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Co-operative housing society : Commercial premises : Transfer fees and non-occupancy charges : Principle of mutuality applies : Notification of State of Maharashtra putting restriction on amount of transfer fees applies only to residential societies and n

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I. Unreported :

  1. Co-operative housing society : Commercial premises :
    Transfer fees and non-occupancy charges : Principle of mutuality applies :
    Notification of State of Maharashtra putting restriction on amount of transfer
    fees applies only to residential societies and not to commercial premises :
    Transfer fees and non-occupancy charges not liable to tax.

[Mittal Court Premises Co-operative Society Ltd. v. ITO
(Bom.),
ITA No. 999 of 2004, dated 17-7-2009]

In this case the assessee is a co-operative society of
commercial premises. As provided in the bye-laws, the assessee had received
transfer fees from the transferees and non-occupancy charges from the members.
As regards the transfer fees the Tribunal relied on the decision of the
Special Bench in the case of Walkeshwar Triveni Co-operative Housing
Society Ltd v. ITO,
(2004) 88 ITD 159 (Mum.) (SB) and held that the
transfer fees being received from the transferee is not exempt on the basis of
the principles of mutuality. As regards the non-occupancy charges the Tribunal
held that the principles of mutuality would be applicable, but subject to the
10% limit prescribed by the State Government.

On appeal by the assessee, the Bombay High Court referred
to its judgment in the case of Sind Co-op. Housing Society v. ITO, (Bom.),
ITA No. 931 of 2004, dated 17-7-2009 (see August issue) and held as under :

“(i) In Income-tax Appeal No. 931 of 2004 along with
other appeals which we have decided by the separate judgment today, we have
set out the various facts and consequently, the Government Notifications
involved as also the provisions of the Act and the Rules and as such, it is
not necessary to refer to them once again. Suffice it to say that the
Notification issued by the State of Maharashtra putting restrictions on the
amount of transfer fee when the member desires to transfer his shares or
occupancy rights applies only in respect of housing residential societies.
In the instant case, the appellants before us are not housing residential
societies and consequently, those Notifications would not be applicable.

(ii) Insofar as the transfer fee is concerned, the
Tribunal held that it is covered by the decision of the Special Bench in the
case of Walkeshwar Triveny Co-operative Housing Society Ltd. The Tribunal
also noted that the transferees were admittedly not members of the assessee
society on the date on which the payments were made to the assessee society.
The transferees were admitted as members of the society and flats were
entered in their names only after the impugned payments were made to the
assessee society. It was also found that the amounts were paid in excess of
the Government Notifications and consequently, the amount paid as transfer
fees are exigible to tax.

(iii) There is an agreement by which the amount is paid
by the transferee. Insofar as the society is concerned, even if receipt is
issued in the name of transferee it is the nature of admission fee which
could be appropriated only on the transferee being admitted. Merely because
the amount may be appropriated earlier, it will not lose the character of
the amount being paid by a member. As held by us in Income-tax Appeal No.
931 of 2004, the same reasonings will apply to the appellants/petitioners
before us. In the circumstances, question as framed has to be answered in
the negative in favour of the assessee and against the Revenue.

(iv) That brings us to the issue insofar as non-occupancy
charges are concerned. Non-occupancy charges are again payable by a member
on account of the fact that the member is not occupying premises. Bye-laws
themselves provide for non-occupancy charges. Contribution therefore, is by
the member. Object of the contribution is for the purpose of increasing the
society’s funds, which could be used for the object of the society. Object
of the society as noted earlier is to provide service, amenities and
facilities to its members. In these circumstances, in our opinion, the
principles of mutuality as discussed in Income-tax Appeal No. 931 of 2004
must also apply.

(v) The learned counsel for the Revenue contended that
the amount of non-occupancy charges over and above 10% of the maintenance
charges should be held to be assessable to tax. In our opinion, the 10%
limit is not applicable to the commercial society like the appellant
herein.”

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Business expenditure : S. 37 of Income-tax Act, 1961 : Expenditure incurred on issue of convertible debentures : Is revenue expenditure allowable as deduction ?

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I. Unreported :


52. 


Business expenditure : S. 37 of Income-tax Act, 1961 : Expenditure incurred on
issue of convertible debentures : Is revenue expenditure allowable as
deduction ?


[CIT v. M/s. Secure Meters Ltd. (Raj.), ITA No. 8 of 2007, dated
20-11-2008 (Not reported)]


The assessee incurred expenditure on issue of convertible debentures : The
assessee’s claim for deduction of the expenditure was rejected on the ground
that it is capital expenditure. The Tribunal held that the expenditure is
revenue expenditure and allowed the deduction.


In appeal, the Revenue contended that convertible debentures were akin to shares
and that in line with the judgment of the Supreme Court in Brooke Bond India
v. CIT,
225 ITR 798 (SC), the expenditure was capital in nature.


The Rajasthan High Court upheld the decision of the Tribunal and held as under :


“A debenture, when issued, is a loan. The fact that it is convertible does not
militate against it being a loan. In accordance with the judgment of the Supreme
Court in the case of India Cement v. CIT, 60 ITR 52 (SC), expenditure on
loan is always revenue in nature even if loan is taken for capital purposes.
Consequently the expenditure on convertible debenture is admissible as revenue
expenditure.”

 

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Appeal to High Court : Power to condone delay : S. 260A of Income-tax Act, 1961 : No power to condone delay : Delay in filing appeal cannot be condoned

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I. Unreported :

  1. Appeal to High Court : Power to condone delay : S. 260A of
    Income-tax Act, 1961 : No power to condone delay : Delay in filing appeal
    cannot be condoned.

[CIT v. M/s. Grasim Industries Ltd. (Bom.), N. M.
No. 787 of 2009 in I.T. Appeal (L) No. 3592 of 2008, dated 8-7-2009]

In this Notice of Motion the Revenue was seeking
condonation of delay in filing the appeal u/s.260A of the Income-tax Act,
1961.

Following the judgment of the Supreme Court in
Chaudharana Steels (P) Ltd v. CCE,
(2009) 238 ELT 705 (SC) the Bombay High
Court held that the High Court had no power to condone delay in filing appeal
u/s.260A of the Act.

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Impact of IFRS on the real estate sector : Developing a new reporting framework

IFRS

Impact of IFRS on the real estate sector : Developing a new
reporting framework

As Indian companies get poised to converge with IFRS in April
2011, some of the sectors may witness significant changes in the financial
statements used for reporting their performance to various stakeholders. The
foremost amongst them is the real estate industry. This article seeks to discuss
these changes and their related impact in greater detail.

Revenue recognition :

Generally, developers start marketing the project before
construction is complete or perhaps, even before construction has started.
Buyers enter into agreements to acquire a spe+cific unit within the building on
completion of the construction. The contracts may require the buyer to pay a
deposit and progress payments, which are refundable only if the developer fails
to complete and deliver the unit.

Under IFRS, IFRIC 15 Agreements for the Construction of
Real Estate provides detailed guidance on recognition of revenue from real
estate contracts. Under the Indian GAAP, the matter is currently dealt through
the Guidance Note on Accounting for Real Estate Developers
issued by the
Institute of Chartered Accountants of India (‘ICAI’).

There are significant differences between the accounting
recommended under the two pronouncements.

Under the Indian GAAP, the ICAI Guidance Note permits the
real estate development contracts to be accounted on percentage of completion
method.

Accounting for real estate construction arrangements under IFRS

An agreement for construction of real estate can be accounted
as :


(a) Construction contract, which is within the scope of
IAS 11 on construction contracts; or

(b) Sale of goods and service, which is within the scope
of IAS 18 on revenue recognition.


An agreement for construction of real estate meets the
definition of a construction contract when the buyer is able to specify major
structural elements of the design of the real estate before construction begins
and/or specify major structural changes once construction is in progress
(whether or not it exercises that ability). In such cases, IAS 11 on
construction contracts applies.

In contrast, an agreement for construction of real estate in
which buyers have only limited ability to influence the design of the real
estate, e.g., to select a design from a range of options specified by the
entity, or to specify only minor variations to the basic design, is an agreement
for sale of goods within the scope of IAS 18. IAS 18 prescribes the following
criteria for revenue recognition — Revenue from the sale of goods shall be
recognised when all the following conditions have been satisfied :


(a) the entity has transferred to the buyer the
significant risks and rewards of ownership of the goods;

(b) the entity retains neither continuing managerial
involvement to the degree usually associated with ownership, nor effective
control over the goods sold;

(c) the amount of revenue can be measured reliably;

(d) it is probable that the economic benefits
associated with the transaction will flow to the entity; and

(e) the costs incurred or to be incurred in respect of
the transaction can be measured reliably.


An analysis of general agreements for sale of real estate in
India shows that the buyers have only limited ability to influence the design of
the real estate, in fact they have no influence over the basic design/layout of
the building/apartment. Hence the sale would generally fall under IAS 18
principles as an agreement for sale of goods.

There could be two scenarios under sale of goods :




? the entity may transfer to the buyer control and the significant risks and
rewards of ownership of the real estate in its entirety at once (e.g.,
at completion, upon delivery). In such cases, the revenue will be recognised
only at the point of completion coupled with delivery.



? the entity may transfer to the buyer control and the significant risks and
rewards of ownership of the work in progress in its current state as
construction progresses, and then the revenue is recognised on percentage
completion method, provided all criteria (mentioned above) of IAS 18 are
satisfied.




Determining continuing managerial involvement :

At the time of signing the provisional letter of allotment or
the agreement for sale, generally the seller has significant pending acts to
perform for completion of its obligations to deliver the apartment. All
decisions related to construction are with the seller and also, the construction
risk is to the account of the seller. This indicates continuing managerial
involvement in the property.

Determining transfer of risks and rewards :

The following indicators in real estate sale agreements
demonstrate that the risk and rewards of ownership are not continuously
transferred to the buyer :


— If the agreement is terminated before completion of the
construction by the buyer, the buyer does not retain the work-in-progress
and the developer does not have the right to be paid for the work performed.
The developer has to refund the money received from the buyer.

— The agreement does not give the buyer the right to take
over the incomplete property in case of default by the developer or
otherwise.


These indicate that the seller effectively retains control
and has continuing managerial involvement over the flats until possession is
transferred.

Hence the completed contract method will have to be applied
and revenue shall be recorded in its entirety on transfer of possession.
Construction costs incurred will be carried in the books of the developer as
work-in-progress under ‘Inventory’.

Difference from accounting for construction contracts :

As discussed above, determining whether an agreement for the
construction of real estate is within the scope of IAS 11 or IAS 18 depends on
the terms of the agreement and all the surrounding facts and circumstances. Such
a determination requires judgment with respect to each agreement.

IAS 11 applies when the agreement meets the definition of a construction contract set out in paragraph 3 of IAS 11: ‘a contract specifically negotiated for the construction of an asset or a combination of assets ….’ An agreement for construction of real estate meets the definition of a construction contract when the buyer is able to specify major structural elements of the design of the real estate before construction begins and/ or specify major structural changes once construction is in progress (whether or not it exercises that ability).

One view could be that IAS 11 should apply to all agreements for the construction of real estate. In support of this view, it is argued that:

    a) these agreements are in substance construction contracts. The typical features of a construction contract — land development, structural engineering, architectural design and construction — are all present

    b) IAS 11 requires a percentage of completion method of revenue recognition for construction contracts. Revenue is recognised progressively as work is performed. Because many real estate development projects span more than one accounting period, the rationale for this method — that it ‘provides useful information on the extent of contract activity and performance during a period’ (IAS 11 paragraph 25) — applies to real estate development as much as it does to other construction contracts. If revenue is recognised only when the IAS 18 conditions for recognising revenue from the sale of goods are met, the financial statements do not reflect the entity’s economic value generation in the period and are susceptible to manipulation.

In reaching the consensus that IAS 11 should apply only when the agreement meets the definition of a construction contract and apply IAS 18 when the agreement does not meet the

definition of a construction contract, the IFRIC noted that:

    a) the fact that the construction spans more than one accounting period and requires progress payments are not relevant features to consider when determining the applicable standard and the timing of revenue recognition;

    b) determining whether an agreement for the construction of real estate is within the scope of IAS 11 or IAS 18 depends on the terms of the agreement and all the surrounding facts and circumstances. Such a determination requires judgement with respect to each agreement. It is not an accounting policy choice;

    c) IAS 11 lacks specific guidance on the definition of a construction contract and further application guidance is needed to help identify construction contracts.

The IFRIC concluded that the most important distinguishing feature is whether the customer is actually specifying the main elements of the structural design. In situations involving the sale of real estate, the customer generally does not have the ability to specify or alter the basic design of the product. Rather, the customer is simply choosing elements from a range of options specified by the seller or specifying only minor variations to the basic design. The IFRIC decided to include guidance to this effect in the Interpretation to help clarify the application of the definition of a construction contract.

Currently under the Indian GAAP, guidance note on recognition of revenue by real estate developers states that revenue can be recognised once significant risks and rewards are transferred. In case of real estate sales, price risk is considered as the most significant risk; and the buyer has the right to sell or transfer his interest in the property without any conditions or with immaterial conditions attached. Thus under the current scenario, revenue from real estate sales can be recognised on the completion of an agreement for sale, even though the legal title or possession has not been delivered.

Consolidation of land acquisition companies:
Real estate companies in India are regulated under the Land Ceiling Act, 1976, which fixes a maximum limit on the area of land that may be owned by one company. To overcome these restrictions, real estate companies float various special purpose entities (SPEs) that purchase land from the market. A real estate company may have differing arrangements with SPEs. These arrangements would have to be closely evaluated and in light of SIC Interpretation 12 Consolidation — Special Purpose Entities.

In certain cases, real estate companies directly or indirectly hold 100% or majority share capital of such SPEs and/or have majority representation on their board of directors. However in other cases, the share capital of SPEs, which is generally a small amount, is held by a third party that also controls the governing body of the SPE. In such cases, the real estate companies are involved with the SPE in various other ways, such as provision of finance to carry out the activities, exclusive rights to develop land, provide guarantee against finance taken by SPEs, guarantee minimum return to the shareholders and/or enter contract, which may restrict the decision-making powers of SPE.

Under the Indian GAAP, companies consolidate only those entities where they directly or indirectly hold majority share capital and/or have majority representation on the board of directors or other governing bodies. However, under IFRS a special purpose entity may have to be consolidated even in cases where a company is not holding majority share or controlling the composition of the governing board of the SPE on account of certain arrangements like provision of finance to carry out the activities, exclusive rights to develop land, etc. which may be indicative of a control. As per SIC 12, the following circumstances, for example, may indicate a relationship in which an entity controls an SPE and consequently should consolidate the SPE?:

  a)  In substance, the activities of the SPE are being conducted on behalf of the entity according to its specific business needs, so that the entity obtains benefits from the SPE’s operation.

b)    In substance, the entity has the decision-making powers to obtain majority of the benefits of the activities of the SPE or, by setting up an ‘autopilot’ mechanism, the entity has delegated these decision-making powers.

   c)  In substance, the entity has rights to obtain majority of the benefits of the SPE and therefore may be exposed to risks incident to the activities of the SPE.

 d)   In substance, the entity retains majority of the residual or ownership risks related to the SPE or its assets in order to obtain benefits from its activities.

Upon transition to IFRS, real estate companies will need to evaluate their relationship with SPEs based on the criteria laid down in SIC 12. Further, real estate companies will also need to examine whether such consolidation may have any legal or other implications.

Structured financing arrangements:

Structured financing arrangements for entities floated by real estate companies for projects, would need to be closely evaluated to identify the substance of the transaction; and accounting will have to reflect this underlying substance. For example, instruments issued for which the entity has an obligation to pay cash would need to be classified as debt and the underlying committed returns or fluctuations in the value of such instruments would have to be recorded in the income statement. This would also increase the volatility of the reported earnings and reduce reported profits.

Impacts of change in financial reporting framework on other operational areas:

Executive compensation plans:

Some real estate companies pay commissions/ variable incentives to employees based on sales or profits. Given the impact of IFRS, there will be a high degree of volatility in the reported revenues and reported profits of companies, thereby impacting these compensation plans. Further in case of payments to directors, which in India is limited to a specified percentage of profits, companies will need to address the impact on managerial remuneration due to insufficient profits in the period when construction activity is ongoing but possession is not transferred, though companies would have positive cash flows.

Tax:

Another important area which deserves attention is the impact on the tax liability for a company due to the change in the accounting framework with special emphasis on changes in revenue recognition. It will be important to understand whether tax authorities will recognise profits under IFRS as taxable profits and thereby postpone the tax incidence till the possession of the property is transferred. Alternatively, the authorities may require the companies to recompute revenue using percentage of completion method for tax purposes. Further, interplay between the minimum alternate tax (MAT) provisions and the reported profits under IFRS would be equally important.

