionality, as there-for the principles of natural justice are not required to be complied with. It is also well settled that when two constructions are possible, the construction which would uphold the constitutionality of a provision, be applied. Had the Leg-islature made the amendment only for the purpose of imposition of a penalty, there was no necessity of enacting S. 271F later on.”

2.14 Finally, the Court concluded that interest would be payable only in a case where tax has not been deposited prior to the due date of filing of the income-tax return and decided the issue in favour of the assessee.

CIT v. Dr. Prannoy Roy and Another, 19 DTR 102 (SC) :

3.1 At the  instance    of the  Revenue, the  above judgment of the Delhi High Court came up for consideration before the Apex Court along with another case, wherein the same was followed.

3.2 After referring to the facts in brief and the views expressed by the High Court, the Court decided the issue in favour of the assessee and held as under (Page 103) :

“Having heard counsel on both sides, we entirely agree with the finding recorded by the High Court as also the interpretation of S. 234A of the Act as it stood at the relevant time.

Since the tax due had already been paid, which was not less than the tax payable on the returned income which was accepted, the question of levy of interest does not arise. Thus, we find no merit in this appeal and the same is dismissed.”

Conclusion:

4.1 In view of the above judgment of the Apex Court, it is clear that interest u/ s.234A is compensatory in nature and the same cannot be charged if taxes are paid before the due date of furnishing return of income even if the furnishing of return gets delayed. It is also important to note that the Apex Court has agreed with the findings as well as interpretation of the High Court with regard to S. 234A.

4.2 Recently the Gujarat High Court in the case of Roshanlal S. Jain (309 ITR 174) has taken a contrary view on the issue referred to in Para 1.2 above and has dissented from the judgment of the Delhi High Court in the case of Dr. Prannoy Roy (supra). This has not been referred to in the above case before the Apex Court. However, in view of the above judgment of the Apex Court, the judgment of the Gujarat High Court will now no longer be regarded as given.

4.3 Incidentally, it may be mentioned that while filing an appeal against the levy of interest, care should be taken to deny the liability to pay such interest, so that the issue of maintainability of appeal against such interest does not create any difficulty.

Lehman’s illegal gimmicks

Accountant Abroad

A court-appointed United
States bankruptcy examiner has concluded there are grounds for legal claims
against top Lehman Brothers bosses and auditor for signing off misleading
accounting statements in the run-up to the collapse of the Wall Street bank in
2008, which sparked the worst financial crisis since the Great Depression. A
judge this week released a 2200-page forensic report by expert Anton Valukis
into Lehman’s collapse that includes scathing criticism of accounting ‘gimmicks’
used by the failing bank to buy itself time. These included a contentious technique known as ‘Repo 105’ which temporarily boosted the bank’s balance sheet
by as much as $ 50 billion.

The exhaustive account
reveals that Barclays, which bought Lehman’s US businesses out of bankruptcy,
got equipment and assets it was not entitled to. And it reveals that during
Lehman’s final few hours, chief executive Dick Fuld tried to get British Prime
Minister Gordon Brown involved to overrule Britain’s Financial Services
Authority (FSA) when it refused to fast-track a rescue by Barclays. With Wall
Street shaken by the demise of Bear Stearns in March 2008, Valukis said
confidence in Lehman had been eroded : “To buy itself more time, to maintain
that critical confidence, Lehman painted a misleading picture of its financial
condition.” The examiner’s report found evidence to support ‘colorable claims’,
meaning plausible claims, against Fuld and three successive chief financial
officers.

Valukis said the bank tried
to lower its leverage ratio, a key measure for credit-rating agencies, with Repo
105 — through which it temporarily sold assets, with an obligation to repurchase
them days later, at the end of financial quarters, in order to get a temporary
influx of cash. Lehman’s own financial staff described this as an ‘accounting
gimmick’ and a ‘lazy way’ to meet balance-sheet targets. A senior Lehman
vice-president, Matthew Lee, tried to blow the whistle by alerting top
management and the
auditors. But the auditing firm ‘took virtually no
action to investigate’.

During the bank’s final
hours in September 2008, Fuld tried desperately to strike a rescue deal with
Barclays, but the FSA would not allow the British bank an exemption from seeking
time-consuming shareholder approval. The British finance minister, Alistair
Darling, declined to intervene and Fuld
appealed to the US treasury secretary, Henry
Paulson, to call Prime Minister Gordon Brown, but
Paulson said he could not do that,” says the
examiner’s report.

“Fuld asked Paulson to ask
(then US) President George Bush to call Brown, but Paulson said he was working
on other ideas. In a ‘brainstorming’ session, Fuld then suggested getting the
president’s brother, Jeb Bush, who was a Lehman adviser, to get the White House
to lean on Downing Street.

Barclays eventually bought
the remnants of Lehman’s Wall Street operation from receivership for $ 1,75
billion — a sum that has enraged some bankruptcy creditors who believe it was a
windfall for the British bank.

The examiner’s report finds
grounds for claims against Barclays for taking assets it was not entitled to,
including office equipment and client records belonging to a Lehman affiliate,
although it says these were not of material value to the deal — the equipment
was worth less than $ 10 million.

The report into the bank’s
demise revealed last week a similar addiction to accounting hallucinogens like
those seen in the Enron case. Until now, the big mystery was how the Wall Street
giant could have been reporting healthy profits right up until the
moment it keeled over and died — bringing most of the Western economy down with
it. But the latest investigation reveals financial transactions known as Repo
105 and Repo 108, used to remove temporarily tens of billions of dollars of debt
from the bank’s balance sheet at the end of every accounting period. As the
banking crisis grew, so did Lehman’s addiction to such trickery. Executives even
referred to Repo 105 as “another drug we’re on” in emails uncovered by the
report.

A lawyer for Fuld has
rejected the examiner’s findings. Patricia Hynes of the law firm Allen & Overy,
said Fuld did not structure or negotiate the Repo 105 transactions, nor was he
aware of their accounting treatment. She added that Fuld “throughout his career
faithfully and diligently worked in the interests of Lehman and its
stakeholders”. A spokesman for the London-headquartered auditors of Lehman told
Reuters the firm had no immediate comment because it was yet to review the
findings.

The capacity for Lehman to
continue to shock after a year of books and revelations is itself a shock. But
the biggest surprise is how little has changed since Enron and the scams of the
last financial bubble. Regulators like to caution against simply addressing the
specific causes of past scandals when trying to prevent future ones, but it is
as if all the Wall Street rules introduced to clean up accounting have only
encouraged finance directors to study the history books more closely for
inspiration.

Edited version of the article
by Andrew Clark

(Source : Mail &
Guardian Online, 23-3-2010

Web address : http://www.mg.co.za

levitra

Is Syncome Formulations (I) Ltd. [292 ITR (AT) 144 (SB)(Mum.)] Still a good law ?

Article 1

I. Introduction :

1.
The calculation of deduction u/s.80HHC of the Income-tax Act itself is a complex
issue. The complexity is further increased when one attempts to calculate the
deduction u/s.80HHC of the Act for the purpose of making adjustments u/s.115JA/JB
of the Act in order to arrive at the ‘book profit’. The Special Bench in the
case of Syncome Formulations (I) Ltd. [292 ITR (AT) 144 (Mum.)] held that for
the purpose of S. 115JB, the deduction u/s.80HHC of the Act has to be calculated
with reference to the adjusted book profits and not the normal gross total
income.

2.
Recently, the Bombay High Court has rendered a decision in the case of CIT v.
Ajanta Pharma Ltd. reported at (318 ITR 252). In the said decision, the
Bombay High Court has observed at para 36, page 269 as under :

“We
have had the benefit of going through the reasoning and the orders in
Deputy CIT v. Syncome Formulations (I) Ltd.,
(2007) 292 ITR (AT) 144; (2007) 106 ITD 193 (Mum.)(SB) as also in the case of
Deputy CIT v. Govind Rubber P. Ltd., (2004) 89 ITD 457; (2004) 82 TJT 615.
It is not possible to agree with the view taken by the Benches. Those decisions
in view of these judgments stand overruled.”

3.
An attempt has been made in this article to find out as to whether; subsequent
to the decision of Bombay High Court, the ratio laid down by the Special Bench
in the case of Syncome Formulations (I) Ltd. is still valid or not, and if yes,
to what extent.

4.
Before we really go into the judgment of the Bombay High Court in the case of
Ajanta Pharma Ltd., it is imperative to closely look into the decision of the
Special Bench in the case of Syncome Formulations (I) Ltd. and also the decision
of the Division Bench of the Mumbai Tribunal in the case of Ajanta Pharma Ltd.
(21 SOT 101) which has been ultimately reversed by the Bombay High Court in the
above-referred decision. This is for the reason that according to the humble
opinion of the author, the issue involved in Syncome Formulations (I) Ltd. is
totally different than the issue involved in the case of Ajanta Pharma Ltd.


II. Issue involved in the decision
of Special Bench — Syncome Formulations (I) Ltd. :

5.
According to the provisions of S. 80HHC of the Act, the deduction provided under
that Section is to be calculated as per the formula prescribed in Ss.(3).
According to the said formula, one has to start with the ‘profit of the
business’ and make some multiplication, division, etc. in case of manufacturing
exporter to arrive at eligible amount of deduction. The Section also provides
for the formula in case of trader exporter wherein also one has to calculate the
profit of the business. The question which arose before the Special Bench is as
to what is to be taken as the ‘profit of the business’ which would further
undergo the mathematical exercise. According to the assessee, while calculating
the deduction u/s. 80HHC for the purpose of 115JA/JB, the profit of the business
should be the profit as shown in Profit and Loss Account; whereas as per the
revenue, the profit would mean profit assessable under the head ‘business
income’. Thus, the whole controversy is — What is the starting point for
calculating deduction u/s.80HHC for the purpose of S. 115JA/JB of the Act. This
issue has been resolved by the Special Bench in favour of the assessee for the
detailed reasons given in the said decision.