Debt covenants:

In preparing its first IFRS financial statements, an entity recognises all assets and liabilities in accordance with the requirements of IFRS, and derecognises assets and liabilities that do not qualify for recognition under IFRS. Further, the entity would have to reclassify items that it recognised in accordance with previous GAAP as one type of asset, liability or component of equity, but are a different type of asset, liability or component of equity in accordance with IFRS.

This may impact various business ratios like gearing, liquidity and profitability ratios of a first-time adopter. Further, a reclassification of a long-term loan as current due to, say, a default in meeting any covenant (example business ratios) may impact debt covenants of other loans. In extreme situations, it may even impact the company’s ability to continue as a going concern. It would be therefore pertinent to conduct a detailed examination of the various loan and borrowing agreements and identify the covenants which may be impacted by the transition. An early discussion with the lenders of funds around these areas would go a long way in avoiding last minute surprises.

Conclusion:

As convergence with IFRS is inevitable, the key now lies in getting this transition right. The most important factors for real estate companies would be educating their stakeholders including investors, bankers and align internal budgets and performance measurement matrices. Companies would have to closely examine various debt covenants and clearly identify the ones which may be impacted due to the transition and discuss the same with their financiers/ bankers. At the same time, it will have to sensitise the market participants with respect to the unique impact of certain standards on the industry. This in turn would help to realign the valuation matrices based on the different set of accounting policies that will be used by these companies to report their performance results. Given the aforesaid implications, an early start towards the convergence process is pertinent for both preparers and users of financial statements to understand the impact on how the financial performance will be reported going forward.

Consolidation — redefining control and reflecting true net worth

Background :

    Consolidated financial statements in India have traditionally been a reporting requirement only for listed companies. Companies not listed on stock exchanges are not required to prepare or present consolidated financial statements.

    The fundamental change under IFRS is that IFRS recognises consolidated financial statements as the primary set of financial statements for any entity that has subsidiaries or joint ventures or associates. The only exception for an entity not to report consolidated financial statements is if it meets all the following conditions :

    (a) the parent is itself a wholly-owned subsidiary, or is a partially-owned subsidiary of another entity and its other owners, including those not otherwise entitled to vote, have been informed about, and do not object to, the parent not presenting consolidated financial statements;

    (b) the parent’s debt or equity instruments are not traded in a public market;

    (c) the parent did not file, nor is it in the process of filing, its financial statements with a securities commission or other regulatory organisation for the purpose of issuing any class of instruments in a public market; and

    (d) the ultimate or any intermediate parent of the parent produces consolidated financial statements available for public use that comply with International Financial Reporting Standards.

    In this article we shall discuss the differences in principles of consolidation as laid down in IAS 27 ‘Consolidated and separate financial statements’ under IFRS and AS-21 ‘Consolidated financial statements’ under Indian GAAP. We will cover some of the implementation challenges and impact of the subtle differences in the consolidation standard between Indian GAAP and IFRS in our next article.

Key differences and implication :

Definition of control :

    Under the IFRS framework, consolidation is based on the power to control (i.e., the ability of one entity to control another). Hence, understanding what constitutes ‘control’ is of utmost importance. Control is defined as the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities. This definition is not unlike what is stated under AS-21 in Indian GAAP. However, where Indian GAAP takes a narrow view and assumes that holding a majority of the voting interest of an entity automatically results in controlling the entity, IFRS treats the same as a rebuttable presumption. Thus, IFRS provides that control is presumed to exist when the parent owns, directly or indirectly through subsidiaries, more than half of the voting power of an entity, unless in exceptional circumstances, it can be clearly demonstrated that such ownership does not constitute control.

    The implication of the control principles under IFRS is that companies cannot consolidate an entity only based on holding of current voting interests. Since consolidation is based only on control, only one holding entity will practically be able to demonstrate such control and hence there will never be a scenario where the same entity is being consolidated by two separate holding entities as a subsidiary. As a result of the transition to IFRS, the holding in the entity will need to be re-looked for assessment of potential voting rights held and more importantly an evaluation of the nature of any veto rights held by other shareholders, which are discussed below.

Potential voting rights :

    In assessing control, the impact of potential voting rights that currently are exercisable should be considered. Such potential voting rights may take many forms, including call options, warrants, convertible shares, and contractual arrangements to acquire shares. This is because the potential voting rights give the holders the power to control the entity because they can step in and acquire control at any time if they wish to.

    For example, X owns 40% of the voting power in A, Y owns 25% and Z owns the other 35%. Further, X holds a call option to acquire from Y an additional 20% of the voting power in A; the call option can be exercised at any time. Accordingly, it is X that has the power to govern A. Therefore X consolidates A, but reflects 60% as non controlling interest.

Participative rights with other shareholders :

    The presumption of control may be rebutted in exceptional circumstances if it can be demonstrated clearly that such ownership does not constitute control. To ascertain whether ownership constitutes control, the rights of minority interests need to be analysed. In many cases minorities have certain rights even if another party owns the majority of the voting power in an entity. Sometimes these rights are derived from law, and other times from the entity’s constitution.

    IFRSs do not address the issue of minority rights but as discussed above it is necessary to consider the nature and extent of the rights of minority in determining control, including the distinction between participating rights that allow minority to block significant decisions that would be expected to be made in the ordinary course of business, and rights that are protective in nature. Since IFRS does not have specific literature on minority rights, guidance is drawn from EITF 96-16 under US GAAP to determine if certain rights are participative and hence demonstrate absence of control with the majority shareholder. Examples of participative rights are :

  •      Approval from minority shareholders for selecting, terminating, and setting the compensation of management responsible for implementing the investee’s policies and procedures.

  •      Approval from minority shareholders for establishing operating and capital decisions of the investee, including budgets, in the ordinary course of business.

For example, two companies A and B come together to form a company X in which company A holds 75% with 3 directors on the board of company X and company B holds 25% with 2 directors on the board of company X. By virtue of majority holding, company A consolidates company X as a subsidiary under Indian GAAP. The Articles of Association of company X state that for certain decisions, a unanimous approval of the board of directors is required. These decisions include approving the annual and semi-annual budgets of the company and selection and appointment of senior management personnel. In such a case, Under IFRS, company A does not control company X, instead it shares joint control over it along with company B. Hence it shall not consolidate company X as a subsidiary but account for it as a joint venture arrangement.

Indirect holding:

Indirect holding mayor may not result in one entity having control over another. Although the total ownership interest may exceed 50%, this may not mean that the entity has control.

For example, entity L owns 35% of the voting power in entity N, and 40% of the voting power in entity M. M owns 60% of the voting power in N. There-fore, L has, directly and indirectly, a 59% [35% + (60% x 40%)] ownership interest in N.

However, L doesn’t control 59% of the vote because it does not have control over the votes exercised by M; rather, it is limited to significant influence. Therefore, in the absence of any contrary indicators, L does not control N and should  not consolidate  N.

Non-controlling interest (‘NCI’) :

Minority interests are referred as non-controlling interests (‘NCI’) under the revised IAS 27 standard and are presented as a part of consolidated equity. It is defined as ‘the equity in a subsidiary not attributable, directly or indirectly, to a parent’. This is unlike Indian GAAP, where minority interests are reflected outside consolidated equity (generally, as a liability).

Losses applicable to NCI are allocated irrespective of whether the NCI has a contractual obligation to make good such losses to the parent, even if doing so causes the NCI to be in a deficit position. Once again, this is unlike the treatment of excess losses under Indian GAAP.

Changes in controlling interests:

Under IFRS, changes in the  parent’s ownership interest in a subsidiary after control is obtained that do not result in a loss of control need to be accounted for as transactions with owners in their capacity as owners. As a result no gain or loss on such changes is recognised in the income statement. Also, no change in the carrying amounts of assets (including goodwill) or liabilities is recognised as a result of such transactions.

For example, Entity A owns 60% of the shares in Entity B. On 1st January 2010 Entity A acquires an additional 20% of Entity B. The consideration transferred for the additional shares of Entity B is INR 400. The carrying amount of non-controlling interest in the consolidated financial statements of Entity A on 1st January 2Q10 is INR 500.

The acquisition of the 20% interest of the non-controlling interest is recorded as follows:

Entity A recognises the decrease in equity in its consolidated financial statements. No adjustments are made to the recognised amounts of assets and liabilities or to goodwill.

Under Indian CAAP, the above acquisition of 20% additional interest would result in additional good-will for .the difference between the consideration transferred (INR 400) and the book value of the minority interest purchased.

Similarly, a reduction in equity interests from 80% to 60% due to sale of shares to minority interests (however control retained by the Company) would also have been adjusted in equity in the same manner as above, unlike Indian CAAP where a gain or loss on such sale of stake would have been rec-ognised in profit and loss e.g., : If the sale of 20% stake was made for a consideration of INR 500 (thus reducing the overall stake from 80% to 60%), and the net assets of the subsidiary were INR 1500 – Under IFRS, this transaction would result into an additional credit of INR 300 (1500*20%) to non-controlling interests and a credit of INR 200 to other equity, whereas under Indian CAAP the adjustment of INR 200 would have been recognised as a gain in the income statement.

Under IFRS, when a change in controlling interests results in loss of control (e.g., due to sale of investment in the subsidiary, due to which the investee company ceases to be a subsidiary), such a change is accounted for in two parts. Firstly, derecognise the net assets and goodwill of the subsidiary and recognise the relating gain or loss in income statement (by comparing it to the fair value of consideration received). Secondly, recognise any balance investment in the former subsidiary at fair value.

For example, Entity A owns 60% of the shares in Entity B. On 1st January 2010 Entity A disposes of a 20% interest in Entity B and loses control over Entity B. The consideration received for the sale of shares of Entity B is INR 400. At the date that Entity A disposes of a 20% interest in Entity B, the carrying amount of the net assets of Entity B is INR 1,750. The amount of non-controlling interest in the consolidated financial statements of Entity A on 1st January 2010 is INR 700. The fair value of the remaining 40% investment is determined to be INR 800.

Entity A would record the following entry to reflect its disposal of a 20% interest in Entity B at 1st January 2010 :

The gain represents the increase in the fair value of the retained 40% investment of INR 100 [INR 800 – (40% x INR 1,750)], plus the gain on the sale of the 20% interest disposed of INR 50 [INR 400 – (20% x INR 1,750)].

Assuming that the remaining interest of 40% represents an associate, the fair value of INR 800 represents the cost on initial recognition and IAS 28-Accounting for associates applies going forward.

Under Indian CAAP, the gain on sale in the above case would be recognised based on the difference between the consideration received (INR 400) and the proportionate carrying value of the investment in the subsidiary. The carrying value of the balance investment would not be revalued to the fair value
unlike  IFRS.    ‘

Special purpose entities:

Under IFRS, there is no requirement for the parent to have a shareholding in a subsidiary, and this is not a necessary pre-condition for control. Sometimes an entity is created to accomplish a narrow and well-defined objective (e.g., conduct research and development activities, securitise financial assets, or own a specified asset). Such entities are referred to as Special Purpose Entities (SPE) and SIC 12 ‘Consolidation – Special purpose entities’ lays down the guidance for consolidation of SPEs. Important to bear in mind when analysing an SPE is the requirement to account for the substance and economic reality of a transaction rather than only its legal form. Conditions where an entity controls an SPE and hence needs to apply consolidation are given below:

a) in substance, the activities of the SPE are being conducted on behalf of the entity according to its specific business needs so that the entity obtains benefits from the SPE’s operation;

    b) in substance, the entity has the decision-making powers to obtain the majority of the benefits of the activities of the SPE or, by setting up an ‘autopilot’ mechanism, the entity has delegated these decision-making powers;

    c) in substance, the entity has rights to obtain the majority of the benefits of the SPE and there-fore may be exposed to risks incidental to the activities of the SPE; or

    d) in substance, the entity retains the majority of the residual or ownership risks related to the SPE or its assets in order to obtain benefits from its activities.

Using this approach, several SPE’s that have been set up by Indian companies for specific purposes (without any direct holding of voting interest or Board representation) may need to be consolidated, if the conditions of SIC 12 are met. This involves significant use of judgment and an evaluation of all the facts and circumstances of the case. Such entities are typically not consolidated under Indian CAAP. In the Indian context, some of the above parameters may get triggered in arrangements of ‘toll manufacturers’ – a practice which is fairly common in the FMCC and pharmaceuticals industry.

Conclusion:

Consolidation is an area which needs careful evaluation on convergence with IFRS. The changes due to such transition could result in a change in the group i.e., subsidiaries which were earlier part of the group may now become joint ventures or associates; and special purpose entities which were earlier not consolidated would now form part of the consolidation group. Consolidation in IFRS essentially revolves around the concept of unilateral control of the financial and operating policies of the investee company and lays importance on substance over form. It is important to note here that IASB has issued an Exposure Draft ‘ED 10 – Consolidated Financial Statements’ that under one standard now covers concepts of participative and protective rights of non-controlling interest and special purpose entities.

The liability Special Court (Trial of offences relating to Transaction in Securities) Act, 1992. Has precedence over other liability u/s.11(2)(a) — Scope of powers under the Act

The liability Special Court (Trial of offences relating to Transaction in Securities) Act, 1992. Has precedence over other liability u/s.11(2)(a) — Scope of powers under the Act.

    [DCIT v. State Bank of India & Ors., (2009) 308 ITR 1 (SC)]

    The present appeals were filed against the judgment and order of the Special Court constituted under the Special Court (Trial of Offences Relating to Transactions in Securities) Act, 1992 (hereinafter referred to as ‘the Act’) for conducting trial of offences related to transactions in securities. By the impugned judgment and order, the Special Court allowed the application filed by Respondent No. 1, the State Bank of India and directed the appellant to deposit an amount of Rs. 546.22 crores with the Custodian along with interest at 9% per annum. The Special Court while issuing the said direction held that the income-tax liability for the statutory period of the notified party, namely, Mr. Harshad S. Mehta u/s. 11(2)(a) did not at that stage appear to be in excess of Rs.140 crores approximately, subject to further orders that the Court might pass at a later stage. In the impugned judgment and order a further direction was issued that no useful purpose would be served by keeping the amount lying deposited with the Custodian and, therefore, a direction was also issued to the Custodian to pay to the banks, namely, the State Bank of India and the Standard Chartered Bank against their decrees the principal amount, from the amount in deposit with the Custodian as also from the amount that was likely to be coming back from the Income-tax Department. As the said amount was inadequate to fully satisfy the claims of the banks with respect to the principal amount, it was further held that the same would be disbursed by the Custodian on pro rata basis and after receiving an undertaking from the banks to the Court that they would bring back the amount, if so required, on such terms and conditions as may be directed by the Court.

    The issue sought to be raised by the appellant, Income-tax Department by filing the present appeal was whether the Special Court constituted under the aforesaid Act was right in scaling down the priority tax demand by delving into the merits of the assessment orders and by deciding the matter as an appellate authority, which directions according to the appellant were in violation of the decision of the Supreme Court in the case of Harshad Shantilal Mehta v. Custodian, (1998) 5 SCC 1.

    The Supreme Court noted that the subject-matter of the appeal related to the security scam of Harshad S. Mehta and the period relevant to the said scam related to the A.Ys. 1992-93 and 1993-94. The Assessing Officer completed the assessment proceedings for both the aforesaid years in respect of Harshad S. Mehta after gathering information from many sources and after giving an opportunity to the assessee to furnish details/explanations on the same. The Income-tax Officer passed an assessment order assessing the income for the A.Y. 1992-93 at Rs.2,014 crores and for the A.Y. 1993-94 at Rs. 1,396 crores. The assessment orders were challenged before the Commissioner of Income-tax (Appeals) by the assessee and were largely confirmed. Cross-appeals have been filed by the Revenue as also by the assessee for the A.Y. 1992-93, which are pending with the Income-tax Appellate Tribunal, whereas for the A.Y. 1993-94 appeal filed by the assessee is pending for admission. The orders of assessment were largely confirmed by the Commissioner of Income-tax (Appeals) resulting in raising a tax demand of Rs.1,743 crores by the Income-tax Department.

    The Supreme Court observed that in terms of the provisions of S. 11(2)(a) of the Act, the Income-tax Department has first right on appropriation of the assets of Harshad S. Mehta lying in the custody of the Custodian against its tax demand for the A.Y. 1992-93 and the A.Y. 1993-94 as tax component. Therefore, the Income-tax Department is required to be paid in priority over the liabilities payable to the banks, financial institutions and other creditors, particularly for the aforesaid relevant two years which were considered as statutory period.

    In terms of the aforesaid provisions and at the request of the Income-tax Department, the Custodian had earlier released a sum of Rs.686.22 crores to the Department pursuant to various orders passed by the Special Court, which were confirmed by the Supreme Court. The said interim release of funds of Rs.686.22 crores to the Department was subject to filing of an affidavit/undertaking by the Secretary (Revenue), Government of India that the amount would be brought back to the Court/custodian along with interest within a period of four weeks, if so directed by the Special Court.

    In Harshad Shantilal Mehta v. Custodian, (1998) 5 SCC 1 it was held by the Supreme Court that such priority would be restricted to the tax component of the demand for priority period relevant to the A.Y. 1992-93 and the A.Y. 1993-94. The Supreme Court also held that the Special Court cannot sit in appeal over the order of tax assessment but in case of any fraud, collusion or miscarriage of justice in the assessment proceedings where tax assessed is disproportionately high in relation to funds available, the Special Court could scale down the tax liability to be paid in priority.

Applications were filed by the State Bank of India (hereafter referred to as ‘the SBI’) and also by other banks including Standard Chartered Bank (herein-after referred to as ‘the SCB’) before the Special Court seeking direction to scale down the priority demand on the ground that there was gross miscarriage of justice in making an order of assessment in the case of the notified party, namely, Harshad S. Mehta. In the said applications reference was also made to the decrees on admission passed in favour of the banks against Harshad S. Mehta which according to the banks had become final and binding. Relying on the said decrees it was contended on behalf of the banks that passing of decrees prove tha t the concerned money which is assessed as income in the hands of Harshad S. Mehta as his income was, in fact, money belonging to the banks and, therefore, there was a miscarriage of justice as the Income-tax Department had considered the said amount/sum to be the income of Harshad S. Mehta. It was also submitted that miscarriage of justice also crept in, in respect of, additions on account of over-sold securities, unexplained stock and unexplained deposits in banks, etc. The aforesaid applications were heard by the Special Court wherein the Income-tax Department refuted the aforesaid submissions that there has been any miscarriage of justice in making the order of assessment in the case of Harshad S. Mehta. However, the Special Court under the impugned order dated September 29, 2007, accepted the pleas raised by the SBI and other banks in part with a direction to scale down the priority demand in the case of Harshad S. Mehta in the following terms and on the following grounds:

Consequently, it was held that if the above amounts were excluded from the total assessed income of the statutory period, the total income would be reduced to approximately Rs.277 crores, and therefore, it was held by the Special Court that the tax liability of Harshad S. Mehta for the aforesaid two assessment years payable u/s.ll(2)(a) of the Act in no case would exceed Rs.149 crores. In terms of the aforesaid findings and conclusions arrived at by the Special Court, directions were issued directing the Income-tax Department to deposit with the Custodian an amount of Rs.546.22 crores with interest at 9% per annum from the date of receipt of the amounts amounting Rs.686.22 crores, with a further direction that the said amount which is to be deposited by the Income-tax Department along with other amount lying deposited with the Custodian would be released in favour of the banks in terms of observations made in the impugned order.

After considering the legislative provisions of the Act and the judicial interpretation in the decision of Harshad Shantilal Mehta v. Custodian, (1998) 5 SCC I, the Supreme Court held that the following general principles regarding the powers of Special Court while discharging the tax liability emerge:

i) The Special Court has no jurisdiction to sit in appeal over the assessment of tax liability of a notified person by the authority or Tribunal or Court authorised to perform that function by the statute under which the tax is levied. A claim in respect of tax assessed cannot be re-opened by the Special Court and the extent of liability, therefore, cannot be examined by the Special Court.

ii) The claims relating to the tax liabilities of a notified person are, along with revenues, cesses and rates entitled for the statutory period, to be paid first in the order of priority and in full, as far as may be, depending upon various circumstances.

iii) The ‘taxes due’ refer to ‘tax as finally assessed’. The tax liability can properly be construed as tax liability of the notified person arising out of transaction in securities during the ‘statutory period’ of April I, 1991 to June 6, 1992.

iv) The priority, however, which is given u!s. 11(2)(a) to such tax liability only covers such liability for the period April I, 1991 to June 6, 1992. Every kind of tax liability of the notified person for any other period is not covered by S. 11(2)(a), although the liability may continue to be the liability of the notified person. Such tax liability may be discharged either under the directions of the Special Courtu /s.11(2)(c), or the taxing authority may recover the same from any subsequently acquired property of a notified person or in any other manner from the ‘notified ‘person in accordance with law.

v) The Special Court can decide how much of the tax liability will be discharged out of the funds in the hands of the Custodian and the Special Court can, for the purpose of disbursing the tax liability, examine whether there is any fraud, collusion or miscarriage of justice in assessment proceedings.

vi) Where the assessment is based on proper material and pertains to the ‘statutory period’, the Special Court may not reduce the tax claimed and pay it out in full, but if the assessment is a ‘best judgment’ assessment, the Special Court may examine whether the taxes so assessed are grossly disproportionate to the properties of the assessee in the hands of the Custodian, applying the Wednesbury Principle of Proportionality and other issues of the said nature. The Special Court may in these cases, scale down the tax liability to be paid out of the funds in the hands of Custodian. Such scaling down, however, should be done only in serious cases of miscarriage of justice, fraud or collusion, or where tax assessed is so disproportionately high in relation to the funds in the hands of the Custodian as to require scaling down in the interest of the claims of the banks and financial institutions and to further the purpose of the Act. The Special Court must have strong reasons for doing so.

In the light of the above, the Supreme Court observed that the fact that decrees have been obtained by the banks in respect of certain dues of Harshad S. Mehta could not be disputed by the Income-tax Department. It also could be disputed by the Income-tax Department that the amounts for which decrees have been obtained by the banks have become final and binding. But then, it was submitted that the taxes due have been ascertained and arrived at in terms of the provisions of the Act and that the banks have failed to establish by producing the relevant documents on record that the said amount, which is decreed in favour of the bank, has been wrongly included in the income of the notified party for the statutory period.

As the priority in payment of tax liability u/s.11(2)(a) is only for the statutory period and not any other period, the Supreme Court found that the appellant was justified while contending that if the banks had a right, title or interest in the attached property on the date of the Notification u!s.3 of the Act for which decrees had been obtained and if the banks were claiming that the said amount had wrongly been included in the income of the notified party for the statutory period, then the banks were required to show the nexus between the said decreed amount and the amount which was included in the income of the notified party for the statutory period.

Secondly with respect to the issue of duplication of a sum of Rs. 601.22 crores it was contended by the appellant that the same was correlated to the first issue and a finding on the said issue could be given only once the finding with respect to the first issue is arrived at. According to the Supreme Court there was no finding either on the issue of nexus or on the issue of duplication by the Special Court in the impugned judgment. Probably the reason for the same was that the said issues were not raised before the Special Court and even if they were raised before the Special Court the same were not addressed or considered in the manner in which they should have been done.

The Supreme Court was of the view that for the adjudication of the disputes which were raised in the present appeal, a finding on the said issues and questions would be mandatory and the same could not be dispensed with under any circumstances.

The Supreme Court observed that in the absence of relevant documents, neither it would be possible nor would it be appropriate for it to give a finding on the said issues and questions. Therefore in the opinion of the Supreme Court all such disputed questions were required to be decided by the Special Court after giving an opportunity to the parties to place all the relevant documents before it so as to enable it to come to a proper and considered finding.

However, while remanding the matter for a finding on the said issues and questions, the Supreme Court held that if the nexus is shown by the banks between the amounts for which decrees have been obtained, which have become final and binding and the amount which is included in the income in the hands of Harshad S. Mehta by the Department, the same will have to be disbursed to the banks by the Special Court. It also held that on account of over-sold securities if the delivery was given by Harshad S. Mehta and the transaction was complete, only the difference between the payable and receivable would be taken and not the gross amount. How-ever, the issue as to whether the decrees were on account of oversold securities and, if so, was there any duplication or whether the decrees were on account of siphoning of the funds, was required to be adjudicated by the Special Court on appreciation of the relevant documents.

The Supreme Court, however, clarified that so far as the amounts of Rs.253 crores and Rs. 101 crores are concerned, the appellants had not stated that the said amounts were not included in the income of the notified party for the statutory period. The consent decrees obtained in respect of Rs.2S3 crores were not challenged by the appellant, which led the Special Court to believe that the appellant had accepted the settlement and accordingly scaled down the said amount from the income of Harshad S. Mehta. Similar was the case with the amount of Rs.101 crores. Thus, the scaling down of the said amount was upheld and would not be disturbed.

Bad debt — Write-off — After 1st April, 1989, if an assessee debits an amount of doubtful debt to the profit and loss account and credits the asset account like Sundry Debtors’ Account, it could constitute a write-off of an actual debt and it is not neces

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28 Bad debt — Write-off —
After 1st April, 1989, if an assessee debits an amount of doubtful debt to the
profit and loss account and credits the asset account like Sundry Debtors’
Account, it could constitute a write-off of an actual debt and it is not
necessary to square off each individual account.


[Vijaya Bank v. CIT & Anr.,
(2010) 323 ITR 166 (SC)]

For the A.Y. 1994-95, the
Assessing Officer disallowed a sum of Rs.7,10,47,161 which the assessee-bank had
reduced from loans and advances or debtors on the ground that the impugned bad
debt had not been written off in an appropriate manner as required under the
accounting principles. According to him, the impugned bad debt supposedly
written off by the assessee-bank was mere provision and the same could not be
equated with the actual write-off of the bad debt, as per the requirement of S.
36(1)(vii) of the Income-tax Act, 1961 (‘the 1961 Act’ for short) read with
explanation thereto which Explanation stood inserted in the 1961 Act by the
Finance Act, 2001, with effect from April 1, 1989. The assessee carried the
matter in appeal before the Commissioner of Income-tax (Appeals) [‘CIT(A)’, for
short], who opined that it was not necessary for the purpose of writing off of
bad debts to pass corresponding entries in the individual account of each and
every debtor and that it would be sufficient if the debit entries are made in
the profit and loss account and corresponding credit is made in the ‘bad debt
reserve account’. Against the decision of the Commissioner of Income-tax
(Appeals) on this point, the Department preferred an appeal to the Income-tax
Appellate Tribunal (‘Tribunal’, for short). Before the Tribunal, it was argued
on behalf of the Department that write-off of each and every individual account
under the head ‘Loans and advances’ or ‘debtors’ was a condition precedent for
claiming deduction u/s.36(1)(vii) of the 1961 Act. According to the Department,
the claim of actual write-off of bad debts in relation to banks stood on a
footing different from the accounts of the non-banking assessee(s), though it
was not disputed that S. 36(1)(vii) of the 1961 Act covered banking as well as
non-banking assessees. According to the assessee, once a provision stood created
and, ultimately carried to the balance sheet wherein loans and advances or
debtors depicted stood reduced by the amount of such provision, then there was
actual write-off, because, in the final analysis, at the year end, the so-called
provision did not remain and balance sheet at the year ended only carried the
amount of loans and advances or debtors, net of such provision made by the
assessee for the impugned bad debt. The Tribunal, upheld the above contention of
the assessee on three grounds. Firstly, according to the Tribunal, the assessee
had rightly made a provision for bad and doubtful debt by debiting the amount of
bad debt to the profit and loss account so as to reduce the profit of the year.
Secondly, the provision account so created was debited and simultaneously the
amount of loans and advances or debtors stood reduced and, consequently, the
provision account stood obliterated. Lastly, according to the Tribunal, loans
and advances or the sundry debtors of the assessee as at the end of the year
lying in the balance sheet was shown as net of ‘provision for doubtful debt’
created by way of debit to the profit and loss account of the year.
Consequently, the Tribunal, on this point, came to the conclusion that deduction
u/s.36(1)(vii) of the 1961 Act was allowable.

On the question whether it
was imperative for the assessee to close each and every individual account and
its debtors in its books or a mere reduction in the loans and advances to the
extent of the provision for bad and doubtful debt was sufficient, the answer
given by the Tribunal was that, in view of the decision of the Gujarat High
Court in the case of Vithaldas H. Dhanjibhai Bardanwala v. CIT, reported in
(1981) 130 ITR 95, the Commissioner of Income-tax (Appeals) was right in coming
to the conclusion that since the assessee had written off the impugned bad in
its books by way of a debit to the profit and loss account simultaneously
reducing the corresponding amount from loans and advances or debtors depicted on
the assets side in the balance sheet at the close of the year, the assessee was
entitled to deduction u/s.36(1)(vii) of the 1961 Act. This view was not accepted
by the High Court which came to the conclusion by placing reliance upon a
judgment in the case of CIT v. Wipro Infotech Limited that in view of the
insertion of the Explanation, vide the Finance Act, 2001, with effect from April
1, 1989, the decision of the Gujarat High Court in the case of Vithaldas H.
Dhanjibhai Bardanwala (supra) no more held the field and, consequently, mere
creation of a provision did not amount to actual write-off of bad debts.

In the civil appeals filed
against the order of the High Court, the Supreme Court observed that broadly,
two questions arose for its determination. The first question that arose for
determination concerned the manner in which actual write-off takes place under
the accounting principles. The second question that arose for determination was,
whether it was imperative for the assessee-bank to close the individual account
of each debtor in its books or a mere reduction in the ‘loans and advances
account’ or debtors to the extent of the provision for bad and doubtful debt was
sufficient.

According to the Supreme
Court, the first question was considered by it in Southern Technologies Ltd. v.
Joint CIT, (2010) 320 ITR 577, in which it had an occasion to deal with the
first question and in that case it had been held that after 1st April, 1989, if
an assessee debits an amount of doubtful debt to the profit and loss account and
credits the asset account like sundry debtors’ account, it would constitute a
write-off of an actual debt. However, if an assessee debits ‘provision for
doubtful debt’ to the profit and loss account and makes a corresponding credit
to the ‘current liabilities and provisions’ on the liabilities side of the
balance sheet, then it would constitute a provision for doubtful debt. In the
latter case, the assessee would not be entitled to deduction.

In regards to view expressed by the Gujarat High Court in Vithaldas H. Dhanjibhai Bardanwala (supra) and sequent insertion of Explanation in S. 36(1)(vii) w.e.f. April 1, 1989 the Supreme Court clarified that in the aforesaid judgment of the Gujarat High Court, a mere debit to the profit and loss account was sufficient to constitute actual write-off, whereas after the Explanation, the assessee is now required not only to debit the profit and loss account, but simultaneously also reduce the loans and advances or the debtors from the assets side of the balance sheet to the extent of the corresponding amount so that at the end of the year, the amounts of loans and advances/debtors is shown as net of the provisions for the impugned bad debt. According to the Supreme Court, the High Court had lost sight of this aspect in its impugned judgment. The Supreme Court, on the first question, therefore, held that the assessee was entitled to the benefit of deduction u/s.36(1)(vii) of the 1961 Act as there was actual write-off by the assessee in its books.

Coming to the second question, the Supreme Court noted that what is being insisted upon by the Assessing Officer is that mere reduction of the amount of loans and advances or the debtors at the end would not suffice and, in the interest of transparency, it would be desirable for the assessee-bank to close each and every individual account of loans and advances or debtors as a pre-condition for claiming deduction u/s.36(1)(vii) of the 1961 Act. This view has been taken by the Assessing Officer because the Assessing Officer apprehended that the assessee-bank might be taking the benefit of deduction u/s.36(1)(vii) of the 1961 Act, twice over. The Supreme Court held that it cannot decide the matter on the basis of apprehensions/desirability. It is always open to the Assessing Officer to call for the details of individual debtor’s account if the Assessing Officer has reasonable grounds to believe that the assessee has claimed deduction, twice over. The Supreme Court observed that the assessee had instituted recovery suits in courts against its debtors. If individual accounts were to be closed, then the debtor/defendant in each of those suits would rely upon the bank statement and contend that no amount is due and payable in which event the suit would be dismissed.

The Supreme Court further observed that according to the Department, it was necessary to square off each individual account, failing which there was likelihood of escapement of income from assessment. According to the Department, in cases where a borrower’s account is written off by debiting the profit and loss account and by crediting loans and advances or debtors accounts on the assets side of the balance sheet, then as and when in the subsequent years if the borrower repays the loan, the assessee will credit the repaid amount to the loans and advances account not to the profit and loss account, which would result in escapement of income from assessment. On the other hand, if bad debt is written off by closing the borrower’s account individually, then the repaid amount in subsequent years will be credited to the profit and loss account on which the assessee-bank has to pay tax. The Supreme Court held that although, prima facie, this argument of the Department appeared to be valid, on a deeper consideration, it is not so for three reasons. Firstly, the head office accounts clearly indicated, in the present case, that on repayment in subsequent years, the amounts were duly offered for tax. Secondly, one had to keep in mind that under the accounting practice, the accounts of the rural branches have to tally with the accounts of the head office. If the repaid amount in subsequent years is not credited to the profit and loss account of the head office, which is ultimately what matters, then there would be a mismatch between the rural branch accounts and the head office accounts. Lastly, in any event, S. 41(4) of the 1961 Act, inter alia, lays down that where a deduction has been allowed in respect of a bad debt or a part thereof u/s.36(1)(vii) of the 1961 Act, then if the amount subsequently recovered on any such debt is greater than the difference between the debt and the amount so allowed, the excess shall be deemed to the profit and gains of business and, accordingly, chargeable to income-tax as the income of the previous year in which it is recovered. In the circumstances, the Supreme Court was of the view that the Assessing Officer was sufficiently empowered to tax such subsequent repayments u/s.41(4) of the 1961 Act and, consequently, there was no merit in the contention that if the assessee succeeded, then it would result in escapement of income from assessment.