III. Issue involved in the decision
of Ajanta Pharma Ltd. (80 HHC) :

6.
The Bombay High Court in the case of Ajanta Pharma Ltd. was required to address
an issue as to whether the export profits to be excluded from the ‘book profits’
u/s.115JB of the Act is to be calculated after applying the restriction of S.
80HHC(1B) of the Act. In other words, whether the amount to be reduced from the
book profits should be the entire eligible amount of deduction or only the
percentage of the eligible deduction actually allowable under the Act as per S.
80HHC(1B) of the Act ? The questions of law raised before the High Court are as
under :


“1. Whether on the facts and in the circumstances of the case and in law the
ITAT was justified in approving the Order of the CIT(A) in allowing respondent
to exclude export profits for the purpose of S. 115JB at the figure other than
that allowed u/s.80HHC(1B) ?

2.   Whether in law for the purpose of calculating book profit u/s.115JB of the Income-tax Act, 1961 under Explanation 1 sub-clause (iv) the export profits to be excluded from the book profits would be the export profits allowed as a deduction u/s.80HHC after restricting the deduction as per the provisions of Ss.(1B) of S. 80HHC of the Act or the export profits calculated as per Ss.(3) and Ss.(3A) of S. 80HHC before applying the restriction contained in Ss.(1B) of S. 80HHC??”

Answering the said question, the High Court held that while computing the ‘book profits’, the quantum of deduction allowable under clause (iv) to Explanation 1 u/s.115JB of the Act will have to be restricted to actual permissible deduction as calcu-lated u/s.80HHC(1B) of the Act.

IV.    To what extent is Syncome Formulations    Ltd. still a good law??

  7.  As seen above, the question referred to the High Court was restricted to S. 80HHC(1B). The issue dealt with by the Tribunal in the case of Ajanta Pharma Ltd. was only in respect of S. 80HHC(1B) and, therefore, the High Court could not have dealt with the controversy which was there in Syncome Formulations (I) Ltd. This is further fortified by the question of law referred to before the High Court.

8.    Further, no arguments were also raised by the either parties before the Bombay High Court in respect of the controversy involved in Syncome Formulations (I) Ltd. In my opinion, something which has not been considered could never have been disapproved.

   9. The reason as to why the Bombay High Court observed that Syncome Formulations (I) Ltd. is overruled is because the Tribunal decision in the case of Ajanta Pharma Ltd. (21 SOT 101) at para 10, page 109 heavily relied upon para 59 of the decision of Syncome Formulations (I) Ltd. The reliance was limited to the controversy which was involved in Ajanta Pharma Ltd. and not the one which was involved in Syncome Formulations (I) Ltd. It is only because the Tribunal in the case of Ajanta Pharma Ltd. in one of the paragraphs, has heavily relied upon the decision of Syncome Formulations (I) Ltd., the High Court has observed that Syncome Formulations (I) Ltd. is overruled.

10.    Further, controversy involved in Syncome Formulations (I) Ltd. is resolved in favour of the assessee after strongly relying upon the Circular of CBDT [Circular No. 680, dated 21-2-1994 (206 ITR 297)]. The said Circular has neither been cited nor discussed by the Bombay High Court.
This also establishes that the controversy was totally different before the Bombay High Court. This view is made abundantly clear by the immediately following paragraphs (para 37 on page 269, 270), wherein the Bombay High Court has observed in respect of the decision of the Kerala High Court in the case of CIT v. GTN Textiles Ltd., (248 ITR 372) as under?:

“The issue before the Kerala High Court was, what is the profit that should be taken into consideration considering the accounting system that has to be followed while working out the book profits. Therefore, the judgment would be no assistance in considering the question framed for consideration. (Emphasis supplied).

 11.   From this, it is clear that the decision of the Kerala High Court which is directly on the issue dealt with Syncome Formulations (I) Ltd. has been held to be not applicable. Moreover, the Bombay High Court has not dissented from the view of the Kerala High Court.

12.    The view taken by the Special Bench is correct also in view of the fact that there are direct decisions of the High Court in the following cases supporting the stand taken by the Special Bench?:

  •     CIT v. GTN Textiles Ltd., [248 ITR 372 (Ker.)]
  •     CIT v. K. G. Denim, [180 Taxman 590 (Mad.)]
  •     Rajnikant Schenelder & Associates (P) Ltd., [302 ITR 22 (Mad.)]


13.     It is also relevant to refer the decision in the case of Sun Engineering Works Ltd. (198 ITR 297) (SC), wherein the Supreme Court has observed that a decision of the Court takes its colour from the question involved in the case in which it is rendered and while applying the decision, one must carefully try to ascertain the principles laid down by the Court and not to pick out words or a sentence from the judgments delivered from the context of the question under consideration. It was categorically held that “It is neither desirable nor permissible to pick out a word or a sentence from the judgment of this Court, divorced from the context of the question under consideration and treat it to be the complete ‘law’ declared by this Court. The judgments have to be considered in the light of the question which were before this Court.” Applying the said ratio, the observations in the case of decision of the Bombay High Court in the case of Ajanta Pharma Ltd. cannot be construed to mean that the decision of Special Bench is completely overruled.

14. (ITA No. 4155/Mum./2007) dated 9-11-2009 has accepted that the issue decided by the Bombay High Court does not entirely overrule the issue decided by the Special Bench in the case of Syncome Formulations (I) Ltd. However, the Delhi Tribunal recently in the case of ACIT v. Cosmo Ferrites Ltd., [126 TTJ 666 (Del.)] has rendered a contrary view and held that the decision in the case of Ajanta Pharma Ltd. overrules the decision of the Special Bench in Syncome Formulations (I) Ltd. However, with due respect, the author disagrees with the said views of the Delhi Tribunal for the detailed discussion made above.

    15. Construed from the discussion made above, it can be assumed that the decision of Syncome Formulations (I) Ltd. cannot be said to be entirely overruled except only to the extent of quantum of deduction. In other words, the necessary conclusion of the said discussion could be that while computing the amount of deduction as per clause (iv) to Explanation I to S. 115JB(2) of the Act, the book profits should be considered as the gross total income for the purpose of determining the eligible amount of deduction u/s.80HHC of the Act as per S. 80HHC(3)/(3A) of the Act. The provision of S. 80HHC(1B) would then be applied, as held by the Bombay High Court, to determine the quantum of deduction which will be allowed to be reduced while computing the book profits for the purpose of S. 115JB of the Act.

Assessments and Monitored (?)(!) Assessments under the Income-tax Act, 1961

Articl

All taxpayers are assessed u/s.143, u/s.147, u/s.148 and
u/s.153 of the Income-tax Act, 1961. After filing of return, when an assessee is
being assessed by an Assessing Officer, he/she is required to file his/her
submissions before the respective authority during the course of assessment. All
these assessments are popularly known as ‘Scrutiny’ assessments. In case of
these assessments, the authority before whom these proceedings are going on is
supposed to form his opinion after verifying books of accounts, documents,
submissions, proofs, evidences, statement of cross-examination of the parties
concerned, etc. by bringing on record all or some of these things from the
assessee, his/her representative and also by collecting independent evidences,
proofs, documents, etc. To collect information, the assessing authority also can
call outsiders by taking his/her statement on oath u/s.131 or u/s.133. After
doing this exercise in full or in part, if the assessing authority is satisfied
on issues arising out of the assessment proceedings, he records his findings in
respect of the said assessment and he passes an order known as assessment order.


The following information is necessary in the assessment order :

(i) Section under which the assessee is being assessed,

(ii) Assessment year for which he is being assessed,

(iii) Dates of hearing,

(iv) Date of filing return by the assessee,

(v) Amount of income at which he has assessed him,

(vi) Amount of income declared by the assessee in his
return of income,

(vii) Why the assessing authority is making addition, if
any ?

(viii) Details of records verified by him during the course
of assessment,

(ix) Date of passing assessment order,

(x) Demand, if any, arising after the assessment
proceedings. While raising the demand he will have to give proper credit of
the taxes paid by the assessee as advance tax, self-assessment tax and TDS/TCS,
if any.


While forming his opinion, he will have to give proper
consideration to the submissions made by the assessee during the course of
scrutiny. He has to consider the proofs, documents, evidences, etc. produced by
the assessee. He may verify the statements, trading, Profit & Loss A/c, balance
sheet & relevant schedules with the books of accounts of the assessee. He may
take relevant extracts of one or more accounts from the books of accounts of the
assessee. He may further cross-examine the account extract given by the assessee
with those of the extracts he has called from the relevant parties from their
own books of accounts. Such parties may be the debtors, creditors, suppliers or
customers of the assessee concerned. The Assessing Officer is supposed to know
the following important things :

(i) The nature of business,

(ii) All important characteristics of business,

(iii) Nature of transactions being carried out in the
business,

(iv) All uncommon terms used in the business under
assessment before him.