The Supreme Court, therefore, upheld the judgment of the Tribunal and set aside the impugned judgment of the High Court.

Bad debt — After April 1, 1989, it is not necessary for the assessee to establish that the debt, in fact, has become irrecoverable.

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27 Bad debt — After April 1,
1989, it is not necessary for the assessee to establish that the debt, in fact,
has become irrecoverable.


[T.R.F. Ltd. v. CIT,
(2010) 323 ITR 397 (SC)]

The Supreme Court was
concerned with the appeals for the A.Y. 1990-91 and the A.Y. 1993-94. The
Supreme Court observed that prior to April 1, 1989, every assessee had to
establish, as a matter of fact, that the debt advanced by the assessee had, in
fact, become irrecoverable. That position got altered by deletion of the word
‘established’, which earlier existed in S. 36(1)(vii) of the Income-tax Act,
1961 (‘the Act’, for short).

The Supreme Court held that
this position in law was well settled. After April 1, 1989, it is not necessary
for the assessee to establish that the debt, in fact, has become irrecoverable.
It is enough if the bad debt is written off as irrecoverable in the accounts of
the assessee. The Supreme Court further held that however, in the present case,
the Assessing Officer had not examined whether the debt had, in fact, been
written off in the accounts of the assessee. When a bad debt occurs, the bad
debt account is debited and the customer’s account is credited, thus, closing
the account of the customer. In the case of companies, the provision is deducted
from sundry debtors. This exercise having not been undertaken by the Assessing
Officer, the Supreme Court remitted the matter to the Assessing Officer for de
novo consideration of the above-mentioned aspect only and that too only to the
extent of the write-off.

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Co-operative society — Whether the society could be said to be engaged in a cottage industry or whether it could be said to be engaged in a collective disposal of labour of its members — Though Court did not interfere in the matter in absence of material,

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26 Co-operative society —
Whether the society could be said to be engaged in a cottage industry or whether
it could be said to be engaged in a collective disposal of labour of its members
— Though Court did not interfere in the matter in absence of material, a
direction was given to determine the issue having regard to the bye-laws of the
society and Janata Cloth Scheme of the Central Government.


[CIT v. Rajasthan Rajya
Bunker S. Samiti Ltd.
, (2010) 323 ITR 365 (SC)]

The assessee-society, an
apex society carried on the activity of manufacturing of cloth by supplying raw
material, i.e., yarn, to the weavers, who were the members of the primary
society. The weavers produced cloth strictly in accordance with the directions
given and under the control of the assessee. The assessee paid weaving charges
to the weavers and thereafter marketed and sold the goods so produced. During
the relevant assessment years, cloth was manufactured and sold under the Janata
Cloth Scheme of the Government of India.

For the relevant assessment
years, the assessee claimed a deduction u/s.80P(2)(a)(vi) and u/s.80P(2)(a)(ii)
of the Income-tax Act, 1961 (‘Act’, for short).

The narrow question which
arose for determination before the Supreme Court in those cases was — whether
the assessee-society could be said to be engaged in a cottage industry
u/s.80P(2)(a)(ii) of the Act or whether it could be said to be engaged in the
collective disposal of labour of its members u/s.80P(2)(a)(vi) of the Act ?

It was the contention of the
Department that the weavers were not the members of the apex society. They were
the members of the primary societies. Therefore, the assessee was not entitled
to claim the benefit of deduction u/s.80P(2)(a)(vi) of the Act.

According to the Supreme
Court on both these questions, the Assessing Officer ought to have called for
the bye-laws. It appeared that the bye-laws were not produced before the
Assessing Officer. It appeared that the bye-laws had not been examined by the
Assessing Officer. Further, it was not clear as to whether a weaver could or
could not have become a member of the apex-society under the bye-laws. Even to
answer the question whether the assessee-society was engaged in the cottage
industry, the Department ought to have called for the bye-laws. This exercise
had not been done. In the circumstances, for the relevant assessment years, the
Supreme Court did not interfere with the findings given by the lower courts.
However, the Supreme Court made it clear that this order would not come to the
way of the Department in making assessment for the future assessment years.
However, in such an event, the Department will decide the applicability of S.
80P of the Act [including the proviso to S. 80P(2)] keeping in mind the
provisions of the bye-laws. The said provisions of the bye-laws would point to
the nature of the business of the assessee as also entitlement of the weavers to
become members of the apex society. The Department will examine the Janata
Scheme of the Central Govt. to decide whether the payments made thereunder would
be entitled to deduction u/s.80P(2)(a)(ii) and u/s.80P(2)(a)(vi) of the Act.

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S. 206C — State Govt. liable to collect tax at source from leaseholders and deposit it with Central Government

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II. Reported :




 


50 Collection of tax at source : S. 206C of
Income-tax Act, 1961 : Applicability to State Govt. : State Govt. comes within
the purview of ‘person’ u/s.206C(1C) and is liable to collect tax at source from
lease-holders and deposit it with the Central Govt.

[Government of Madhya Pradesh v. TRO, 217 CTR 137
(MP)]

 

The Government of Madhya Pradesh had granted various quarry
leases to private persons. The State Govt. had failed to collect tax at source
as required u/s.206C of the Income-tax Act, 1961. The IT Department raised
demand for such failure and initiated coercive steps for recovery of the demand.
The State Govt. filed writ petition challenging the action.

 

The Madhya Pradesh High Court upheld the action taken by the
Revenue and held as under :

“(i) Article 289 exempts property and income of the State
Govt. from taxation by the Union of India. In the present case, the proposed
action of the respondent Department or the Union of India is not to tax the
property or income of the State Govt. What is being taxed in this case is
income accrued by the leaseholders to whom
lease is granted by the State Govt. It is, therefore, taxing the income earned
by the leaseholders on the basis of the grant made by the State Govt.
Accordingly, the provisions of Article 289 of the Constitution of India will
not apply.

(ii) Complete reading of the provisions indicate that the
person collecting tax u/s.206C would include not only a company but also the
Central Govt. and the State Govt. and therefore, the word every ‘person’
appearing in S. 206C would include both the Central Govt. and the State Govt.
Complete reading of this Section
along with definition of ‘person’ clearly indicates that the State Govt. comes
within the purview of ‘person’ as contemplated u/s.206C(1C) and is liable to
collect tax at source from the lease-holders and deposit it with the Central
Govt.

(iii) So far as the argument with regard to the word
‘every person’ missing after the word ‘seller’ is concerned, the word ‘seller’
and ‘every person’ u/s.206C(1) and u/s.206C(1C) are used with
regard to different purpose. Mere absence of the word ‘every person’ in the
definition of ‘seller’ as contained in Explanation cl. (c) to S. 206C
cannot be construed to mean that the provisions of S. 206C do not apply to the
State Govt.”

S. 56(2)(id) — Interest on Govt. securities not maturing in previous year, then amount in P&L account is not material

New Page 2

II. Reported :






 



51 Income : Accrual of : S. 56(2)(id) of
Income-tax Act, 1961 : A.Y. 1989-90 : Banking company : Interest on Government
securities not maturing in relevant previous year : Amount shown in profit and
loss account : Not material : Amount not assessable in A.Y. 1989-90.

[CIT v. Federal Bank Ltd., 301 ITR 188 (Ker.)]

 The assessee was a banking company. Interest on Government
securities was credited in its profit and loss account in the A.Y. 1989-90. The
assessee claimed that the interest was not assessable as the securities did not
mature during the previous year. The Assessing Officer rejected the claim and
assessed the interest income. The Tribunal accepted the claim and deleted the
addition.


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


“(i) After the amendment of 1988, interest on securities
was assessable as income from other sources u/s.56(2)(id) of the Income-tax
Act, 1961, unless it is chargeable to income-tax under the head ‘Profits and
gains of business or profession’. Income accrued obviously means income that
has become due or receivable by the assessee.

(ii) Since the assessee was banking company, the interest
on securities was assessable under the head ‘Profits and gains of business and
profession’. Since the securities had not matured for payment, the assessee
was obviously not entitled to interest, and the interest was really not due to
them in the previous year. Merely because the assessee had declared it as
amount receivable in the course of time, it did not mean that interest on
income had in fact accrued to the assessee. Though interest due or receivable
is assessable under the mercantile system, since the interest on securities
involved in this case was neither received, nor receivable during the previous
year, such interest could not be assessed.”

S. 12A — Non-consideration of registrration application within time fixed would result in deemed registration

New Page 2

II. Reported :



 


49 Charitable Trust : Registration u/s.12A
of Income-tax Act, 1961 : Effect of non-passing of order within the time limit :
Non-consideration of the registration application within the time fixed by S.
12AA(2) would result in deemed registration.

[Society for the promotion of Education Adventure Sport &
Conservation of Environment v. CIT,
216 CTR 167 (All.)]

 

The petitioner is a society running a school. Up to A.Y.
1998-99 it was exempted u/s.10(22) of the Income-tax Act, 1961. Therefore, it
did not seek separate registration u/s.12A of the Act so as to claim exemption
u/s.11. S. 10(22) being omitted by the Finance Act, 1998, the petitioner applied
for registration u/s.12A of the Act, with retrospective effect, that is since
the inception of the petitioner society; i.e., 11-1-1993. The application
was made on 24-6-2003. No order was passed on the application within the time
period of six months as required u/s.12AA(2) of the Act. Therefore, the
petitioner filed writ petition before the Allahabad High Court contending that
the registration should be deemed to have been granted.

 

The Allahabad High Court allowed the writ petition and held
as under :

“(i) Taking the view that non-consideration of the
registration application within the time fixed by S. 12AA(2) would result in
deemed registration, may at the worst cause loss of some revenue or income-tax
payable by the individual assessee. On the other hand, taking the contrary
view and holding that not taking a decision within the time fixed by S.
12AA(2) is of no consequence would leave the assessee totally at the mercy of
the IT authorities, inasmuch as the assessee has not been provided any remedy
under the Act against non-decision.

(ii) Besides, the above view does not create any
irreversible situation, because, u/s.12AA(3), the registration can always be
cancelled by the CIT, if he is satisfied that the objects of such trust or
institution are not genuine or the activities are not being carried out in
accordance with the objects of the trust or institution. The only drawback is
that such cancellation would operate prospectively.

(iii) Moreover, this view furthers the object and purpose
of the aforesaid statutory provision. For the interpretation of a statute
‘purposive construction’ of the enactment which gives effect to the
legislative purpose/intendment, if necessary must be followed and applied.
Considering the pros and cons of the two views, by far the better
interpretation would be to hold that the effect of non-consideration of the
application for registration within the time fixed by S. 12AA(2) would be a
deemed grant of registration.

(iv) There is no good reason to make the assessee suffer
merely because the IT Department is not able to keep its officers under check
and control, so as to take timely decisions in such simple matters, such as
consideration of application for registration even within the large six months
period provided u/s.12AA(2).

(v) Accordingly, the respondents are directed, subject to
any order which may be passed u/s. 12AA(3), to treat the petitioner society as
an institution duly approved and registered u/s. 12AA and to recompute its
income by applying the provisions of S. 11. Accordingly, a formal certificate
of approval will be issued forthwith to the petitioner by respondent No. 2.”

 


levitra

S. 163 — Assessee neither has business connection with NRI, nor any income received by NRI, then assessee not a trustee of NRI

New Page 2

II. Reported :

47 Agent of non-resident : Liability in
special cases : S. 163 of Income-tax Act, 1961 : Search and seizure : Block
assessment u/s.158BD : Assessee was not having any business connection with the
non-resident Indian brother, nor any income came into existence as having been
received by the non-resident : Assessee not a trustee of non-resident :
Provisions of S. 163(1)(c) and (d) not attracted : Tribunal justified in not
treating assessee as agent of non-resident.

[CIT v. Rakesh Chander Goyal, 216 CTR 136 (P&H)]

 

In the course of search at the residential premises of the
assessee, it was found that the non-resident brother of the assessee, Shri Raj
Kumar Goyal, was maintaining some bank accounts which needed explanation.
Therefore, proceedings u/s.158BD of the Income-tax Act, 1961 were initiated in
the case of the non-resident brother. The Assessing Officer passed an order
u/s.163 of the Act, treating the assessee as an agent of the non-resident
brother. The CIT(A) set aside the order of the AO holding that neither there is
any business connection, nor the existence of income u/s.9(1) of the Act to the
non-resident Indian, which is a condition precedent for invoking sub-clause (c)
and (d) of S. 163(1) of the Act. The Tribunal upheld the decision of CIT(A).

 

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

“In view of its conclusion that the assessee was not having
any business connection with the non-resident Indian brother, nor any income
came into existence as having been received by the non-resident Indian and the
Department having also failed to prove the assessee as a trustee of the
non-resident Indian, the Tribunal was justified in not treating the assessee
as an agent of non- resident.”

 


levitra

S. 131 and S. 143 — Assessee not allowed to cross-examine third party. Assessment order not valid

New Page 2

II. Reported :



 


48 Assessment : Validity : S. 131 and S. 143
of Income-tax Act, 1961 : Statement of third party relied on by AO : Third party
retracted statement subsequently : Assessee not allowed to cross-examine third
party : Principles of natural justice violated: Assessment order not valid.

[Prakash Chand Nahta v. CIT, 301 ITR 134 (MP)]

 

The assessee was carrying on the business of trading in
silver ornaments, utensils, etc. Certain silver ornaments found in the course of
search were explained by the assessee as being purchased by the assessee from
one R. R who had initially denied the transaction in his statement, but he
subsequently retracted the statement and accepted the transaction. The assessee
had filed the correspondence made by him and R regarding the payment of the
amount. The Assessing Officer accepted all the entries recorded in the amanat
book except the entries pertaining to R. The affidavit of R and the bank
transaction made by him were ignored. On the basis of the original statement
made by R, the Assessing Officer made an addition of Rs.3,49,225. The assessee
made a prayer u/s.131 of the Act to summon R for cross-examination. The prayer
was not acceded to and the assessment order was passed. The Tribunal upheld the
assessment order observing that the statement of R was fairly communicated to
the assessee and that apart, it was not the case of the assessee that he did not
know what R had stated.

 

The Madhya Pradesh High Court allowed the appeal filed by the
assessee and held as under :

“The Assessing Officer had not summoned R in spite of the
request made u/s.131 of the Act, the evidence of R could not have been used
against the assessee and in the absence of affording a reasonable opportunity
of being heard by summoning the said witness, the assessment order was
vitiated.”

 


levitra

S. 220(6) — Order on stay application to be passed by AO, not by subordinate

New Page 2

I. Not reported :


46 Recovery : Stay during pendency of appeal
before CIT(A) : S. 220(6) of Income-tax Act, 1961 : Order on stay application
should be passed by the Assessing Officer and not by a subordinate authority :
In view of CBDT Instruction No. 96, dated 21-8-1969, in case of high pitched
assessment,
i.e., where the assessed income is twice or more than
the returned income, assessee would be entitled to an absolute stay of the
demand in the normal course.


[Valvoline Cummins Ltd. v. DCIT and ors. (Del.), WP(C)
2511/2008 dated 20-5-2008]

 

For the A.Y. 2005-06, the petitioner-company had filed the
return of income computing the income of Rs.7.5 crores. The Additional
Commissioner having jurisdiction to assess the assessee-company assessed the
income at Rs.58.68 crores and raised a demand of Rs.25.01 crores. The assessee-company
preferred an appeal before the CIT(A) and made an application to the Assessing
Officer (the Additional Commissioner) for stay of the demand u/s.220(6) of the
Income-tax Act, 1961 during the pendency of the appeal before the CIT(A). The
Additional Commissioner advised the assessee to approach the Dy. Commissioner
who had concurrent jurisdiction in the matter. Accordingly, the assessee moved
an application on 8-2-2008, requesting the Dy. Commissioner to stay the demand.
When these applications for stay were pending, the assessee was served with a
notice u/s.221 of the Act, dated 14-2-2008 requiring it to show why penalty
should not be levied since the demand of tax has not been deposited by the
assessee. Therefore, the assessee moved another application to the Dy.
Commissioner on 22-2-2008, requesting to stay the demand. On 27-2-2008, the Dy.
Commissioner passed an order directing the assessee to pay 15% of the net
demand; i.e., Rs.3.75 crores on or before 3-3-2008. The assessee pointed
out that Rs.1 crore had already been paid and requested for instalment for the
balance Rs.2.75 crores. Since there was no response, apprehending coercive
action by the Department, the assessee filed a writ petition before the Delhi
High Court.

 

The Delhi High Court allowed the petition and held :

“(i) Pursuant to the order dated 16-5-2007 read with a few
subsequent letters in this connection, the Commissioner of Income-tax passed a
jurisdiction order dated 1-8-2007, whereby the Additional Commissioner was
entitled to exercise the powers and perform the function of an AO in respect
of some cases (including that of assessee). It is pursuant to these orders
that the Additional Commissioner passed an assessment order on 30-12-2007 in
the case of the assessee. The Additional Commissioner/AO does not become
functus officio
immediately on passing an assessment order, he continues
to be the AO in respect of the assessee and therefore he must deal with the
application filed by the assessee u/s.220(6) of the Act.