The Assessing Officer must know the following things before
starting the assessments of some uncommon types of assessees. The Assessing
Officers are generally conversant with the way of common transactions of
trading, manufacturing and professional income and its assessments, but many
times are found non-conversant with the following types of assessees and the
terminology being used in these types of businesses.


For example :

A. In lottery business :


(i) Prize Winning Tickets : In case of lottery
business, the stallholder from whom the customer purchases lottery tickets makes
the payment to the buyer of the winning lottery ticket, which has got prize. The
stallholder in turn, while making his payment to his supplier (wholesaler) makes
payment partly in terms of cash/cheque and partly in terms of these winning
tickets. This chain of payment continues till end to the govt. under which the
lottery is monitored. The amount seen on the assets side of any balance sheet of
lottery dealer (whether wholesaler, retailer, distributor, stockist or sole
stockist) is the balance of such tickets held by him on the particular day
received by him from his customers in discharge of their liability of price of
tickets. These are awaited for sending to the supplier in the chain as payment
of his cost of tickets.

(ii) Cost of Participation in Draw (CPD) : While
framing a scheme of lottery, the expenses on cost of printing tickets, royalty
payable to govt., local taxes (sales tax, octroi, etc.), profit of the parties
involved in the chain including sole distributor, cost of transport, cost of
distribution, etc. are taken into account for deciding the amount available for
distribution by way of winning, to the people taking part in the lottery. This
is termed as Cost of Participation in the Draw i.e., CPD.

(iii) Cost towards Prize Fund (CPF) : While forming a
scheme of lottery after allowing the expenses referred above which are termed as
CPD, whatever is kept for distribution by way of various prizes of lottery is
collectively termed in lottery business as Cost towards Prize Fund (CPF). This
amount remains unchanged from the govt. till the final consumer. The amount of
CPD goes on changing at each point due to addition of expenses and margin of
profit of each party involved in the chain.

(iv) Unsold Loss : After the scheduled time of draw of
a particular lottery, if some tickets remain in balance with the seller, these
tickets become non-saleable and are required to be scrapped. Amount paid as
purchase price of these tickets is known as unsold loss.

(v) Unsold Winnings : After the scheduled time of draw
of a particular lottery, if some tickets remain in balance with the seller,
these tickets become non-saleable and are required to be scrapped. Out of these
scrapped tickets if some ticket wins some prize, it is known as unsold winnings.

B. In case of a labour contractor :


(i) Mess Charges : Amount paid by the labour
contractor towards food charges of the labourers and their families is termed as
mess charges and deducted as expenditure from the income of the labour
contractor.




ii) Tent charges: Amount paid by the labour contractor towards lodging and accommodation facilities of labourers and their families is termed as tent charges and deducted as expenditure from the income of the labour contractor.

For giving proper justice to the assessment, it is necessary that the Assessing Officer should know the terms used by the assessee in his business in detail; otherwise, he cannot do proper justice to the work of assessment entrusted to him. The above detailed examples are given to elaborate the essence of knowledge of these terms to an Assessing Officer in respect of uncommon terms used in such uncommon businesses.

Many times before the higher forums of appeal, it is seen that the Assessing Officer has:

  •     Not given proper justice to the submissions made by the assessee,


  •     Not understood the nature of transaction and therefore misinterpreted it and added it to the assessee’s income,


  •     Not understood the exact nature of business of the assessee,


  •     Acted beyond  his authority,


  •     Not given proper time to the assessee for proving his case,


  •     Misinterpreted the facts brought before him by the assessee,


  •     Not called for information independently, ‘-which he could have otherwise collected easily, for want of proper justice,


  •     Not allowed the opportunity of cross-examination


  •     Not given the assessee the opportunity of natural justice,


  •     Not given the assessee the opportunity of being heard,


  •     Decided the case only with oral directions of his higher authorities without giving thought to the interpretations made by such authorities, whether the same are correct or otherwise.


  •     Decided the case on the basis of some irrelevant papers, proofs, records, etc. not related to the case.

For giving justice to the assessee, for want of proper interpretation ‘of facts of each case, for helping the Assessing Officer to interpret the facts in a proper manner, thereby to avoid the loss of revenue as well as loss of assessee, to avoid scenario of apparent mistakes or errors of facts in assessments, the system of monitored assessments must have been introduced in the statute. The intention of the statute behind introducing the above system must be to reduce unnecessary paperwork, reduction in appeals and proper justice to the assessee at the assessment stage only, due to wrong interpretation, if any which may take place because of misunder-standing of facts of each case by the assessing officer at assessment stage only. Though the intention of the statute was genuinely to help the assessee, what is the present position? The present position is not as the statute has expected at the time of its introduction, but is totally different.


The Assessing  Officer is required to act on the directions of the senior authorities. During the course of assessment, the Assessing Officer generally presents views of his senior official to the assessee or his representative in respect of a point of disagreement that, though he is satisfied with the explanation given by the assessee or his representative, the Additional Commissioner or the Administrative Commissioner to whom he has to report, is in dis-agreement with the view. He may say that the senior authorities are hardpressing for making addition on some point or the other on any of the grounds for the various reasons.

In such a situation,  generally  the assessee  or their representatives  try to narrate  the case orally before the senior authority  with or without  the consent of the Assessing Officer. In fact, such type of oral representation  has no legal standing.  In some cases, it may have helped the assessee to avoid the proposed addition.  But as opposed  to the few times the assessee  may  have  got justice  by  this  exercise  of meeting  senior  authorities  and  explaining  before them the case, in majority  of the times  the senior authorities   may  put  the  ball  in the  court  of the Assessing Officer by giving  some oral reply which is not legally binding  on them. At the same time, they direct their junior  regarding  their  own interpretation  and ask him to pass an assessment  order as per their oral directions,  which  in their opinion is the correct interpretation  of facts. On such inter-pretation,  the Assessing  Officer is bound  (though not legally) to pass the assessment  order as per the interpretation  of the senior  authority.  But, in such situations,  we tax professionals  should  not  choose this path  of meeting  and  explaining  orally  to the concerned senior authority the facts of the case, but we should choose the legal available path to come out of the situation at the assessment stage only. This gives us a legal tool for avoiding the situation of appeals and thereby avoiding expending of time, money and man-hours.


The following steps can be taken:
In case an Assessing Officer during the course of assessment is in disagreement with the views taken by the assessee and puts it that the view is not taken by him but is a directive given by his senior (Additional Commissioner/Administrative Commissioner), if an assessee or his representative finds that a particular interpretation of facts in a case is not being correctly done by the Assessing Officer, then the assessee can present his case by giving the facts in detail in writing to such senior authority (generally, an Additional Commissioner or Administrative Commissioner) of the Assessing Officer and ask him his view of the matter in writing u/s.l44-A. S. 144-A of the Income-tax Act, 1961 is a very important legal tool in our hand in the situation narrated above. In present situation, when there are a number of cases being selected for scrutiny, occurrence of such a situation may be so frequent.

S. 144-A of the Income-tax Act, 1961 reads as follows:
“A Joint Commissioner may, on his own motion or on a reference being made to him by the (Assessing) Officer or on the application of an assessee, call for and examine the record of any proceeding in which an assessment is pending and, if he considers that, having regard to the nature of the case or the amount involved or for any other reason, it is necessary or expedient so to do, he may issue such directions as he thinks fit for the guidance of the (Assessing) Officer to enable him to complete the assessment and such directions shall be binding on the (Assessing) Officer.

Provided that no directions, which are prejudicial to the assessee shall be issued before an opportunity is given to the assessee to be heard.

Explanation: For the purposes of this Section, no direction as to the lines on which an investigation connected with the assessment should be made, shall be deemed to be direction prejudicial to the assessee.”

Interpretation of the above Section clearly shows that an Additional Commissioner is bound to answer the application made under this Section. If the senior authority agrees with the view taken by the assessee, then on getting the answer in writing the lower authority is bound to accept that view in respect of the assessment and frame his assessment by considering the same. At the same time, we may file a letter in writing to the assessing authority that he may wait till the reply of application made by the assessee to the senior authority u/s.144-A is received.

The above-referred situation to the best of my knowledge, in present times, is only a theoretical situation. In day-to-day practice, neither the practitioners nor the assessees use this Section, and in effect do not use an important weapon in the hands of the assessee. This Section is a very important tool, which the assessee and practitioners may use for their benefit and thereby reduce the wastage of time and energy to some extent.

In fact, neither. the senior officers in the Income-tax Department in capacity of Administrative Commissioners or Additional Commissioners want to give their opinion in writing. What is going on practically is the hybrid mix of the Section, whereby the assessee and practitioners are put into trouble and the Departmental senior officials are not bound by anything directed by them to their juniors, as they are neither giving anything in writing to the junior officer, nor to the assessee, who is finally becoming the victim of such wrong directions. At the same time, the senior officer in the Department is not bound by any of his directions. The present practice of monitored (!) (?) assessments is therefore wrong, impractical and hence required to be immediately changed with the use of available tool of S. 144 by the assessee as well as by the tax professionals.

I sincerely feel that the present system of monitored assessments is wrong for reasons given above. The submissions made by the assessee are, in his absence, being interpreted by the Assessing Officer to his senior authorities or the senior as per his own understanding. He may interpret the submissions made by the assessee, without going into the details of the case from the assessee or his counsel. The interpretation of the senior authorities may be different if the assessee himself or his counsel explains the fact to the authority. On explanation by the assessing officer in the absence of the assessee, the senior forms his views and gives his opinion to the Assessing Officer, who in turn raises the views of the senior before the assessee, and the assessee is required to answer the questions so raised. In this system, there is every possibility of misinterpretation of facts by the senior authority, non-consideration of an important fact by the authority while forming his opinion and dictating it to his junior Assessing Officer. Also, there is every possibility of improper representation of a case by the Assessing Officer to his senior for various reasons given above, thereby resulting in injustice.

I therefore sincerely feel that the present system of monitored assessments should be changed with the use of available tool of S. 144 by the assessee as well as by the tax professionals. But in cases having higher tax stake, points raised by the higher authorities should be heard by both the Assessing -4. Officer and the monitoring authority simultaneously. Opinion formed by both of them after such hearing will have some sense. Otherwise, the present system of monitored assessments, without using the tool of S. 144-A, will result in assessments without doing proper justice to the asses sees.

Accounting for financial instruments and derivatives – Part 2

Article

In Part One, we
discussed accounting principles of recognition and measurement of two categories
of Financial Assets, viz. Financial Assets held at fair value through profit and
loss and Loans & Receivables. We now discuss the other two categories of
Financial Assets, viz. Held to Maturity and Available for Sale. Thereafter, this
Article covers accounting of Financial Liabilities.


Financial assets
— Held to maturity :

Held to
maturity financial assets are non-derivatives with fixed or determinable
payments and fixed maturity that an entity has a positive intention and ability
to hold to maturity. These assets are initially recognised at fair value plus
transaction costs directly attributable to the transaction. They are
subsequently measured at amortised cost using the effective interest method and
are tested for impairment. The methodology of the computation of effective
interest method was discussed in Part One of this series of Articles.

The amount of
loss on impairment is measured as the difference between the carrying value and
the present value of expected future cash flows discounted at the effective
interest rate computed at the point of initial recognition. Such impairment can
be reversed in subsequent periods if it can be established that the event
leading to such reversal occurred after the date of recognition of the
impairment.

Merely because an
entity intends to hold the asset for an indefinite period, the asset cannot be
categorised as held to maturity. If the entity intends to sell the financial
asset as a result of changes in interest rates, risks, yields, liquidity needs,
foreign currency rates, then it cannot categorise the instrument as held to
maturity. If the issuer of the instrument has a right to settle the instrument
at a value significantly lower than its amortised cost, such an instrument
cannot be categorised as held to maturity.

An equity
instrument and perpetual debt instruments cannot be categorised as held to
maturity, as they do not have a fixed or determinable redemption date. Floating
interest rate instruments are not precluded from this classification so long as
they are not perpetual debt instruments. A default risk does not by itself
preclude this categorisation. If the instrument is callable by the issuer, the
instrument can be classified as held to maturity if at this point, the holder
can recover all or substantially all of the carrying value. If the callable
price is such that the holder cannot recover a substantial portion of the
carrying value, then such an instrument cannot be classified as held to
maturity. A puttable financial asset cannot be classified as held to maturity,
because a put feature is not consistent with intention to hold to maturity.

If the entity
transfers a held-to-maturity financial asset before maturity, the consequences
could be significantly adverse. The entity is required to reclassify its entire
held-to-maturity basket out of this basket immediately. Further, the entity is
not allowed to categorise any new financial asset as held to maturity in this
financial year and in the succeeding two financial years. Exceptions to this
treatment are few and include the following :

  • Sale of the
    financial asset as a result of significant decline in creditworthiness of the
    issuer

  • Changes in tax
    laws that may eliminate or reduce tax exempt status of such assets

  • Major business
    combination or disposition that necessitates transfer of such assets to
    maintain the entity’s risk management or interest rate policies

  • Changes in
    statutory or regulatory requirements including changes in risk weightages of
    such financial assets.

The entity’s
intention and ability to hold such financial assets to maturity are required to
be re-evaluated at each reporting date.

Available for
sale :

These are
non-derivative financial assets that are either designated as available for sale
or are not designated as any of the other three categories, viz. held at
fair value through profit and loss, loans & receivables or held to maturity.
They are measured at fair value plus transaction costs directly attributable to
the transaction on initial recognition. They are subsequently measured at fair
value without any adjustment for potential transaction costs on disposal.

However, if this
category includes any equity investments that do not have a quoted market price
in an active market and whose fair value cannot be reliably measured, then these
are measured at cost. This category of financial assets is subject to impairment
tests.

Gains and losses
on revaluation of available-for-sale financial assets are recognised in an
equity reserve account. These gains or losses are accumulated from period to
period in this account and recycled into the Profit and Loss Account on sale or
transfer of the financial asset. Dividends are recognised in the Profit and Loss
Account when the right to receive dividends is established. Interest income or
expense is recognised in the Profit and Loss Account based on effective interest
rate methodology. Impairment losses and foreign exchange gains or losses are
also recognised in the Profit and Loss Account.

Example :

Your entity
bought a G Sec for Rs.98 (Face value Rs.100, Tenor 7 years, Coupon 8% payable
annually in arrears). Let us assume for simplicity that this G Sec was bought on
day one of the accounting year. At the end of one year, the market price of this
G Sec is Rs.97.51. Your entity has categorised this G Sec as an
‘available-for-sale’ financial asset.

Let us examine
how this G Sec will be reflected in the financial statements.

The effective interest rate of the G Sec works out to 7.376%. The amortisation table for the G Sec is presented here:

The Profit and Loss Account of year one recognises an interest income of Rs.7.2285 as computed above. The difference between the carrying value as computed above (Rs.98.2285) and the market price (Rs.97.5100) is a loss of Rs.0.7185, which will be charged to reserves. The carrying value in the Balance Sheet will be Rs.97.51, which is arrived at after giving effect to interest income and mark to market impact.

Financial liabilities at fair value through profit and loss:

This category  would comprise    of :

  • Financial  liabilities  held  for trading

  • Portfolio of financial instruments that are managed together for which there is evidence of short-term profit taking

  • Derivatives

  • Instruments which upon initial recognition are designated by the management into this category (this is permitted subject to various precedent conditions).

One may wonder what kind of financial liabilities could be held for trading. A common example is short seiling of equity shares. The entity selling short would borrow securities from the market. The entity is now obliged to return back securities to the lender. The value of such securities would appear as financial liabilities in its Balance Sheet and would fluctuate with the price of the security.

On initial recognition, these financial liabilities are recognised at fair value. Transaction costs are charged to Profit and Loss Account. Subsequently, they continue to be carried in the Balance Sheet at fair value and gains/losses in fair value are recognised in the Profit and Loss Account. These liabilities are not tested for impairment.

Other financial  liabilities:

Financial liabilities other than those carried at fair value through profit and loss are categorised as ‘other financial liabilities’. They are initially recognised in the Balance Sheet at fair value minus transaction costs directly attributable to the transaction. They are subsequently carried at amortised cost in the Balance Sheet. Interest expense computed on effective interest rate method is recognised in the Profit and Loss Account.

When held to maturity securities are reclassified into Available-for-Sale category, the difference between the carrying amount (which would typically be computed on amortised cost) and the revised carrying amount (which would typically be fair value) would berecognised in reserves. As discussed earlier, if a significant quantum of held-to-maturity assets are sold or transferred or reclassified, the entire portfolio of such assets gets ‘tainted’ and is required to be reclassified into Available for Sale. The entity is not permitted to then classify any financial asset into held to maturity basket for that financial year and the succeeding two financial years.

Where a financial asset is classified into the held to maturity category, the carrying amount on the day of reclassification is recognised as its amortised cost. In case of a financial asset with fixed maturity any amount that has been previously recognised in reserves is required to be amortised over the balance time to maturity using effective interest rate method. If the asset does not have a fixed maturity, the amount previously recognised in reserves will remain in reserves till disposal of the asset.’

De-recognition of financial assets:

The entity is required to de-recognise a financial asset when the contractual rights to the cash flows from the financial asset expire. In the world of securitisation, transfers of financial assets involve complex conditionalities and the standard deals with such complexities in an elaborate manner. These are not discussed in this Article.

On de-recognition of an asset, the difference between its carrying amount and the sum of (a) the consideration received and (b) the amount recognised in a reserve account till date should be recognised in the Profit and Loss Account.

Example:

Your entity bought an equity share of L&T for Rs.3,200. This was revalued at the last quarter end at Rs.l,OOO.The investment revaluation reserve carries a debit balance of Rs.2,200 being the cumulative impact of revaluations from the date of purchase to the last quarter end. The entity now sells this share for Rs. 1,025 (ignoring transaction costs).

The profit and loss account will recognise a loss of Rs.2,175. This comprises a gain of Rs.25 (difference between carrying amount of Rs. 1000 and consideration of Rs.l,025) and the cumulative previously recognised losses of Rs.2,200 in reserves, which are now recycled into the Profit and Loss Account.

There appears to be no bar on such an investment revaluation reserve carrying a debit balance as per paragraph 61(b) of AS-30.

De-recognition of financial liabilities:

Financial liabilities’ are de-recognised when the liability is extinguished, that is when the obligation in the contract is discharged or cancelled or expires. An exchange between a borrower and a lender of financial instruments substantially different from existing instruments should be treated as an extinguishment of the earlier liability and a new liability should be recognised.

The difference between the carrying amount and the consideration paid, including any non-cash assets transferred or liabilities assumed, should be recognised in the Profit and Loss Account.