(ii) The contention of the Revenue is that the Dy.
Commissioner has concurrent jurisdiction over the matter along with the
Additional Commissioner and, therefore, he was fully competent to dispose of
the stay petition filed by the assessee. On the issue of concurrent
jurisdiction, in the case of Berger Paints India Ltd. v. ACIT, 246 ITR
133 (Cal.) the Calcutta High Court had explained the meaning of the expression
concurrent to mean two authorities having equal powers to deal with a
situation, but the same work cannot be divided between them. It appears to us
quite clearly that there is a distinction between concurrent exercise of power
and joint exercise of power; when power has been conferred upon two
authorities concurrently, either one of them can exercise that power and once
a decision is taken to exercise the power by any one of those two authorities,
that exercise must be terminated by that authority only. It is not that one
authority can start exercising a power and the other authority having
concurrent jurisdiction can conclude the exercise of that power. This perhaps
may be permissible in a situation where both the authorities jointly exercise
power, but it certainly is not permissible where both the authorities
concurrently exercise power.

(iii) In the facts of the present case, since the
Additional Commissioner had exercised the power of an AO, he was required to
continue to exercise that power till his jurisdiction in the matter was over.
His jurisdiction in the matter was not over merely on the passing of the
assessment order, but it continued in terms of S. 220(6) of the Act in dealing
with the petition for stay. What has happened in the present case is that
after having passed the assessment order, the Additional Commissioner seems to
have washed his hands off the matter and left it to the Dy. Commissioner to
decide the stay application filed u/s.220(6) of the Act. We are of
the opinion that this was not permissible in law.

(iv) Learned counsel for the Revenue, however, sought to
justify this by referring to an order dated 21-8-2007 passed by the Additional
Commissioner, in which it is stated as follows : For the removal of doubts it
is further clarified that after completion of assessment, the remaining
functions in the cases specified in the Schedule, appended hereto, whether
legal or administrative, shall be discharged by the DCIT, Circle-17(1), New
Delhi in accordance with law. In our opinion, the above paragraph relied upon
by the counsel for the Revenue goes well beyond the power conferred upon the
Additional Commissioner, in the sense that he has virtually abdicated the
power conferred upon him by S. 220(6) of the Act. The power u/s.220(6) of the
Act being a statutory power, the Additional Commissioner could not abdicate or
relinquish it. That apart, we find that the Additional Commissioner had no
authority in law to delegate his power to the Dy. Commissioner when he was
conferred a statutory power by the CBDT. The Principle of delegates non
potest delegare
would clearly apply.

(v) Under the circumstances, we are of the opinion that
learned counsel for the assessee is right in his contention that the
application filed by the assessee on 1-2-2008 was required to be dealt with
only by the Assessing Officer, which in this case was the Additional
Commissioner.

vi) Learned counsel for the Revenue submitted that by addressing further letters to the Dy. Commissioner on 8-2-2008 and 22-2-2008, the assessee had acquiesced in the jurisdiction or power of the Dy. Commissioner to deal with the application for stay filed by the assessee. We are of the opinion, and this is well settled, that mere acquiescence in the exercise of power by a person who does not have jurisdiction to exercise that power, cannot work as an estoppel against him. Consequently, the mere fact that the assessee addressed letters dated 8-2-2008 and 22-2-2008 to the Dy. Commissioner does not mean that the Dy, Commissioner had jurisdiction over the matter. The assessee could not confer jurisdiction on the Dy. Commissioner to deal with the application filed u/ s. 220(6) of the Act. Moreover, we also find that the assessee had approached the Dy. Commissioner (apparently) only on the asking of the Additional Commissioner, otherwise the fact still remains that the assessee had made its first request to the Additional Commissioner on 1-2-2008. It was only at the instance of the Ad-ditional Commissioner that the assessee had approached the Dy. Commissioner with the letters dated 8-2-2008 and 22-2-2008. Surely, this cannot be used to the disadvantage of the assessee.

vii) It may be recalled that the returned income of the assessee was Rs.7.2S crores, but the assessed income is Rs.58.68 crores, which is almost 8 times the returned income. CBDT Instruction No. 96, dated 21-8-1969 provides that where the income determined is substantially higher than the returned income, that is, twice the latter amount or more, then the collection of tax in dispute should be held in abeyance till the decision on the appeal is taken. In this case, the assessment is almost 8 times the returned income. Under the circumstances, we are of the view that the assessee would, in normal course, be entitled to an absolute stay of the demand on the basis of the above Instruction.”

Disclosure of Accounting Policies by Professional Bodies

5 International Accounting Standards Committee (IASC) Foundation — (31-12-2009)

    Accounting Policies :

    (a) Basis of preparation :

    These financial statements have been prepared in accordance with International Financial Reporting Standards, on the historical cost basis, as modified by the revaluation of financial assets and liabilities, including derivative financial instruments, at fair value through profit or loss. The policies have been consistently applied to all years presented, unless otherwise stated.

    For the purposes of organising the financial information the IASC Foundation has categorised income and expenses into two categories. Standard-setting and related activities include all activities associated with standard-setting and support functions required to achieve the organisations objectives. Publications and related activities include information related to the sales of print and electronic IFRS materials, educational activities and Extensible Business Reporting Language (XBRL).

    (b) Contributions :

    Contributions are recognised as revenue in the year designated by the contributor.

    (c) Publications and related revenue :

    Subscriptions to the IASC Foundation’s comprehensive package and eIFRS products are recognised as revenue on a time-apportioned basis over the period covered by the subscriptions. Royalties are recognised as revenue on an accrual basis. Publications’ direct cost of sales comprises printing, salaries, promotion, computer and various related overhead costs.

    (d) Inventories :

    Inventories of current publications are valued at the lower of net realisable value and the cost of printing the publications, on a first-in-first-out basis. Inventories that have been superseded by new editions are written off.

    (e) Depreciation :

    Leasehold improvements and furniture and equipment are initially measured at cost, and depreciated on a straight-line basis (in the case of leasehold improvements over the period of the lease). All other assets are depreciated over 5 years, except computer equipment, which is depreciated over 3 years.

    (f) Foreign currency transactions :

    The IASC Foundation’s presentational and functional currency is sterling. Transactions denominated in currencies other than sterling are recorded at the exchange rate at the date of the transaction. Differences in exchange rates are recognised in the Statement of Comprehensive Income. Monetary assets and liabilities are translated into sterling at the exchange rate at the end of the reporting period.

    (g) Operating leases — Office accommodation :

    Lease payments for office accommodation are recognised as an expense on a straight-line basis over th e non-cancelable term of the lease. Leases in which a significant portion of the risks and rewards of ownership are retained by the lessor are classified as operating leases. The aggregate benefit of lease incentives is recognised as a reduction of the rental expense over the lease term on a straight-line basis.

    (h) Financial assets :

    Regular purchases and sales of financial assets are recognised on the trade date, the date on which the IASC Foundation is committed to purchase or sell the asset. Investments are recognised initially at fair value plus transaction costs for all financial assets not carried at fair value through profit or loss. Financial assets are derecognised when the rights to receive cash flows from the investments have expired or have been transferred and the IASC Foundation has transferred substantially all risks and rewards of ownership. The IASC Foundation classifies financial assets as subsequently measured at either amortised cost or fair value based on its business model for managing the financial assets and the contractual cash flow characteristics of the financial asset. All financial assets, except for bonds and derivatives, are carried at amortised cost as the objective is to hold these assets in order to collect contractual cash flows and those cash flows are solely principal and interest. Investments in bonds are classified as subsequently measured at fair value through profit or loss, and the corresponding gains or losses are included within profit (loss) before tax. Bond holdings are discussed more fully in Note 10.

    (i) Derivative financial assets and liabilities :

    The IASC Foundation uses contributions, primarily in US dollars and euro, to fund a portion of sterling obligations arising from its activities. In accordance with its financial risk management policy, the IASC Foundation does not hold or issue derivative financial instruments for trading purposes; the forward foreign currency hedges are entered into to provide certainty regarding funding to protect against currency fluctuation on future cash flows that are designated in US dollars and euro. Derivative financial instruments are recognised and subsequently measured at fair value. The corresponding gains or losses are included within profit (loss) before tax.

    (j) Provisions and contingencies :

    Provisions are recognised when the following three conditions are met — the IASC Foundation has a present obligation (legal or constructive) as a result of a past event, it is probable that an outflow of resources embodying economic benefits will be required to settle the obligation, and a reliable estimate can be made of the amount of the obligation. The amount of the provision represents the best estimate of the expenditure required to settle the obligation at the end of the reporting period. Provisions are measured at the present value of the expenditure expected to be required to settle the obligation using a pre-tax rate that reflects current market assessments of the time value of money and the risks specific to the obligation. The increase in the provision due to the passage of time is recognised as interest expense.

    (k) Critical accounting estimates and judgments :

    The IASC Foundation makes estimates and assumptions regarding the future. In the future, actual experience may differ from those estimates and assumptions. The Trustees consider there are none that are material to the preparation of the financial statements.

        l) New standards and interpretations issued:

    The financial statements have been drawn up on the basis of accounting standards, interpretations and amendments effective at the beginning of the accounting period on 1 January 2009, except for that explained below. The IASC Foundation has concluded that there are no other relevant standards or interpretations in issue not yet adopted.

    l Standard adopted early IFRS 9 Financial Instruments was issued in November 2009 and is required to be applied from 1st January 2013. The presentation of the IASC Foundation’s financial statements has not significantly changed as a result of the early adoption of the new standard as it did not change the measurement of any assets.

        m) Reclassification of items in the financial statements:

    In order to conform to the current year’s presentation in the financial statements, the following comparative amounts were reclassified. The changes in presentation are to improve the information provided :

        Recruitment expenses are included in Other Costs and listed in Note 9. The prior year amount of £ 126,000 was presented as follows : £ 121,000 was included in salaries, wages and benefits; £ 5,000 was included in Trustees’ fees. A corresponding change has been made to the statement of cash flows and the details of salaries, wages and benefits as disclosed in Note 5.

        Fundraising expenses are included in Other Costs and listed in Note 9. In the prior year, £ 36,000 was listed separately in the statement of comprehensive income.

        The details of accommodation expenses presented in Note 8(a) has been expanded to disclose the amount included in publication costs.

        The details of cash holdings presented in Note 10(a) have been clarified by listing currencies irrespective of their country location.

    6. The Institute of Chartered Accountants of  India — (31-3-2009)

    Statement on Significant Accounting Policies:

    I.    Accounting convention:

    These accounts are drawn up on historical cost basis and have been prepared in accordance with the applicable Accounting Standards issued by the Institute of Chartered Accountants of India and are on accrual basis unless otherwise stated.

    II) Revenue recognition:

        a. Membership Fee

    i. The Entrance Fee is collected at the time of admission of a person as a member and one-third thereof is recognised as income in that year.

    ii. Annual Membership and Certificate of Practice Fee(s) are recognised in the year as and when these become due.

    b. Distant Education and Post-Qualification Course Fee are recognised over the duration of the course.

    c.Examination Fee is recognised on the basis of conduct of examination.

    d. Subscription for Journal is recognised in the year as and when it becomes due.
    e. Revenue from Sale of Publications is recognised at the time of preparing the sale bill i.e., when the property in goods as well as the significant risks and rewards of the property get transferred to the buyer.

    Income from Investments:

        i. Dividend on investments in units is recognised as income on the basis of entitlement to receive.

        ii.     Income on Interest-bearing securities and fixed deposits is recognised on a time-proportion basis taking into account the amount out-standing and the rate applicable.

    III. Allocations/transfer to reserves & surplus and earmarked fund :

    a) Admission Fee from Fellow Members and brd portion of the Entrance Fee from persons ad-mitted as Members are taken to Infrastructure Reserve.

    b) Donations received during the year for build-ings and for research purpose are accounted for directly under the respective Reserves Account.

    c) 25% of the Distant Education Fee not ex-ceeding 50% of the net surplus of the year is transferred to Education fund.

    d) 0.75% of Membership Fee (Annual and Certificate of Practice Fee) received from the members during the year is allocated to the Employees’ Benevolent Fund.

    e) Transfer to Education Reserve from the following earmarked funds :

 

    f) Income from investments of Earmarked Funds is allocated directly to Earmarked Funds on opening balances of the respective Earmarked Funds on the basis of weighted average method.

    IV.    Fixed assets/depreciation and amortisation :

    a) Fixed Assets excluding land are stated at historical cost less depreciation.

    b) Freehold land is stated at cost. Leasehold land is stated at the amount of premium paid for acquiring the lease rights. The premium so paid is amortised over the period of the lease.

    c) Depreciation is provided on the written down value method at the following rates as approved by the Council based on the useful life of the respective assets :

  

       
    d) Depreciation on additions is provided on monthly pro-rata basis.

    e) Library books are depreciated at the rate of 100% in the year of purchase.

    f) Intangible Assets (Software) are amortised equally over a period of three years.

        V) Investments:

    a. Long-term investments are carried at cost and diminution in value, other than temporary is provided for.

    b. Current investments are carried at lower of cost or fair value.
     

    VI.    Inventories:

    Inventories of paper, consumables, publications and study material are valued at lower of cost or net realisable value. The cost is determined on FIFO Method.

    VII. Foreign currency transactions:

        a) Foreign currency transactions are recorded on initial recognition in the reporting currency by applying to the foreign currency amount at the exchange rate prevailing on the date of transaction.

        b) All incomes and expenses are translated at average rate. All monetary assets/liabilities are translated at the year-end rates whereas non-monetary assets are carried at the rate on the date of transaction.

        c) Any income or expense on account of ex-change rate difference is recognised in the Income and Expenditure Account.

    VIII.    Employee benefits:

        a) Short-term employee benefits are charged off in the year in which the related service is rendered.

        b) Post-employment and other long-term employee benefits are charged off in the year in which the employee has rendered services. The amount charged off is recognised at the present value of the amounts payable determined on the basis of actuarial valuation. The actuarial valuation is done as per Projected Unit Credit Method. Actuarial gain and losses in respect of post-employment and other long-term benefits are charged to Income & Expenditure Account and are not deferred.

        c) Retirement benefits in the form of Provident Fund are a defined contribution scheme and the contribution to the Provident Fund Trust is charged to the Income and Expenditure Account for the period when the contribution to the respective fund is due.

    IX.    Impairment of assets:

        a) The carrying amounts of assets are reviewed at each Balance Sheet date if there is any indication of impairment based on internal/ external factors. An impairment loss is recognised wherever the carrying amount of an asset exceeds its recoverable amount. The recoverable amount is higher of asset’s net selling price and value in use. In assessing the value in use, the estimated future cash flows are discounted to their present value at the weighted cost of capital.

        b) After impairment, depreciation is provided on the revised carrying amount of the assets over its remaining useful life.

        x. Provisions:

    A provision is recognised when an enterprise has a present obligation as a result of past events; it is probable that an outflow of resources will be required to settle the obligation, in respect of which a reliable estimate can be made. Provisions are not discounted to its present value and are determined based on best estimates required to settle the obligations at the Balance Sheet date. These are reviewed at each Balance Sheet date and adjusted to reflect the current best estimates.

    7. Bombay Chartered Accountants’ Society — (31-3-2010)

    Significant accounting policies:

        a) Method of Accounting:

    Accounts are maintained on accrual basis.

        b) Fixed Assets and Depreciation:

    Fixed assets are stated at cost. Depreciation is provided on fixed assets as per the written-down value method at the rates prescribed in the Income Tax Rules except for books on which depreciation is provided at the rate of 50% per annum.

        c) Investments:

    Investments are stated at cost of acquisition less permanent diminution (if any) in compliance with AS-13 issued by The Institute of Chartered Accountants of India.

        d) Inventories:

    Inventories are stated at cost.

        e) Life Membership & Entrance Fees:

    Life Membership fees and Entrance fees are credited to Corpus Fund.

        f) Gratuity:

    The premium payable each year on the Group Gratuity Policy taken with Life Insurance Corporation of India is recognised as Gratuity expenses of that year.

Section A : Treatment of Profit/loss on Derivative Transactions

From Published Accounts

Compiler’s Note :


Also refer BCAJ June 2008 for other disclosures on the above.

&
Hexaware Technologies Ltd. — (31-12-2007)


From Notes to Accounts :

The Company, in the month of November 2007, reported about
having entered into foreign currency transactions (financial derivatives) which
were not communicated to the senior management and the Board of Directors. These
transactions have since been settled and the net loss on account of such
transactions aggregates Rs.1,029.95 million at the year end. The Company’s
profit for the year, turned into a loss, consequent to the loss on such foreign
currency transactions. The said loss being one-time and non-recurring has been
considered and disclosed as an exceptional item in the Profit and Loss account.

The Company, during the year, suffered a foreign exchange
loss of Rs.750.05 million, which is aggregate of foreign exchange gain (net) of
Rs.279.90 million and exceptional foreign exchange loss (net) of Rs.1,029.95
million as stated in the Note No. 7 of schedule 12(B). Considering the aggregate
loss on foreign currency transactions during the year as aforesaid, the foreign
exchange loss of exceptional nature of Rs.1,029.95 million has been disclosed as
stated in the Note No. 7 of Schedule 12(B) and the balance amount of Rs.279.90
million (gain) has been disclosed under ‘Administration and other expenses’ and
previous year’s figures have been accordingly regrouped.

&
The Great Eastern Shipping Co Ltd.


— (31-3-2008)

From Notes to Accounts :

Hedging Contracts :

The Company uses foreign exchange forward contracts, currency
and interest swaps and options to hedge its exposure to movements in foreign
exchange rates. The use of these foreign exchange forward contracts, currency
and interest swaps and options reduce the risk or cost to the Company and the
Company does not use the foreign exchange forward contracts, currency and
interest swaps and options for trading or speculation purposes.


(i) Derivate instruments outstanding:

(a) Commodity futures contracts for import of Bunker :

Details not reproduced

(b) Forward exchange contracts :

Details not reproduced

(c) Forward Exchange Option contracts :

Details not reproduced

(d) Interest rate swap contracts :

Details not reproduced

(e) Currency Swap Contract :

Details not reproduced


(ii) Un-hedged foreign currency exposures as on March 31 :

Details not reproduced

(iii) The above-mentioned derivative contracts having been
entered into, the hedge foreign currency risk and the exposure to bunker price
risk, are being accounted for on settlement as per the accounting policy
consistently being followed by the Company for the past several years. The
mark-to-market (loss)/gain on the foreign exchange derivative contracts and the
mark-to-market gain on the commodity futures outstanding as on March 31, 2008
amounted to Rs.(5520) lakhs and Rs.17 lakhs, respectively. The said losses and
gains have not been provided for in the accounts for the year ended March 31,
2008.

From Auditors’ Report

(e) Without qualifying our opinion, we draw attention to :

(iii) Note 17(iii) of Schedule 20, Notes to Accounts
regarding derivative contracts entered into by the Company to hedge foreign
currency risks and bunker price risk. As per the policy consistently followed
by the Company in the past, such derivative contracts are accounted only on
settlement and the mark-to-market (loss)/ gain thereon amounting to Rs.(5520)
lakhs and Rs.17 lakhs, respectively has not been provided for in the accounts
for the year ended March 31, 2008.


&
Mangalore Refinery and Petrochemicals Ltd.


— (31-3-2008)

From Notes to Accounts :

Forward Contracts to cover Forex Risk :

Forward contracts to the tune of US$ 208 million are
outstanding as on 31st March 2008, which were entered into to hedge the risk of
changes in foreign currency exchange rates on future export sales against
existing long-term export contract. The notional mark-to-market loss on these
unexpired contracts as on 31-3-2008 amounting to Rs.120.47 million has not been
considered in the financial statements. The actual gain/loss could vary and be
determined only on settlement of the contract on their respective due dates.

&
ALSTOM Projects India Ltd. — (31-3-2008)


From Significant Accounting Policies :




2.8.4 Forward Exchange Contracts not intended for trading
or speculation purposes

The premium or discount arising at the inception of
forward exchange contracts is amortised as expense or income over the life
of the contract. Exchange differences on such contracts are recognised in
the statement of profit and loss in the year in which the exchange rates
change. Any profit or loss arising on cancellation or renewal of forward
exchange contract is recognised as income or as expense for the year.



Derivative instruments :

The Company uses derivative financial instruments such as forward exchange contracts to hedge its risks associated with foreign currency fluctuations. Accounting policy for forward exchange contracts is given in note 2.8.4.

The foreign exchange contracts other than those covered under AS-l1, enter,ed for non-speculative purposes, including the underlying hedged items, are valued on the basis of a fair value on marked-to-market basis and any loss on valuation is recognised in the Profit and Loss account, on a port-folio basis. Any gain arising on this valuation is not recognised by the Company in line with the principle of prudence as enunciated in Accounting Standard 1 – ‘Disclosure of Accounting Policies’. Any subsequent changes in fair values, occurring after the balance sheet date are accounted for in the period in which they arise.

Finolex  Cables  Ltd. –   (31-3-2008)

From Notes  to Accounts

10A. Quantitative information of derivative instruments outstanding as at the balance sheet date:

Not reproduced.

B. The Company has entered into derivative transactions with an objective to hedge the financial risks associated with its business viz. foreign exchange and interest rate.

C. The Company has not hedged the following foreign currency exposures:

i) Borrowings grouped under secured loans equivalent to Rs.999.250 Million (Previous year Rs.1,476.875 million) and under unsecured loans equivalent to Rs.739.657 million. (Previous year Rs.652.678 million).

ii) Creditors for imports equivalent to Rs.39.393 million (Previous year 45,961 million).

iii) Receivables equivalent to RS.171.991million. (Previous year Rs.195.630 million).

d) Loss on derivative/forex transactions in-cludes Rs.92.000 million loss on certain outstanding derivatives at the balance sheet date assessed by the management based on the principle of prudence. In respect of other contracts, since they are in the nature of ef-fective hedge, profit/loss, if any, has not been ascertained separately.

ITC Ltd. –   (31-3-2008)

From Notes  to Accounts:

Derivative    Instruments:

The company uses Forward Exchange Contracts and Currency Options to hedge its exposures in foreign currency related to firm commitments and highly probable forecasted transactions. The information on Derivative Instruments is as follows:

a) Derivative Instrument outstanding as at year end:

Not  reproduced.

b) Foreign exchange currency exposures that have not been hedged by a derivative instrument or otherwise as at year end:

Not reproduced.

c) Consequent to the announcement issued by the Institute of Chartered Accountants of India in March 2008 on Accounting for Derivatives, the Company has marked to market the outstanding derivative contracts as at 31st March, 2008 and accordingly, unrealised gains of Rs.9.05 crores (net of taxes) have been ignored. As a result, profit after tax for the year and reserves are lower by Rs.9.05 crores.

Housing Development Finance Corporation Ltd. – (31-3-2008)

From Notes to Accounts:

ii) As on March 31, 2008, the Corporation has foreign currency borrowings (excluding FCCB) of USD 1,079.58 million equivalent (Previous year USD 1,068048 million). The Corporation has undertaken principal-only swaps, currency options and forward contracts on a notional amount of USD 808 million equivalent (Previous year USD 777 million) to hedge the foreign currency risk. Further, interest rate swaps on a notional amount of USD 230 million equivalent (Previous year USD 391 million) are outstanding, which have been undertaken to hedge the interest rate risk on the foreign currency borrowings. As on March 31,2008, the Corporation’s net foreign currency exposure on borrowings net of risk management arrangements is USD 447.13 million (Previous year USD 100.17 million).

As a part of asset liability management and on account of the increasing response to the Corporation’s Adjustable Rate Home Loan product as well as to reduce the overall cost of borrowings, the Corporation has entered into interest rate swaps wherein it has converted its fixed-rate rupee liabilities of a notional amount of Rs.12,265 crores (Pre-vious year Rs.7,265 crores) as on March 31,2008 for varying maturities into floating rate liabilities linked to various benchmarks. In addition, the Corporation has entered into cross-currency swaps of a notional amount of USD 652 million equivalent (Previous year USD 643 million), wherein it has converted its rupee liabilities into foreign currency liabilities and the interest rate is linked to the benchmarks of respective currencies.

iii) Gains/losses arising out of foreign exchange fluctuations in respect of foreign currency borrowings, net of risk management arrangements, are to the account of the Corporation. Wherever the Corporation has entered into a forward contract or an instrument, that is in substance, a forward exchange contract, the difference between the forward rate and the exchange rate on the date of the transaction is recognised as income or expense over the life of the contract. The amount of exchange difference in respect of such contracts to be recognised as expense in the Profit and Loss account over subsequent accounting periods is Rs.97.78 crores (Previous year Rs. 45.54 crores).

Other monetary assets and liabilities in foreign currencies are revalued at the rates of exchange prevailing at the year end. The reduced liability, net of risk management arrangements, of Rs.8.67 crores (Previous year Rso4.31cores [net of loss on mark to market of derivatives Rs.103.04 crores]) arising upon revaluation at the year end (based on the prevailing exchange rate) has been credited to the Provision for Contingencies account.

iv) Cross-currency swaps and other derivatives have been marked to market at the year end. The net gain of Rs.293.59 crores on such mark to market of derivatives is included under Advance Payments (Schedule No.7) and not recognised in the Profit and Loss account in view of the recent announcement by the Institute of Chartered Accountants of India (ICAI), which requires the principle of prudence to be followed in accounting for mark-to-market gains/losses on derivatives.

SRF Ltd. –   (31-3-2008)

From Significant  Accounting Policies

a) Transactions in foreign currencies are recorded at the rate prevalent on the date of transactions.

b) All foreign currency liabilities and monetary assets are stated at the exchange rate prevailing as at the date of balance sheet and the difference taken to Profit and Loss account as exchange fluctuation loss or gain.

c) Pursuant to ICAI announcement for adoption of AS-30 Financial Instruments: Recognition and Measurement, the Company has accounted for the hedge accounting of all the hedging instruments including derivatives in accordance with paragraph 99 and 106 of the said standard, affecting either the Profit and Loss account or hedging reserve (equity segment) as the case may be. The debit balance, if any, in the hedging reserve is being shown as a deduction from free reserves.

d) The Company discloses the open and hedged foreign exchange exposure as note to the accounts.

From Notes  to Accounts:

SRF has entered into long-term contracts for the transfer / sale of Carbon Emission Reductions (CER) with reputable global buyers. The cash flow from these sales forms the mainstay of SRF’s multi-year capital expansion plan, and as such these cash flows need to be both stable and secure. To ensure stability of revenues in foreign currency from the transfer / sale of CERs, the Company has entered into forward contracts with the banks to part sell Euros to be earned out of future CER sales.

The details of the forex exposure of the Company as on 31 March, 2008 are as under:

Details not reproduced.

The Company has not entered into any hedging transactions in the nature of speculation in 2007-08 (Previous year Nil).

Tube Investments  of India  Ltd. (31-3-2008)
From Significant Accounting Policies:

The Company uses forward contracts to hedge its risks associated with foreign currency fluctuations relating to certain firm commitments and forecasted transactions. The Company designates these as cash flow hedges.

The use of forward contracts is governed by the Company’s policies on the use of such financial derivatives consistent with the Company’s risk management strategy. The Company does not use derivative financial instruments for speculative purposes.

Forward contract derivatives instruments are initially measured at fair value, and are remeasured at subsequent reporting dates. Changes in the fair value of these derivatives that are designated and effective as hedges of future cash flows are recognised directly in ‘Hedge Reserve Account’ under shareholders’ funds and the ineffective portion is recognised immediately in the Profit and Loss account.
 
Changes in the fair value of derivative financial instruments that do not qualify for hedge accounting are recognised in the Profit and Loss account as they arise.

Hedge accounting is discontinued when the hedging instrument expires or is sold, terminated, or ( exercised, or no longer qualifies for hedge account-ing. At that time, for forecasted transactions, any cumulative gain or loss on the hedging instrument recognised under shareholders’ funds is retained there until the forecasted transaction occurs. If a hedged transaction is no longer expected to occur, the net cumulative gain or loss recognised under shareholders’ funds is transferred to the Profit and Loss account for the year.

From Notes  to Accounts:

Pursuant to the announcement of the Institute of Chartered Accountants of India (ICAI) in respect of ‘Accounting for Derivatives’, the Company has opted to follow the recognition and measurement principles relating to derivatives as specified in AS-30 ‘Financial Instruments, Recognition and Measurement’, issued by the ICAI, from the year ended 31st March,2008.

Consequently, as of 31st March 2008, the Company has recognised mark-to-market (MTM) losses of Rs.3.03 cr. relating to forward contracts and other derivatives entered into to hedge the foreign currency risk of highly probable forecast transactions that are designated as.effective cash flow hedges, in the Hedge Reserve Account as part of the shareholders funds.

The MTM net loss on undesignated/ineffective forward contracts amounting to Rs.0.65 cr. has been recognised in the Profit & Loss account.

Business expenditure — Interest expenditure — Matter remanded to the High Court to determine whether the transactions were entered into with the idea of evading tax.

New Page 1

26. Business expenditure — Interest expenditure — Matter
remanded to the High Court to determine whether the transactions were entered
into with the idea of evading tax.

[CIT v. Ashini Lease Finance P. Ltd., (2009) 309 ITR
320 (SC)].

The Assessing Officer for the A.Y.s 1996-97 and 1997-98
found that borrowed funds were invested to acquire control of AEC.
Accordingly, he disallowed the interest expenses u/s.36(1)(iii). This was on
the footing that the assessee had paid interest to Torrent Financiers and
Torrent Leasing and Finance Private Limited (sister companies of the assessee).
According to the order of assessment, the borrowed funds were deployed by the
assessee-company during the relevant year in order to purchase equity shares
of AEC, which company was subsequently taken over not by the assessee but by
the Torrent group. During the relevant year, the total investment made by the
assessee in the takeover and acquisition of business of AEC amounted to only
Rs.22,59,969. The Assessing Officer detected that after acquiring the shares
of AEC Ltd. the assessee sold the shares of AEC at Rs.63,57,925 and further
that subsequently, the said AEC Ltd. had been taken over and acquired by the
Torrent group. The record indicated, prima facie, that the assessee-company
had acquired the shares of AEC through finances arranged mainly from the
Torrent group (sister companies) along with two other companies, only to
enable the Torrent group to acquire and take over the business of AEC.

The Commissioner of Income-tax (Appeals) as well as the
Tribunal both however found that the borrowings were for the purposes of
business. The question, therefore, which arose for consideration before the
High Court was: Whether the assessee was entitled to deduction in respect of
interest paid by it to the Torrent group? The High Court held that whether the
borrowings were for the purpose of business or not, was basically based on the
finding of fact. The High Court held that considering the concurrent finding
of fact, there was no perversity in the order. On an appeal the Supreme Court
held that prima facie, it appeared that the High Court had lost sight
of the facts which, if proved and established, indicate circular trading was
entered into solely with the idea of evading tax. The Supreme Court expressed
the prima facie view only in support of its order as relevant aspects
had not been considered by the Tribunal and, observed that the above reasons
should not be taken as its conclusion. Therefore, according to the Supreme
Court the High Court had erred in dismissing the appeals on the ground that no
substantial question of law arose for determination.

The Supreme Court set aside the judgment of the High Court
and restored tax appeals to the file of the High Court with a direction to the
High Court to dispose of these appeals in accordance with law.

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Industrial undertaking — In order to constitute an industrial undertaking the important criteria to be applied is to identify the item in question, the process undertaken by it and the resultant output

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25. Industrial undertaking — In order to constitute an
industrial undertaking the important criteria to be applied is to identify the
item in question, the process undertaken by it and the resultant output — Matter
remanded to Tribunal in the absence of details of activities of a hospital.

[Down Town Hospital Ltd. v. CIT, (2009) 308 ITR 188
(SC)]

The appellant-assessee, a hospital, had made investment in
plant and machinery. It operated a nursing home in Guwahati. The assessee
claimed deduction u/s.80HH for the A.Y. 1994-95. The Assessing Officer (AO)
held that the assessee was not an industrial undertaking. It was, therefore,
not eligible for deduction and, consequently, the assessee’s claim for
deduction stood disallowed.


Aggrieved by the said order the matter was carried in
appeal to the Commissioner (Appeals). The Commissioner (Appeals) allowed the
relief following his earlier decision for A.Y. 1993-94, that the assessee was
an industrial undertaking. On appeal the Tribunal held that in view of two
decisions of two separate High Courts, namely, the Rajasthan High Court [CIT
v. Trinity Hospital,
(1997) 225 ITR 178 (Raj.)] and the Kerala High Court
[CIT v. Upasana Hospital, (1997) 225 ITR 845 (Ker)] the assessee-hospital
was an industrial undertaking entitled to deduction u/s.80HH.


On an appeal by the Department, the Guwahati High Court
(251 ITR 683) held that in the absence of any materials to show that the
activities carried on in the Hospital or nursing home amounted to manufacture
or production of any article or thing, the assessee was not entitled to relief
u/s.80HH and u/s.80I.


On an appeal, the Supreme Court held that in order to
constitute an industrial undertaking, u/s.32A or u/s.80HH, the important
criteria to be applied by the Assessing Officer is to identify the item in
question, the process undertaken by it and the resultant output. For example,
if the item is a data processing machine/computer, the question as to whether
the printout from that computer is as a result of manufacture is one of the
tests to be applied in judging whether the undertaking which buys this article
is an industrial undertaking or not. Unfortunately, in the present case there
was no identification of the items installed in the hospital by the Tribunal
and, therefore, it was not possible for it to express any opinion as to
whether the assessee was entitled to deduction u/s.80HH of the Income-tax Act.