Recent issues in FDI Policy

Article

1. Introduction :


1.1 The Foreign
Direct Investment (‘FDI’) Policy has always been a contentious issue. Recently
in an attempt to simplify the FDI Policy, the Department of Industrial Policy &
Promotion (DIPP), Ministry of Commerce & Industry, has issued 3 Press Notes — PN
2 of 2009, 3 of 2009 and 4 of 2009.

1.2 Press Note
2 of 2009 seeks to bring in clarity, uniformity, consistency and homogeneity
into the methodology of calculation of the direct and indirect foreign
investment in Indian companies across sectors/activities. Press Note 3 of
2009 gives guidelines for transfer of ownership and control of Indian
companies from resident Indians to non-resident entities. Press Note 4 of 2009
lays down the policy for downstream investment by Indian companies.

1.3 Whether these
Press Notes clear the confusion or add more fuel to the fire is anyone’s guess.
This Article seeks to explain the issues which emerge as a result of this new
Policy stance adopted by the Government.



2.

Indirect Foreign Ownership
(Press Note 2 of 2009) :


2.1 Any
non-resident investment in an Indian company is FDI. However, if the domestic
investment by resident Indian entities, which have invested in the Indian
company, comprise non-resident investment, then the Indian company would have
indirect foreign investment as well. Till recently the FIPB reckoned such
indirect foreign investment on a proportionate basis in several sectors such as
telecom. For example, an Indian telecom company had 36% FDI and 64% domestic
investment and if the domestic investor had 50% FDI in it, then the indirect
foreign equity in the telecom company was 32% and the total foreign investment,
direct and indirect was 68%.



2.2

New method of calculating
foreign investment in an Indian company :


2.2.1 All
investments made directly by a Non-resident Entity into an Indian company would
be treated as Foreign Direct Investment.

2.2.2 For
reckoning the indirect foreign investment, the important factors would be the
ownership and control of the Indian investing companies. Any foreign investment
by an investing Indian company which is ‘owned and controlled’ by
resident Indian citizens and/or by Indian companies which are in turn owned and
controlled by Resident Indian citizens, would not be considered for calculation
of ‘indirect foreign investment’. Such investment would be treated as
pure domestic investment. The previous provisions (PN 7 of 2008) for
investing companies in infrastructure and service sector and the proportionate
method computation have now been deleted.

Let us understand
the meaning of the terms ‘owned’ and ‘controlled’ :

Owned :

An Indian company
would be considered as ‘owned’ by resident Indian citizens and Indian
companies if more than 50% of the equity interest in the Indian company
is beneficially owned

  • by resident
    Indian citizens, or

  • by Indian
    companies which are owned and controlled ultimately by resident Indian
    citizens.

Controlled :



An Indian company would be
considered as
‘controlled’ by resident
Indian citizens
and Indian companies (which are owned and controlled ultimately by resident
Indian citizens) if the resident Indian citizens and Indian companies (which are
owned and controlled ultimately by resident Indian citizens) have the
power to appoint a
majority of its directors.


For example, in
Bharti Airtel, SingTel of Singapore owns a 31% stake, of which only 15.8% is
direct and the balance is through its investment in Bharti Telecom which owns
45% of Bharti Airtel. As per the new norms, only 15.8% would be treated as
SingTel’s foreign ownership in Bharti Airtel, since Bharti Telecom is a company
owned and controlled by Indians and hence, its entire investment in Bharti
Airtel is treated as a domestic investment.

2.2.4 If the
investing Indian company’s ownership and control is not directly/indirectly by a
Resident Indian Citizen, the entire investment by such company would be
considered as indirect foreign investment. For example, A Ltd. which is owned
and controlled by an NRI, has invested 40% in B Ltd. The indirect foreign
investment in B Ltd. is 40%.

An exception has
been provided for in the case of downstream investments in a wholly-owned
subsidiary of operating-cum-investing/investing companies. In such a case,
the indirect foreign investment will be limited to the foreign investment in the
operating-cum-investing/investing company. Thus, A Ltd., which is an
operating-cum-investing company has 74% FDI and if it sets up a 100% subsidiary,
B Ltd., then B Ltd., will be treated as having 74% indirect foreign investment.

The
above-mentioned methodology for computation of foreign investment does not apply
to sectors which are governed specifically by a separate statute, such as the
insurance sector. The methodology specified therein would continue.

2.2.5 The Press Note also treats foreign investment as including all FDI, FII investment (as on 31st March), FCCB, NRI/ ADR/GDR investment/Convertible Preference Shares/Convertible Debentures, etc.

2.2.6 In the case of all sectors which require FIPB approval, any shareholders’ agreement which has an effect on appointment of directors, veto rights, affirmative votes, etc., would have to be filed with the FIPB at the time of seeking approval. It will consider all such clauses and would decide whether the investor has ownership and control due to them.

2.2.7 Issues:

The recent Press Note has thrown  up several issues:

(a)    It is necessary to note that an Indian company must be both owned and controlled by Indian citizens. If either condition is violated, then its investment would be treated as indirect foreign investment.

(b)    For determining the foreign ownership of an Indian company it should have more than 50% foreign ownership. What happens in a situation where the Indian and the foreign partner have an equal (50 : 50) stake? In several Indian JVs, the foreign partner desires one golden share (over 50%) to enable consolidation with his foreign company. If such a JV makes a down-stream investment in any company, then the entire investment would now be treated as in-direct foreign investment.

(c)    For determining the foreign control, it only needs to be seen whether the foreign entity has power to appoint majority of directors. It does not address the other ways in which control can be exercised, e.g., veto rights, affirmative votes, shareholders’ agreement. In sectors where the FDI is subject to Government approval, the Indian company will need to disclose to the FIPB the details of inierse shareholder agreements which have an effect on the appointment of the Board of Directors, differential voting rights and such other matters. But a similar treatment has not been extended to the indirect foreign investment. A majority of the private equity deals have a host of special investor rights, but may not necessarily have a majority of the Board seats.

(d)    What would happen if an Indian investing company with 49% FDI and which is owned and controlled by Indian citizens, invests 26% in an NBFC which already has 51% FDI? Under the new norms, 26% investment would be treated as domestic investment and hence, the NBFC would not have to comply with the minimum capitalisation norms applicable to an NBFC which has more than 75% FDI.

(e)    What if the Indian investing company, which has 49% FDI and which is owned and controlled by Indian citizens, invests in a sector for which FDI is prohibited, e.g., lottery business? Sectors such as retail trading, real estate, information, defence, avaiation, etc., are expected to benefit from this Press Note. We may soon have a case where several foreign retail players may try to invest in multi-brand retailing via the indirect foreign ownership method. As per press reports, the RBI has objected to this Press Note.

(f)    FII investment has been treated as foreign investment. However, to consider the same, one has to ascertain the limits as on 31st March. If one looks at the FII activity after 31st March, 2008 there are only withdrawals. Hence, even though the current position is drastically different from what it was on 31st March, 2008, yet one is required to consider the FITinvestment level as on 31st March, 2008. This provision would create a lot of problems. Further, clubbing ADR/GDR holding with foreign shareholding is also a vexed issue. The voting on ADR/GDR is by the custodian of the shares. How the custodian would vote is generally not specified. There are a few cases where it is specified in the pro-spectus. But generally, it is left open. Interestingly, Cl. 40A of the Listing Agreement, while computing the public shareholding in a listed company, excludes shares which are held by custodians and against which depository receipts are issued overseas. The logic being that the custodian would vote in unison with the promoter. If that be the case under the Listing Agreement, then the stand taken by the FIPB is diagonally opposite, i.e., the custodian would vote in unison with the foreign receipt owners.

(g)    Special investor rights are the norm in the case of private equity deals and hence, if PE deals are to be done in sectors requiring FIPB approval, then the Shareholders’ Agreement would have to be filed with the FIPB. Thus, if any courier company (where FIPB approval is required) wants to get PE funding, it would also have to get the Shareholders’ Agreement approved by the FIPB. Thus, the regulator would now exercise quasi-judicial functions. This amendment is truly amazing.

3.    Transfer of Ownership & Control of Indian Companies from Resident Indian Citizens to Non-Resident Entities (Press Note 3 of 2009) :

3.1 The DIPP has issued new guidelines in respect of transfers of shares in all sectors where the FIPB approval is required or sectors which have caps of FDI. These include sectors, such as defence, air transport, ground handling, asset reconstruction, private sector banking, broadcasting, commodity exchanges, credit information companies, insurance, print media, telecom and satellites.

3.2 In all such sectors, Govemment/FIPB approval would be required in the following cases:
(a)    If an Indian  company  is being  established  with foreign investment  and is owned  or controlled by a non-resident entity,  or   

(b)    The ownership or control of an existing Indian company, owned or controlled directly or indirectly by resident Indian citizens, is being transferred to a non-resident entity as a consequence of transfer of shares to NREs through amalgamation, merger, acquisition, etc.

3.3 The guidelines  will not apply  to sectors where there are no foreign investment caps, i.e., 100% foreign investment is permitted under the automatic route.

3.4 Issues:

(a)    Press Note 4 of 2006 had earlier put all transfers of shares from residents to non-residents on the automatic route, including in financial services sectors, or cases where the Takeover Regulations were attracted. It is intriguing that after a period of 3 years, the Government has decided to take a step backwards and put transfers in certain sectors on the approval route. When on the one hand, the RBI is taking measures for liberalisation of the FEMA, the FIPB on the other hand has taken us back to the approval raj.

(b)    The FIPB’s approval  would  be required  even

in cases of Court-approved mergers, demergers, etc. This has increased the number of authorities whose permission would be required for a merger. Thus, if a listed company in the telecom field decides to merge with another listed company which has more than 50% foreign investment, then consider the number of approvals it would require – the High Court, BSE/NSE (under Cl. 24 of the Listing Agreement) and now the FIPB.

The FIPB’s approval would be required even for cases of acquisition of shares. This would even delay the process for takeover of listed companies. A takeover, in a sector requiring FIPB approval for FDI, which attracts the SEBI Takeover Regulations, requires the clearance of SEBI, prior approval of the RBI and now also the approval of FIPB. Thus, this step is going to increase the time it takes for corporate re-structuring.

4.    Downstream Investments in Indian Companies (Press Note 4 of 2009) :

4.1 The last of the Press Notes aimed at simplifying the Rules is Press Note 4. This deals with down-stream investments by Indian companies. Down-stream investment, which refers to indirect foreign investment by one Indian company in another, was hitherto governed by Press Note 9 of 1999. This dealt with any downstream investmentby aforeignowned Indian holding company. FDI in such cases required prior FIPB approval. Recently, FIPB had taken an interesting stance that downstream investment on an automatic route was permitted only for pure investment companies and not by operating-cum-investment companies, those which have their own operations in economic activities and desired to invest in another Indian company. FIPB’s view was that this tantamounted to a change in status from operating to operating-cum-investment company and hence, required prior FIPB approval. Several renowned corp orates such as JSW Energy Ltd., Aditya Birla Nuvo Ltd., etc. were pulled up for getting FDI and making downstream investments without FIPB approval. FIPB allowed restrospective clearance subject to compounding of penalties with the RBI under FEMA. In some cases, the foreign investment was as low as 1% and yet FIPB treated it as a violation of Press Note 9 of 1999. Thus, this was one area where there was a lot of ambiguity.

4.2 Operating Companies :

The new norms state that foreign investments in operating companies would fall under the automatic approval route wherein the investing companies would have to comply with the relevant sectoral conditions on entry route, conditionalities and caps with regard to the sectors in which such companies are operating.

4.3 Operating-cum-Investing    Companies:

Foreign Investments in operating-cum-investing companies would fall under the Automatic Route as explained above. Further, the Operating-cum-investing company which is making the downstream investment into the Indian Company would have to comply with the relevant sectoral caps and conditionalities which are applicable to the investee company. Thus, if Hindustan Unilever Ltd., which is a foreign-owned company, desires to invest in a retail trading company, then it would become an operating-cum-investment company and its downstream investment would need to comply with the conditions applicable to FDI in retail trading.

4.4 Investing  Companies :

Foreign investments in purely Investing Companies would require FIPB approval, regardless of the extent of foreign investment. Further, as and when such Investing Companies make downstream investments in Indian companies, they would have to comply with the relevant sectoral caps and conditionalities. However, such downstream investments cannot be made for the purposes of trading of the underlying securities. The FIPB approval would be required regardless of the amount of foreign investment in such an investing company.

4.5 Shell Company :

Foreign investments into companies which are currently neither carrying on any operations nor do have any investment activities, would require FIPB approval regardless of the extent of the foreign investment. Further if and when such shell companies commence any operating/investing activity, the relevant conditionalities as explained above would have to be complied with.

4.6 Additional Conditions :

In case of Operating-cum-Investing Companies and Investing Companies, certain additional conditions have to be complied with, such as giving an intimation to FIPB regarding the downstream investment within 30 days of such investment, compliance with the Pricing Guidelines as prescribed by SEBI, etc. Further, in order to make the downstream investment, the funds must be brought in from abroad only and not borrowed domestically.

5. Conclusion:

5.1 Although Government has a noble intention of simplifying the FDI policy, it may have unwittingly opened up a few more pandora’s boxes. It has plugged a few leaks by creating new leaks. The days to come are likely to throw up new issues in respect of these Press Notes and in some of the cases, the remedy may be more serious than the ailment. One hopes that the FIPB addresses these issues and comes out with a clearer and unambiguous policy. One is reminded of the US author, Kerry Thornley’s words:

“What we imagine as Order is merely the prevailing form of Chaos !”

Interest-free loans to subsidiaries — Another addition to transfer pricing controversies

Article 2

In
this era of globalisation, many Indian companies are setting up with the thrust
of capturing global market. In order to expand globally, many Indian companies
have either acquired companies abroad or have set up their own subsidiaries.


Equity could be one of the ways of funding this overseas expansion. However, in
certain instances, loan funding from parent company could require lesser
documentation, could be easier from a repayment perspective and hence relatively
simple. Where such loans to the subsidiaries are interest free, a point to be
considered is whether pursuant to the provisions of the transfer pricing
regulations as contained in S. 92 to 92F of Chapter X of the Income-tax Act,
1961, any interest income is to be imputed in the hands of the Indian parent
company.


There are recent rulings on this subject. For example, in the case of Perot
Systems TSI India Ltd. v. DCIT, (2010 TIOL 51) (Delhi Tribunal) and VVF
Limited v. DCIT, (2010 TIOL 51) (Mumbai Tribunal). It would be interesting
to note the observations made by the Tribunal while deciding the matter and the
key points for consideration emerging out of these rulings.


1. Perot Systems TSI India Ltd.
v. DCIT,


(2010 TIOL 51) (Delhi Tribunal) :


Facts :


The assessee was engaged in the business of designing and developing
technology-enabled business transformation solutions, providing business
consulting, systems integration services and software solutions and services.


The assessee had extended foreign currency loans to its associated enterprises
(‘AEs’) situated in Bermuda and Hungary. Both the entities were in start-up
phase. The loans were used by AEs for long-term investment in step-down
subsidiaries. The loans, which were interest free in nature, were granted after
obtaining the relevant approval from the Reserve Bank of India (‘RBI’).


The Assessing Officer (‘AO’) made a reference to the Transfer Pricing Officer (‘TPO’)
for determination of the arm’s-length price (‘ALP’). The TPO held that the loan
transaction was not at arm’s length. The TPO imputed interest on the loan
transaction as part of the transfer pricing assessment.


The TPO applied the Comparable Uncontrolled Price (‘CUP’) method for
determination of the ALP. The TPO used the monthly LIBOR rate and added the
average basis points charged by other companies while arriving at the
arm’s-length interest rate of LIBOR + 1.64% and thereby proposed an upward
adjustment for interest in relation to the loan transaction. The AO gave effect
to the adjustment made by the TPO in his order.


The assessee appealed before the Commissioner of Income-tax (Appeals) [‘CIT(A)’]
against the transfer pricing adjustment made. The CIT(A) upheld the order of the
AO and also denied the benefit of plus/minus 5% as provided under the proviso to
S. 92C(2) of the Income-tax Act, 1961 (‘the Act’).


Assessee’s contentions :


The assessee raised the following key contentions especially on the economic and
business expediency front to substantiate the reasons for not charging
interest :


(a) The loans provided were in the nature of quasi-equity and were used for
making long-term investments in step-down subsidiaries. The intent of extending
loan was to earn dividends and not interest.


(b) Both the entities were in the start-up phase and no lender would have lent
money to a start-up entity.


(c) The loans were granted after seeking RBI approval.


(d) The loan granted to the Hungarian subsidiary is treated as equity under the
Hungarian thin capitalisation rules and no deduction is allowed to the Hungarian
entity on payment of interest.

   e) The income connotes real income and not fictitious income. The assessee placed reliance on Authority for Advance Rulings delivered in the case of Vanenburg Group B.V. for the proposition that in the absence of any income, transfer pricing being machinery provisions shall not apply.

Tribunal ruling:

The Tribunal upheld the ruling of the CIT(A) and decided the matter in favour of the Revenue. The Tribunal made the following comments/observations while ruling in favour of the Revenue:

 a)   The Tribunal examined the loan agreement and stated that they could not find any feature in the loan agreement which supports the contention that such a loan was in the nature of quasi-equity. The Tribunal further observed that it was not the case that there was any technical problem that the loan could not have been contributed originally as capital if it was actually meant to be capital contribution.

  b)  The Tribunal stated that if the assessee’s contention that interest-free loans granted to AEs should be accepted without adjustment for notional interest, it would tantamount to taking out such transactions from the purview of S. 92(1) and S. 92B of the Act.

  c)  The Tribunal dismissed the assessee’s contention that the loans were granted out of commercial expediency and economic circumstances did not warrant the charging of interest. The Tribunal also dismissed the assessee’s proposition that only real income should be taxed and noted that these arguments could not be accepted in the context of Chapter X of the Act.

 d)   The Revenue contended that the loan granted to the group entity in Bermuda was made with the intention of shifting profits to Bermuda which is a tax haven. The Tribunal concurred with the Revenue’s contention that this transaction would result in shifting profits from India, resulting in bringing down the tax incidence for the group and hence this was concluded to be a case of violation of transfer pricing norms.

    e) The Tribunal agreed with the Revenue’s contention that the RBI approval of any transaction is not sufficient for Indian transfer pricing purposes and the character and substance of the transaction needs to be judged in order to determine whether the transaction is at arm’s length. The RBI approval does not put a seal of approval on the true character of the transaction from an Indian transfer pricing perspective.

   f) The Tribunal also held that the assessee would not be entitled to the benefit of plus/ minus 5% as provided under the proviso to S. 92C(2) of the Act. The Tribunal held that only one LIBOR rate has been applied, which has been adjusted for some basis points and this cannot be equated with more than one price being determined so as to apply the aforesaid proviso.