The impugned order of the Guwahati High Court was set aside
therefore, by the Supreme Court, and the matter was remitted to the Tribunal
for deciding the case de novo in accordance with law.



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Appeals — Revenue cannot file an appeal involving a dispute for which no appeal is filed for earlier years if there is no change in the fact situation.

New Page 1

24. Appeals — Revenue cannot file an appeal involving a
dispute for which no appeal is filed for earlier years if there is no change in
the fact situation.

[CIT v. J. K. Charitable Trust, (2009) 308 ITR 161
(SC)]

The challenge in the appeals in each case before the
Supreme Court was to the order passed by a Division Bench of the Allahabad
High Court answering the reference made by the Income-tax Appellate Tribunal,
Allahabad Bench (in short ‘the ITAT’) u/s.256(1) of the Income-tax Act, 1961
(in short ‘the Act’) in favour of the assessee and against the Revenue. For
answering the references in favour of the assessee, the High Court relied upon
its judgment for two previous assessment years, i.e., 1972-73 and
1973-74 in the assessee’s case which is reported in CIT v. J. K. Charitable
Trust,
(1992) 196 ITR 31. The present dispute relates to several
assessment years i.e., 1972-73 (in respect of an assessment reopened
u/s.147(1) of the Act) and the A.Y.s 1975-76 to 1982-83.


Learned counsel for the Revenue-appellant submitted before
the Supreme Court that each assessment year is a separate assessment unit and
the factual scenario had to be seen. The dispute related to the question
whether the respondent-assessee’s trust was hit by the provisions of S.
13(1)(c) and S. 13(2)(a)(f) and (h) of the Act and, therefore, could not be
given the benefit of exemption provided u/s.11 of the Act.


Learned counsel for the assessee submitted before the
Supreme Court that for several years no appeal had been filed even though the
factual position was the same, i.e., for the A.Y. 1983-84 up to the A.Y.
2007-08. No appeal was filed even against the decision reported in CIT v.
J. K. Charitable Trust,
(1992) 196 ITR 31. It was also pointed out that
several other High Courts had taken a similar view and no appeal was preferred
by the Revenue against any of the judgments of the different High Courts.
Reference is made to the decisions reported in CIT v. Trustees of the Jadi
Trust,
(1982) 133 ITR 494 (Bom.), CIT v. Hindusthan Charity Trust,
(1983) 139 ITR 913 (Cal.), CIT v. Sarladevi Sarabhai Trust, (No. 2)
(1988) 172 ITR 698 (Guj.) and CIT v. Nirmala Bakubhai Foundation,
[1997] 226 ITR 394 (Guj).


Learned counsel for the Revenue submitted that even though
appeal had not been preferred in respect of some assessment years, that did
not create a bar for the Revenue filing an appeal for other assessment years.


Reliance was placed on a decision of the Supreme Court in
C. K. Gangadharan v. CIT, (2008) 304 ITR 61.


The Supreme Court noted that the factual scenario was
undisputed that for a large number of assessment years no appeal had been
filed. The basic question, therefore, was whether the Revenue could be
precluded from filing an appeal even though in respect of some other years
involving identical dispute no appeal was filed.


The Supreme Court observed that in this case, it was
accepted by the learned counsel for the appellant-Revenue that the fact
situation in all the assessment years was the same. According to him, if the
fact situation changes, then the Revenue could certainly prefer an appeal
notwithstanding the fact that for some years no appeal was preferred. The
question was of academic interest in the present appeals as undisputedly the
fact situation was the same. The Supreme Court therefore held that the appeals
were without merit and were accordingly dismissed.



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Manufacture/Production — Conversion of jumbo rolls of photographic films into small flats and rolls in the desired sizes amounted to manufacture /production of a article or thing.

New Page 1

23. Manufacture/Production — Conversion of jumbo rolls of
photographic films into small flats and rolls in the desired sizes amounted to
manufacture /production of a article or thing.

[India Cine Agencies v. CIT, (2009) 308 ITR 98(SC)]

In all the appeals before the Supreme Court the common
question that was involved was related to the entitlement of benefit in terms
of S. 32AB, S. 80HH and S. 80-I of the Income-tax Act, 1961 (in short the
‘Act’). In all the cases the issue was the effect of conversion of jumbo rolls
of photographic films into small flats and rolls in the desired sizes. The
assessees’ contention was that the same amounted to manufacture/production, as
the case may be. The stand of the Revenue was that it was not either
manufacture or production. In some cases the High Court held that in any
event, because of item 10 of the Eleventh Schedule, no deduction was
permissible. The High Court decided in favour of the Revenue and, therefore,
the appeals were filed by the assessee before the Supreme Court. The Supreme
Court after referring the dictionary meaning of the words ‘manufacture’ and
‘produce’ and noting the precedents on the subject held that the assessee was
entitled to the allowance u/s.32AB, u/s.80HH and u/s.80I of the Act. The
Supreme Court observed that the matter could yet be looked from another angle.
If there was no manufacturing activity, then the question of referring to item
10 of the Eleventh Schedule for the purpose of exclusion did not arise. The
Eleventh Schedule, which was inserted by the Finance (No. 2) Act, 1977, with
effect from 1-4-1978, has reference to S. 32A, S. 32AB, S. 80CC(3)(a)(i), S.
80-I(2), S. 80J(4) and S. 80A(3)(a)(i) of the Act. The appeals were allowed.

Authors’ Note :

Finance (No. 2) Act, 2009 has introduced definition of the
term ‘manufacture’ in S. 2(29BA) w.e.f. 1.4.09.

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Search and seizure : Block assessment : S. 158BD of Income-tax Act, 1961 : Documents seized considered for assessment of third person : Notice could not be issued on assessee u/s.158BD.

New Page 2

Reported :


53 Search and seizure :
Block assessment : S. 158BD of Income-tax Act, 1961 : Documents seized
considered for assessment of third person : Notice could not be issued on
assessee u/s.158BD.

[Superhouse Overseas Ltd.
and Anr. v. Dy. CIT,
325 ITR 448 (All.)]

Search and seizure operation
u/s.132 of the Income-tax Act, 1961 was carried out at the residence of one T. A
diary was seized and proceedings u/s.158BC were initiated in the case of T.
Notices u/s.158BD were issued in the name of the petitioners.

The petitioners filed writ
petitions before the Allahabad High Court and challenged the notices. The
petitioners pointed out to the Court that the material on the basis of which the
notices u/s. 158BD were issued, had been considered by the Settlement Commission
in the case of E, an association of persons and the Settlement Commission had
passed an order u/s.245D(4) of the Act in which on the basis of the diary,
income had been determined and that in pursuance of the order of the Settlement
Commission, the association of persons had duly deposited the tax.

The Allahabad High Court
allowed the writ petitions and held as under :

“Once the diary which was
the basis for the issue of the notices u/s.158BD had been considered in the case
of the association of persons and the income arising thereof had been assessed
in the case of the association of persons, the notices u/s.158BD did not survive
and were liable to be quashed.”

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Revision : S. 263 of Income-tax Act, 1961 Limitation : A.Y. 2004-05 : Reopening of assessment on certain items and reassessment completed : Revision in respect of other items u/s.263 : Period of limitation to be counted from the original assessment.

New Page 2

Reported :

52 Revision : S. 263 of
Income-tax Act, 1961 Limitation : A.Y. 2004-05 : Reopening of assessment on
certain items and reassessment completed : Revision in respect of other items
u/s.263 : Period of limitation to be counted from the original assessment.

[Ashoka Buildcom Ltd. v.
ACIT,
191 Taxman 29 (Bom.)]

For the A.Y. 2004-05 the
original assessment was completed u/s.143(3) of the Income-tax Act, 1961 by an
order dated 27-12-2006. Subsequently the assessment was reopened by issuing a
notice u/s. 148, dated 6-3-2007 on the basis that the benefit u/s.72A had been
wrongly allowed to the assessee. Reassessment was completed by an order u/s.147
dated 27-12-2007 withdrawing the benefit given to the assessee u/s.72A of the
Act. Thereafter, on 30-4-2009 the Commissioner issued notice u/s.263 proposing
to revise the assessment order dated 27-12-2007.

The assessee filed writ
petition and challenged the notice on the ground that what is sought to be
revised is the original assessment order dated 27-12-2006 and not the
reassessment order dated 27-12-2007 and accordingly the notice u/s.263, dated
30-4-2009 is beyond the period of limitation and hence invalid. The Bombay High
Court allowed the petition, quashed the notice and held as under :


“(i) While seeking to
exercise his jurisdiction u/s. 263, the Commissioner did not find any error
in the order of reassessment dated 27-12-2007 as regards the disallowance of
the assessee’s claim on the basis of the provisions of S. 72A. The impugned
notice adverted to issues which, as a matter of fact, did not form either
the subject-matter of the notice that was issued u/s.148 on 6-3-2007, nor
the order of reassessment thereupon which was passed on
27-12-2007. The jurisdiction u/s.263 was sought to be exercised with
reference to issues which were unrelated to the grounds on which the
original assessment was reopened and reassessment was made.

(ii) Ss.(2) of S. 263
stipulates that no order shall be made U/ss.(1) after the expiry of two
years from the end of the financial year in which the order sought to be
revised was passed. That period of two years from the end of the financial
year in which the original order of assessment dated 27-12-2006 was passed,
had expired on 31-3-2009. Hence, the exercise of the revisional jurisdiction
in respect of the original order of reassessment was barred by limitation.

(iii)
Where an assessment has been reopened u/s. 147 in relation to a particular
ground or in relation to certain specified grounds and subsequent to the
passing of the order of reassessment, the jurisdiction u/s.263 is sought to
be exercised with reference to issues which did not form the subject of the
reopening of the assessment or the order of reassessment, the period of
limitation provided for in Ss.(2) of S. 263 would commence from the date of
the order of assessment and not from the date on which the order reopening
the
reassessment has been passed.

(iv) The submission of
the Revenue was that when several issues are dealt with in the original
order of assessment and only one or more of them are dealt with in the order
of reassessment passed after the assessment has been reopened, the remaining
issues must be deemed to have been dealt with in the order of reassessment.
Hence, it had been urged that the omission of the Assessing Officer, while
making an order of reassessment, to deal with those issues u/s. 143(3), read
with S. 147, constituted an error which could be revised in exercise of the
jurisdiction u/s.263. The submission could neither be accepted as a matter
of first principle, based on a plain reading of the provisions of S. 147 and
S. 263, nor was it sustainable in view of the law laid down by the Supreme
Court.

(v) For those reasons,
the exercise of the revisional jurisdiction u/s.263 was barred by
limitation.”



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Reassessment : S. 147 and S. 148 of Income-tax Act, 1961 : A.Y. 1998-99 : AO issuing notice u/s.148 on basis of information given by Dy. Director and directions from Dy. Director and Addl Commissioner : AO not applying his mind : Notice and reassessment p

New Page 2

Reported :

50 Reassessment : S. 147 and
S. 148 of Income-tax Act, 1961 : A.Y. 1998-99 : AO issuing notice u/s.148 on
basis of information given by Dy. Director and directions from Dy. Director and
Addl Commissioner : AO not applying his mind : Notice and reassessment
proceedings not valid.

[CIT v. SFIL Stock
Broking Ltd.,
325 ITR 2852 (Del.)]

For the A.Y. 1998-99, the
return of income filed by the assessee was processed u/s.143(1) of the
Income-tax Act, 1961. Subsequently, on the basis of the information given by the
DDIT (Investigation) that the assessee was allegedly the beneficiary of a bogus
claim of long-term capital gain, the Assessing Officer issued notice u/s.148 of
the Act and made an addition of Rs.20,70,000 in the reassessment proceedings.
The Tribunal quashed the reassessment proceedings holding it to be illegal.

The Delhi High Court upheld
the decision of the Tribunal and held as under :


“(i) The first sentence
of the reasons recorded by the Assessing Officer was mere information
received from the DDIT (Investigation). The second sentence was a direction
given by the same Deputy Director to issue a notice u/s.148. The third
sentence again comprised a direction given by the Additional Commissioner to
initiate proceedings u/s.148 in respect of cases pertaining to the relevant
ward.

(ii) The Assessing
Officer referred to the information and the two directions as reasons on the
basis of which he was proceeding to issue notice u/s.148.

(iii) These could not be
the reasons for proceeding u/s.147/148 of the Act. As the first part was
only an information and the second and the third parts of the reasons were
mere directions, it was not at all discernible as to whether the Assessing
Officer had applied his mind to the information and independently arrived at
a belief that, on the basis of the material which he had before him, income
had escaped assessment.

(iv) There was no
substantial question of law for consideration.”



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Rectification : S. 154 of Income-tax Act, 1961 : Interest u/s.234B not levied in assessment order relying on decision of Supreme Court : Subsequent retrospective amendment : Order not erroneous : Rectification not valid.

New Page 2

Reported :


51 Rectification : S. 154 of
Income-tax Act, 1961 : Interest u/s.234B not levied in assessment order relying
on decision of Supreme Court : Subsequent retrospective amendment : Order not
erroneous : Rectification not valid.

[Shriram Chits
(Bangalore) Ltd. v. JCIT,
325 ITR 219 (Karn.)]

For the A.Y. 1998-99, the
assessment was completed u/s.143(3) of the Act. Following the judgment of the
Supreme Court in CIT v. Ranchi Club Ltd.; 247 ITR 209 (SC) interest was
not levied u/s. 234B of the Act. Subsequently, in view of the subsequent
retrospective amendment to S. 234B by the Finance Act, 2001 the Assessing
Officer rectified the assessment order u/s.154 of the Act and levied interest
u/s.234B of the Act. The Tribunal upheld the order of rectification.

The Karnataka High Court
allowed the appeal filed by the assessee and held as under :


“(i) In view of the
judgment of the Supreme Court in CIT v. Max India Ltd.; 295 ITR 282,
it was not possible for the Assessing Officer to reopen the case since the
Assessing Officer had rightly passed the order relying upon the judgment of
CIT v. Ranchi Club Ltd.; 247 ITR 209 (SC) while passing the order of
assessment.

(ii) Just because there
was a subsequent amendment, the Assessing Officer could not reopen the file.
The order of rectification was not valid.”



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Loss return : Delay in filing : Condonation of delay : S. 119(2) of Income-tax Act, 1961 : A.Y. 2004-05 : CBDT has power to condone the delay.

New Page 2

Reported :


49 Loss return : Delay in
filing : Condonation of delay : S. 119(2) of Income-tax Act, 1961 : A.Y. 2004-05
: CBDT has power to condone the delay.

[Lodhi Properties Co.
Ltd. v. Dept. of Revenue,
191 Taxman 74 (Del.)]

For the A.Y. 2004-05 the
assessee had filed return loss seeking carry forward of loss. The last date for
filing was 1-11-2004. The assessee’s representative reached the Central Revenue
building at around 5.15 p.m. on 1-11-2004. He was sent from one room to the
other and by the time he reached the room where his return was to be accepted,
it was already 6.00 p.m., when he was told that the return would not be accepted
because the counter had been closed. In such circumstance the return was filed
on the next day, i.e., on 2-11-2004. The assessee filed an application
u/s.119(2) of the Income-tax Act, 1961 to the CBDT for condonation of delay of
one day.

On a writ petition filed by
the assessee challenging the order of rejection, the Revenue contended that
since it was a case of a loss return, there was no provision under the law for
condoning the delay and that S. 119(2)(b) does not apply to such a case.

The Delhi High Court allowed
the writ petition and held as under :


“(i) The CBDT has the
power u/s.119(2) to condone the delay in the case of a return which is filed
late and where a claim for carry forward of losses is made.

(ii) In the instant
case, the impugned order u/s. 119 passed by the CBDT was a non-speaking one.
Normally, the matter would have been remanded to the CBDT to consider the
application of the assessee afresh. However, in the instant case, the delay
was only of one day and the circumstances had been explained and had not
been controverted by the respondents. A sufficient cause had been shown by
the assessee for the delay of one day in filing the return. If the delay was
not condoned, it would cause genuine hardship to the assessee. Thus, in the
circumstances of the case, instead of remanding the matter to the CBDT, the
delay of one day in filing of the return was to be directed to be condoned.”



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Capital gains : Transfer : A.Y. 1993-94 : Renunciation of right to subscribe to rights shares : Short-term capital loss : Renunciation in favour of general public : Does not amount to transfer : Loss notional : Not deductible.

New Page 2

Reported :

48. Capital gains : Transfer
: A.Y. 1993-94 : Renunciation of right to subscribe to rights shares :
Short-term capital loss : Renunciation in favour of general public : Does not
amount to transfer : Loss notional : Not deductible.

[CIT v. United Breweries
Ltd.,
325 ITR 485 (Kar.)]