   2. VVF Limited v. DCIT (2010 TIOL 51) (Mumbai Tribunal):

Facts:

The assessee had two wholly-owned subsidiaries (associated enterprises) in Canada and Dubai, to whom interest-free loans had been extended. The assessee used CUP as the most appropriate method to benchmark this transaction and determined the arm’s-length price for the interest as Nil. It is pertinent to note that the assessee had taken foreign currency loan from the ICICI Bank at the rate of LIBOR plus 3% for investing in subsidiaries abroad.

The case was referred to the TPO. The TPO took into account details of borrowings by the assessee from different sources and arrived at a conclusion that the loan transactions were made out of a cash credit facility extended by Citibank at an interest rate of 14%, the same rate should be considered as ALP. Accordingly, the AO made an upward adjustment by adopting a rate of interest of 14% per annum as the ALP.

The assessee preferred an appeal before the CIT(A) and the CIT (Appeals) upheld the action of the AO.

Assessee’s contentions:

The assessee contended that since it had sufficient interest-free funds, it was justified in not charging the interest on loans given to the overseas group entities. Further, the loan was given out of commercial expediency. The assessee also argued on the principle of real income as there was no real income which can be brought to tax.

Tribunal ruling:

The Tribunal upheld the stand of the AO. While up-holding the stand of the AO, the Tribunal made the following observations:

   a) The purpose of making arm’s-length adjustments is to nullify the impact of the inter-relationship between the enterprises.

    b) The Tribunal held that it was irrelevant whether or not the loans were provided from interest-free funds or out of interest-bearing funds. It went on to say that CUP method seeks to ascertain the arm’s-length price taking into consideration the price at which similar transactions have been entered into. CUP method has nothing to do with the costs incurred. Thus, whether there is a cost to the assessee or not in advancing interest-free loan or whether it was commercially expedient is irrelevant in this context.

    c) The Tribunal held that the appropriate CUP for benchmarking this transaction would be the interest rate charged on foreign currency lending. Thus, interest rate charged on the domestic borrowing is not the appropriate CUP in the instant case.

    d) The Tribunal considered the financial position and credit rating of the subsidiaries to be broadly similar to the assessee. Accordingly, the Tribunal considered the rate at which the ICICI Bank has advanced the foreign currency loan to the assessee as ALP in the instant case.

Analysis:

The aforesaid rulings are very crucial for the simple reason that both the rulings stipulate that interest-free loan given by the Indian entity may not be viewed as at arm’s length from Indian transfer pricing perspective. This could have a significant impact on the Indian companies providing financial assistance to its overseas subsidiaries/group entities without charging any interest. Accordingly, a number of issues arise, which need to be analysed.

It is true that ordinarily, independent parties dealing with each other will not provide interest-free loans to each other. However, it would be incorrect to lay down a general principle of law that all cases of interest-free loan to subsidiaries would be non-compliant with the arm’s-length principle. The facts of each case could vary and there could be economic or commercial reasons for not charging the interest. These should be analysed independently before reaching the conclusion on the arm’s-length nature of the interest-free loan transaction.

The substance of the transaction should be given due credence. It is relevant to note that the argument on ‘quasi-equity’ was not per se rejected by the Tribunal in the case of Perot Systems. In fact, the Tribunal examined the loan agreement to as-certain the true nature of the loan transaction. The Tribunal could not find anything in the agreement which was suggestive of the fact that the loan was in effect quasi-equity. Thus, the moot point here is to demonstrate that in substance the funding instrument has characteristics of an equity as against debt. If it can be demonstrated that the economic substance of the loan is closer to equity than debt, an issue for consideration would be whether the loan is in the nature of equity so as to justify non-charging of interest. For example, if it can be demonstrated that no independent lender would have lent money to a subsidiary (on the basis of its stand-alone financial status) and the parent entity lends money to such a subsidiary, and hence the parent entity is exposed to significant risk, then the risk so assumed by the parent company could be far higher than what a pure lender of funds would be willing to undertake. The moot point therefore is whether the risk profile of such a loan transaction is closer to that of an equity transaction, and thereby making the same ‘quasi-equity’ in economic substance.

Para 1.37 of the OECD Transfer Pricing Guidelines is relevant to note in this context as it states that:

“However, there are two particular circumstances in which it may, exceptionally, be both appropriate and legitimate for a tax administration to consider disregarding the structure adopted by a taxpayer in entering into a controlled transaction. The first circumstance arises where the economic substance of a transaction differs from its form. In such a case the tax administration may disregard the parties’ characterisation of the transaction and re-characterise it in accordance with its substance. An example of this circumstance would be an investment in an associated enterprise in the form of interest-bearing debt when, at arm’s length, having regard to the economic circumstances of the borrowing company, the investment would not be expected to be structured in this way. In this case it might be appropriate for a tax administration to characterise the investment in accordance with its economic substance with the result that the loan may be treated as a subscription of capital.”

In fact, the Australian transfer pricing rules have laid down certain guiding principles to determine whether a particular loan transaction should be treated as equivalent to equity. Some of these factors are rights and obligations of lender and similarity with the rights and obligations of an equity holder, repayment rights whether subordinate to claims of other creditors, the debt equity ratio of the borrowing entity, etc.

In order to demonstrate the economic substance of the transaction, it would thus be important to appropriately document all the features of the funding instrument in the agreement/arrangement.

Moreover, the observation of the Tribunal in case of VVF that the credit rating of the subsidiary is broadly similar to that of the parent entity is in contradiction to the ruling of the Tax Court of Canada in its recent landmark ruling in case of GE Canada, on the subject of guarantee fees. The Court in this case, after examining the evidence and testimony of several expert witnesses, stated that the higher credit rating for the parent company does not automatically translate into a similar credit rating for the subsidiary. This essentially means that the risk profile of a subsidiary from a lender’s perspective could be quite different from that of the parent company, and this factor would need to be considered while determining the economic substance of the loan to the subsidiary i.e., debt or ‘quasiequity’.

Further, it is noteworthy that the Tribunal, while denying the benefit of plus/minus 5% in the case of Perot Systems, failed to recognise that the aver-age basis points figure added to LIBOR was arrived at considering the average of various basis points charged by a set of comparable companies. The Tri-bunal proceeded on the basis that LIBOR reflects only one rate and since only one rate has been used, the proviso to S. 92C(2) does not apply. LIBOR1 is a daily reference rate based on the interest rates at which banks borrow unsecured funds from other banks in the London wholesale money market. Thus, it is pertinent to note that LIBOR itself is determined based on the average of certain rates prevalent at a particular point of time. Thus, the assumption that LIBOR is only one rate may not be correct. Further, the ‘plus figure’ to LIBOR was determined based on the average of various basis points. Thus, consider-ing that a set of prices was considered, it is arguable, with due respect, that the benefit of plus/ minus 5% should have been given to the assessee.

Another important point emerging out of this ruling is that the approval obtained from other Govern-ment authorities does not necessarily approve the arm’s-length nature of the given transaction under the Indian TP regulations. In cases of payment of interest on ECB or royalty payout, quite often the RBI approval or the ceiling rate prescribed by the RBI under the respective regulation is taken as a bench-mark for determining the arm’s-length nature of such transaction. In view of this ruling, the approach of benchmarking placing reliance on approval from government authorities may need to be revisited.

The Tribunal in the case of Perot Systems also discussed the aspect of thin capitalisation rules prevalent in the borrower’s jurisdiction. In view of the Tribunal, the thin capitalisation rules prevalent in the borrower’s jurisdiction would not have any impact on the arm’s-length determination of the interest transaction in India. It is relevant to note that thin capitalisation rules in most of the jurisdictions generally prescribe the acceptable debt equity ratio. These rules only restrict the deductibility of interest for tax purposes if the debt exceeds the prescribed debt equity ratio but there is no restriction on the interest payout. This could be one of the factors which could have led the Tribunal to disregard the contention on thin capitalisation. Having said that, it is important to note that so far as thin capitalisation aspects are concerned, the grant of interest-free loan could incidentally lead to double taxation situation. The interest is deemed to accrue at arm’s length in the hands of the Indian lender and yet the loan recipient entity is unable to claim a deduction due to local thin capitalisation regulations in the home country resulting in double taxation. Thus, this aspect should also need to be taken into consideration.

Conclusion:

The rulings discussed hereinabove could have significant practical implications. The rulings on grant of interest-free loan would impact many Indian companies which have given interest-free loan to its overseas subsidiaries/group companies on account of various business reasons.

Though the aforesaid rulings stipulate that interest-free loan given to overseas group entities may not be viewed as at arm’s length, it is important to look at the economic substance of the transaction. A generalised principle cannot be laid down that in all cases of interest-free loan, interest needs to be imputed. It is thus important that the business case around such transaction is robustly built adducing sufficient economic and commercial basis. It is equally important to document the nature of the funding instrument appropriately in the agreement such that it clearly brings out the true character of the funding instrument i.e., whether it is a debt or a quasiequity. Needless to say, a robust transfer pricing study covering these aspects would be of para-mount importance.

Finally, one needs to wait and watch to see how the higher appellate authorities adjudicate on some of the observations made by the Tribunal and whether the higher appellate authorities would give some respite to the taxpayers. Till then, the taxpayers have to be extremely cautious while entering into interest-free transactions, especially in light of the aforesaid rulings.

Capital gains and S. 54EC of the Income-tax Act, 1961

Case Study

1.1
Mr. Atul Shah sold his land in Ahmedabad in F.Y. 2007-08. Mr. Shah also sold his
land in a small village in the same year. Mr. Shah earned a long-term capital
gain (LTCG) on transfer of the Ahmedabad land and incurred a lonwg-term
capital loss (LTCL) on transfer of the village land. Mr. Shah invested in
eligible bonds as per section 54EC of the Income-tax Act, 1961 in order to save
tax on LTCG. The working of the gain and the loss was done as follows :


1.3    Thus, the AO effectively exhausted the long-term capital loss, leaving nothing to be carried forward. The assessee argued that before the loss could be set off against the gain, effect should be given to S. 54EC. The assessee also relied on the decision in the case of ICICI Ltd. v. Dy. CIT, 70 ITD 55 (Mum.). The assessee argued that S. 70 or S. 71 should be applied only after giving effect to S. 54EC. The AO rejected this argument and distinguished the ICICI Ltd. case by stating that S. 54E, which was involved in the ICICI case, was one of the Sections named in S. 45(1) as having an overriding effect. S. 54EC, as applied by the assessee in the present case, was not named in S. 45(1). This can be seen from the language of the Section which is as under?:

“Any profits or gains arising from the transfer of a capital asset effected in the previous year shall, save as otherwise provided in S. 54, S. 54B, S. 54D, S. 54E, S. 54EA, S. 54EB, S. 54F, S. 54G and S. 54H, be chargeable to income-tax under the head ‘Capital gains’, and shall be deemed to be the income of the previous year in which the transfer took place.”

Thus, according to the AO, since there is no reference made to S. 54EC in S. 45(1), S. 54EC cannot have an overriding effect unlike S. 54, S. 54F, et al., named in S. 45(1). The AO was of the view that the net result under the head ‘Income from Capital Gain’ should be first found out after application of S. 70 and if there is any LTCG found taxable thereafter, it is in respect of such gain that the exemption mentioned in S. 54EC should be granted. In the result, the AO denied carry forward of the LTCL.

1.4    The assessee seeks your opinion.

2.0    Opinion:

2.1 It is true that S. 45(1) does not name S. 54EC like S. 54, S. 54F, et al. It is an admitted position that the Sections (S. 54, S. 54F, etc.) named in S. 45(1) have an overriding effect and capital gains u/s.45 have to be computed subject to those Sections. S. 45(1) does not name S. 54EC and, therefore, S. 45(1), apparently, is not subject to S. 54EC.

2.2 However, it must be remembered that capital gain or loss has to be worked out in respect of each capital asset separately. A useful reference may be made here to support this proposition to the case of Jt. CIT v. Montgomery Engineering Markets Fund, 100 ITD 217. The Mumbai Bench of the Tribunal upheld the plea that each capital asset is a separate source of capital gain or loss. Similar view is also taken by the Mumbai ITAT in the case of ACIT v. Nemish S. Shah, 36 BCAJ, P. 645, No. 29, March 2004 issue where the Tribunal held that each share in a company is a separate capital asset. Thus, transfer of each asset constitutes a source of capital gain. Once this position is conceded, the law does not provide about the specific gain against which exemption granted in S. 54EC should be claimed. In other words, it is left to the assessee to decide against which long-term capital gain or gains he wants to claim exemption. The aggregation of long-term capital gains in respect of each asset will be done only after the process of computation of capital gain, including granting exemption in respect of each individual capital asset, is completed, and it is the residue from each source that will be aggregated to arrive at the total figure of capital gain chargeable under the head ‘Income from Capital Gain’. It must be stated here that S. 70(3) states that when the result of computation made u/s.48 to u/s.55 is a loss arising from the transfer of a long-term capital asset the assessee shall be entitled to have the loss set off against any other gain arising from the transfer of a long-term capital asset. However, this provision talks of intra-head adjustment and for the purpose of this section, each capital asset constitutes a separate source of gain (or loss). It is only after the gain from a source is worked out in accordance with the provisions of S. 48 to S. 55 that one has to proceed further.

2.3 It is true that S. 45(1) does not explicitly mention S. 54EC as it mentions other Sections that have an overriding effect. Yet, one must not lose sight of the fact that S. 54EC grants exemption, and before the question of application of S. 70 and S. 71 would arise, net taxable capital gain from each source, i.e., transfer of each capital asset, should be worked out. Thus, omission of S. 54EC from being referred to in S. 45(1) is academic, without any significant effect as far as the present controversy is concerned.

2.4 Further, if the AO’s interpretation is accepted, it may frustrate S. 54EC. For example, a LTCG may arise to an assessee on 1st April of a financial year. As per S. 54EC he should make investment in an eligible instrument within six months form the date of transfer. Accordingly, he makes the investment. Now, the assessee incurs a long-term capital loss, say, in the month of December, that is, after making the investment. As per the AO’s interpretation, the investment made may become redundant as the long-term capital loss may take care of the long-term capital gain. However, this is a little absurd, as the assessee cannot wait till December to know whether he will have to make investment in the eligible instrument or not. If he does, and there is no loss incurred in December, unlike in the present case, he will have missed the bus of making investment. Though this logic is not entirely watertight, yet, we must try to give the provisions a meaningful purpose by resorting to purposive interpretation. On such an approach being adopted and on consideration of all the relevant provisions, one can say that S. 54EC operates in respect of capi-tal gain arising on transfer of each individual long-term capital asset and once an eligible investment is made it operates effectively so as to exclude the underlying gain from being considered for any purpose of taxation.

2.5 In ICICI Ltd.’s case (supra) the Tribunal interpreted S. 45(1) as being subservient to S. 54E. In order to make such interpretation, the Tribunal put weight on the language of S. 54E besides putting such weight on the language of S. 45(1) by ob-serving?: “In fact, the provision of S. 54E specifically states that, ‘the whole of such capital gain shall not be charged u/s.45’.” One may notice that S. 54EC also uses the same language. Thus, ICICI Ltd.’s case can be taken as an authority for the proposition that S. 54, S. 54F and other Sections referred to in S. 45(1) have an overriding effect on S. 45. But, the reverse may not necessarily be true. That is, the ICICI Ltd. case is not the authority for the proposition that if an exemption section is not mentioned is S. 45(1), it will not have an overriding effect.

3.0 To conclude, one can say that the exemption sections have an overriding effect on the main computational provisions as far as the charging S. 45 is concerned.

Arvind Kejriwal, A Messiah Against Crony Capitalists.

“Society does not go down because of the activities of the criminals but because of the inactivities of the good people”- Swami Vivekananda

In a country which was used to the traditional parties coming back to power again and again with no intention to change the status quo, Aam Aadmi Party’ s (AAP) ascent to power in Delhi was a breathe of fresh air.

This is almost the first time in the history of this country an infant political party formed with the sole aim of providing clean and honest governance had captured the imagination of the people in such a short time. They ran an honest and clean campaign with full disclosure of their funding, which is, quite alien to the current political system in the country. They got enough seats but still not enough to form the government on their own.

The Congress party gave its support, without even it being sought for, as the mandate of the people became very clear. The main agenda of AAP was to bring in the Jan Lokpal Bill and the Swaraj Bill which is core to its agenda of clean and honest governance while empowering the citizens.

One needs to understand that AAP is not a traditional political party. AAP from day one made its intentions very clear that it is not going to play by the status-quo and would resort to unconventional means, if required, to achieve its goals. They were fearless to take on any system or individuals to prove their point. Some call it anarchy while many call it revolution.

There are divergent views on the constitutional powers of the Delhi assembly to pass Jan Lokpal bill without the consent of the Central Government. Without getting into the merits of such arguments, they are two things, which I think are important.

First, what is the use of the power if you can’t bring the change you want to bring in? AAP’s core agenda is to pass the Jan Lokpal Bill and Swaraj Bill in the Delhi Assembly. If the existing system does not allow them to pass such laws, for whatever reasons, without falling into the trap of the traditional status quoits compromises which the system demands, what is the use of such power?

Second, with the dependency on Congress and BJP being very high to pass the bill, waiting for some more time is not going to help. If both Congress and BJP wanted a strong Lokpal Bill as requested by Anna and his team including Arvind Kejriwal, they could have passed astrong Lokpal Bill in the Parliament itself. The diluted Lokpal Bill passed in the Parliament is a testimony to their intentions. Going to courts is not an option as the timelines are long.

One can hate him, ignore him or term him as an anarchist. But, majority will see him as a crusader who had questioned the current system and asked the most difficult questions which the mainstream parties are scared to ask. He will be seen as a messiah who had sacrificed the power just to fight against the crony capitalism and corruption in this country. His focus on providing clean governance where honest enterprises can do business and flourish, will resonate well with majority of the corporate that are honest.

By resigning, Arvind Kejriwal had clearly made Corruption, Clean governance and Crony capitalism (three “C”s) as the main issues for the 2014 parliamentary elections. It will clearly resonate well with larger sections of the electorate who are honest. I strongly believe that it is very important for the idea of AAP to succeed, as its failure will only take the Crony capitalism and Corruption to disproportionate levels.

(Source: Extract from an article by V. Balakrishnan in The Economic Times of India, dated 17-02-2014)