As a holding company of a
company M, the assessee had the right to subscribe to 61,26,394 rights shares in
M. The assessee subscribed only to 22,75,650 shares and renounced the right to
subscribe 1,54,100 shares for a consideration of Rs.22,84,000. As a result the
right to subscribe to the balance 38,50,744 rights shares was lost. The assessee
claimed that before the rights issue of shares, the market quotation of shares
in M was Rs.80 per share and after the rights issue was completed the market
price came down to Rs.70 per share. The assessee therefore contended that on
account of this diminution in the value of shares by Rs.10 per share the
assessee incurred a loss to right to subscribe to 38,50,744 shares at the rate
of Rs.10 per share and that the total net loss was Rs.3,62,23,440. The Assessing
Officer rejected the claim of the assessee. The Tribunal allowed the assessee’s
claim.

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


“(i) There was no
transfer of the rights in the rights shares in question by the transferor to
the transferee. In other words, the rights were renounced by the assessee in
favour of unknown persons and that too for ‘nil consideration’. Though the
transferor was the assessee, the act of transfer was not complete inasmuch
as there was no transfer in favour of the transferee. Transfer in favour of
an unknown person could not be a transfer.

(ii) When a share can be
sold at a profit either in the open market or at the face value at Rs.10,
there was no question of suffering of loss in the facts of the case. The
loss was only notional. As there was no transfer by way of renunciation, the
question of allowing capital loss in respect of notional loss would not
arise.”



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Bad debts : S. 36(1)(vii) of Income-tax Act, 1961 : No evidence that amount not taken into account in computing income of prior years : Bad debt allowable as deduction.

New Page 2

Reported :

47. Bad debts : S.
36(1)(vii) of Income-tax Act, 1961 : No evidence that amount not taken into
account in computing income of prior years : Bad debt allowable as deduction.

[CIT v. Dwarika
Industrial Development and Chains (P) Ltd.,
325 ITR 211 (All.)]

In the relevant year, a sum
of Rs.6,27,735 was lying under the head ‘sundry debtors’, which the company was
not able to realise as this money was due and payable by one NB. The assessee
had sent several letters directing the debtor to pay the amount, but the debtor
did not even acknowledge the same. The assessee therefore, wrote off the said
amount as bad debt and claimed deduction u/s.36(1)(vii) of the Income-tax Act,
1961. The Assessing Officer disallowed the claim on the ground that the
conditions for allowance of the bad debt as provided u/s.36(2)(i) have not been
clearly brought out. The Commissioner (Appeals) allowed the assessee’s claim on
the ground that the Assessing Officer has not pointed out that this debt has not
been taken into account in computing the income in any earlier or previous year.
The Tribunal upheld the decision of the Commissioner (Appeals).

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


“(i) It was the specific
case of the assessee that the amount represented the sales effected to NB,
but because of the fact that there was no documentary evidence in support of
the claim as also the acknowledgement of the letters, the said amount was
written off. The Assessing Officer did not make any comment on this issue
and instead proceeded on the ground by simply saying that merely because the
amount has become bad the assessee cannot claim to reduce the income and
placed reliance on S. 36(2)(i) of the Act.

(ii) In our opinion, the
Commissioner (Appeals) had rightly observed that the Assessing Authority did
not find any material on record to show that the said amount has not been
taken into account in computing the income of any previous years.

(iii) That being the
position, in our considered opinion, the Tribunal had rightly upheld the
deletion.”



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Disallowance of expenditure : S. 14A of Income-tax Act, 1961 : Ss.(2) and Ss.(3) of S. 14A are constitutionally valid : They apply w.e.f. A.Y. 2007-08 : Rule 8D is not ultra vires S. 14A : It applies w.e.f. A.Y. 2008-09.

New Page 2

Unreported :


46 Disallowance of
expenditure : S. 14A of Income-tax Act, 1961 : Ss.(2) and Ss.(3) of S. 14A are
constitutionally valid : They apply w.e.f. A.Y. 2007-08 : Rule 8D is not


ultra vires
S. 14A : It applies w.e.f. A.Y. 2008-09.


[Godrej & Boyce v. DCIT (Bom.),
WP No. 758 of 2010 dated 12-8-2010]

In the writ petition
challenging the validity of S. 14A and Rule 8D, the Bombay High Court has held
as under :


“(i) S. 14A supersedes
the principle of law that in the case of a composite business, expenditure
incurred towards tax-free income could not be disallowed and incorporates an
implicit theory of apportionment of expenditure between taxable and
non-taxable income. Once a proximate cause for disallowance is established,
which is the relationship of the expenditure with income which does not form
part of the total income, a disallowance u/s.14A has to be effected.

(ii) The test which has
been enunciated in Walfort for attracting the provisions of S. 14A is that
“there has to be a proximate cause for disallowance which is its
relationship with the tax exempt income”. Once the test of proximate cause,
based on the relationship of the expenditure with tax exempt income is
established, a disallowance would have to be effected u/s.14A.

(iii) The provisions of
Ss.(2) and Ss.(3) of S. 14A are constitutionally valid. Ss.(2) and Ss.(3) of
S. 14A are not retrospective. They apply w.e.f. 1-4-2007 i.e., from
A.Y. 2007-08.

(iv) In the affidavit in
reply that has been filed on behalf of the Revenue an explanation has been
provided for the rationale underlying Rule 8D. In the written submissions
which have been filed by the Additional Solicitor General it has been
stated, with reference to Rule 8D(2)(ii) that since funds are fungible, it
would be difficult to allocate the actual quantum of borrowed funds that
have been used for making tax-free investments. It is only the interest on
borrowed funds that would be apportioned and the amount of expenditure by
way of interest that will be taken (as ‘A’ in the formula) will exclude any
expenditure by way of interest which is directly attributable to any
particular income or receipt (for example, any aspect of the assessee’s
business such as plant/machinery, etc.).

(v) Rule 8D is not
ultra vires
the provisions of S. 14A. The Assessing Officer cannot
ipso facto
apply Rule 8D, but can do so only where he records
satisfaction on an objective basis that the assessee is unable to establish
the correctness of its claim.

(vi) Rule 8D is
prospective and applies w.e.f. A.Y. 2008-09. For prior years the Assessing
Officer has to enforce the provisions of S. 14A(1).

(vii) U/s.14A(1), it is
for the Assessing Officer to determine as to whether the assessee had
incurred any expenditure in relation to the earning of income which does not
form part of the total income. The Assessing Officer would have to arrive at
his determination after providing an opportunity to the assessee to furnish
its accounts and to place on record all relevant material in support of the
circumstances which are considered to be relevant and germane.

(viii) The argument that
dividend on shares/units is not tax-free in view of the dividend
distribution tax paid by the payer u/s.115-O is not acceptable, because such
tax is not paid on behalf of the shareholder, but is paid in
respect of the payer’s own liability.”



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S. 27 — Notice by Speed Post is deemed to have been served by ordinary post within 2-3 days, further absence of assessee

New Page 2

II. Reported : 



53 Notice : Service by Speed Post : Notice
u/s.143(2) dispatched by Speed Post and not received back is deemed to have been
served in the ordinary course of post within 2/3 days by virtue of presumption
u/s.27 of General Clauses Act, 1897, in the absence of any rebuttal on the side
of the assessee.

[CIT v. Madhsy Films (P) Ltd., 301 ITR 69 (Del.); 216
CTR 145 (Del.)]

Pursuant to the return of income filed by the assessee on
31-10-2001, the Assessing Officer issued notice u/s.143(2) of the Income-tax
Act, 1961, on 23-10-2002 fixing the date of hearing on 29-10-2002 and sent by
Speed Post and completed the assessment after issuing further notices. The
assessee challenged the validity of the assessment order, on the ground that the
notice u/s.143(2) of the Act was not served on the assessee within the
prescribed period. The Tribunal allowed the assessee’s claim and quashed the
assessment order.

 

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

“(i) In the present case, the notice has been issued on
23-10-2002 and was sent through Speed Post on 25-10-2002 at the address of the
company. S. 27 of the General Clauses Act, 1897 provides that service by post
is deemed to have been effected by properly addressing, pre-paying and posting
by registered post, a letter containing a notice required to be served. Unless
the contrary is proved, the service is deemed to have been effected at the
time when the letter would be delivered in the ordinary course of post. This
presumption is rebuttable, but in the absence of proof to the contrary, the
presumption of proper service or effective service of notice would arise.

(ii) There is nothing on record to show that the notice
dated 23-10-2002 dispatched on 25-10-2002 by Speed Post was undelivered or
received back. Under the normal circumstances, a presumption will lie that
this notice has reached the assessee within 2/3 days. Since the envelop
containing the notice has not been received back by the Department, there is a
presumption that it has reached the assessee and this presumption has not been
rebutted by the assessee at all. No affidavit has been filed by the assessee
to the effect that the notice was not received by it.

(iii) Under the circumstances, notice u/s.143(2) was served
upon the assessee within the prescribed period and as such the finding given by
the Tribunal that no notice u/s.143(2) has been served upon the assessee within
the prescribed period is hereby set aside and the substantial question of law is
decided in the negative in favour of the Revenue and against the assessee.”

S. 143(2) — Service of notice by Speed Post, in absence of material on record, no pre-sumption of service within 24 hours

New Page 2

II. Reported :






 



52 Notice : Service by Speed Post : No
presumption of service within 24 hours : Notice u/s.143(2) dated 29-10-2002 sent
by Speed Post on 30-10-2002 at Delhi address given in the return and redirected
and served at Noida address of assessee on 6-11-2002 : No presumption that the
notice was served at the former address on or before 31-10-2002 in the absence
of material on record.

[Nulon India Ltd v. ITO, 216 CTR 142 (Del.)]

Pursuant to the return of income filed by the assessee on
31-10-2001, the Assessing Officer issued notice u/s.143(2) of the Income-tax
Act, 1961 on 29-10-2002, which was sent through Speed Post on 30-10-2002 at
Delhi address mentioned in the return. The notice was redirected and was served
at the Noida address of the assessee on 6-11-2002. The assessee challenged the
validity of the assessment order passed pursuant to the said notice, on the
ground that the notice was not served within the prescribed period. The Tribunal
rejected the assessee’s claim.

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

“(i) As per material placed on record, the notice in
question has been dispatched on 30-10-2002 and thereafter it has been
redirected to the Noida address of the assessee. There is nothing on record to
show as to on which date this notice was received at the given address of the
assessee and on which date the same was redirected. As per the order of the
CIT(A) placed on record, the Assessing Officer was asked for comments and vide
his letter dated 12/20th October, 2004, the Assessing Officer stated : “The
notice was served by Speed Post which must be delivered to the assessee within
24 hours, that is, by morning of 31st October.” So the AO is also not sure nor
specific as to when the notice in question has been served upon the assessee.
It is only a presumption that notice which has been sent by Speed Post on 30th
October 2002, must have been delivered to the assessee by 31st October 2002.

(ii) There is no presumption under law that any notice sent
by Speed Post must have been delivered to the assessee within 24 hours.
Moreover, there is nothing on record to show at whose instance the notice was
redirected and sent at the address of Noida. So, from the material available
on record, it may be concluded that no notice u/s.143(2), which is mandatory
requirement of law, has been served upon the assessee within prescribed
period.

(iii) Under the circumstances, the appeal filed by the
assessee is allowed and the impugned order passed by the Tribunal is set
aside.”

Direct Taxes Code

Editorial

The Finance Minister has kept
his word and released the draft of the Direct Taxes Code for public comment
within the promised time — in fact, one week in advance. It is now time for us
to study the code in detail, understand its implications and make
representations to the Government. The question that we need to ask is — at
first glance, has the Direct Taxes Code really lived up to the expectations ?

Undoubtedly, significant
efforts have gone into drafting of the Direct Taxes Code and into simplification
of complex provisions. The language of the Direct Taxes Code is definitely a
significant improvement on the legalistic and convoluted language of the Income
Tax Act. Unnecessary complications such as the concepts of previous year and
assessment year, which made understanding of the income tax provisions difficult
to most laymen, have been sought to be eliminated. To that extent, the
Government certainly needs to be complimented for its efforts.

Most individual taxpayers have
been enthused by the significant proposed reductions in individual tax rates,
with taxes at the Rs.10 lakh and Rs.25 lakh levels coming down from Rs.2,10,120
and Rs.6,73,620 levels to Rs.84,000 and Rs.3,84,000, respectively. However, one
aspect which most people have not realised is that their taxable incomes would
also be much higher under the Direct Taxes Code, on account of taxation of
withdrawal of provident fund monies, taxation of insurance monies, taxation of
capital gains on sale of equity shares at normal rates of tax, etc. Tax
exemption schemes would effectively be replaced by tax deferment schemes under
the EET method.

There are quite a few other
fundamental changes to the tax laws which are being made through the Direct
Taxes Code. Minimum Alternate Tax (‘MAT’) would no longer be based on book
profits, but on the gross assets of the company. The entire rationale behind
introduction of MAT, to tax companies which showed book profits and paid
dividends but paid no taxes, is therefore now being tossed aside, and MAT sought
to be justified by the rationale of need for productivity. Would MAT on gross
assets really increase productivity of companies, or just further hamper
loss-making companies ? The Government seems to believe that companies choose to
make losses, even when they are capable of making profits ! By that logic, the
day may not be far off when norms for productivity of different industries would
be laid down, and any company not meeting the norms of profitability would be
taxed on the income which, in the Government’s opinion, it ought to have earned.

The reduction in corporate tax
rates is being neutralised by MAT and changes in incentive provisions. Incentive
deductions for various industries, such as infrastructure, power, etc., are
being replaced effectively by accelerated depreciation, which is really not a
substitute for the profit deduction which has hitherto been available. Would
such an incentive be sufficient to enthuse companies to undertake such priority
activities ? It may perhaps be better not to have any such incentive at all, but
to ensure speedy project approvals and clearances to encourage such activities.
Unfortunately, we may end up with the worst of both — a poor tax incentive, as
well as delays in project approvals.

The general anti-avoidance rule
being sought to be introduced has the maximum potential for misuse by tax
authorities. Given the approach of tax authorities, who view every transaction
with a jaundiced eye, regarding it as having been entered into for tax
avoidance, such a provision should have inbuilt effective safeguards, if at all
it is to be introduced. Otherwise, the amount of litigation being seen in
relation to transfer pricing would certainly be dwarfed by litigation which
would be unleashed by such a provision. One thought that the objective behind
the new code is to reduce uncertainty and litigation, not encourage it. Such a
provision is therefore inconsistent with the objectives of the new code.

It is not only domestic
taxpayers who would end up with difficulties under the Direct Taxes Code. Though
all existing tax treaties may be renotified to override the Direct Taxes Code,
the general anti-avoidance rules, the provisions relating to rectification,
reassessment and revision on the basis of any order in the case of any person,
could see tax proceedings dragging on without finality.

All these provisions would
certainly mean plenty of work for chartered accountants and tax lawyers. But I
think no self-respecting professional would like such additional work if it is
at the cost of difficulties and uncertainties caused to the business community
and to taxpayers in general. One hopes that the Government will at least really
pay some heed to the representations which would be made, and not enact such
provisions which would offset the good work done in the Direct Taxes Code
.


Gautam Nayak

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ICAI and Its (Student) Members

Editorial

In the month of July, results of the CA final examination
were announced. Only about 3.5% of students passed both the groups in the old
course, while the corresponding percentage in the new course was a little better
at 6.5%. There is great anguish amongst the student community on account of such
dismal results. Details of the recent results are given in the feature `ICAI and
its Members’ in this issue of the Journal. If the Institute of Chartered
Accountants of India were to publish statistics of students passing the final CA
examination within five years from the date of their enrolment to the course, it
will certainly be an eye-opener.

It is time that all of us take a closer look at the CA course
– its structure, entry requirements, education, training, examination system and
other aspects.

Over the last few years, many changes have taken place;
examinations have been renamed and eligibility criteria for the students
changed. CPT was introduced to attract young talented students to the course,
just as students take up engineering, medicine or law after passing the Higher
Secondary Examination. On one hand, we are asking students to join the CA course
after Higher Secondary level, while on the other, we seek recognition for the CA
course as equivalent to master’s degree for the purpose of doing PhD. One really
needs to decide whether the CA course should be placed as an undergraduate
course or a post-graduate course. Today, it is neither.

When CPT was introduced, it was expected that students will
give up their college education (or opt for a correspondence degree course) and
concentrate on CA. But that expectation has been belied, possibly due to the
uncertainty of passing CA examinations. So today the students attend (do they
really?) college, coaching classes and office and are also expected to study for
the examinations.

The International Federation of Accountants (IFAC), of which
our Institute is a member, through the International Accounting Education
Standards Board (IAESB), issues International Education Standards (IES) and
other documents on training for professional accountants. IES1 `Entry
Requirements to a Programme of Professional Accountant Education’ in paragraph 2
states, “The aim of this IES is to ensure that students hoping to become
professional accountants have an educational background that enables them to
have a reasonable possibility of achieving success in their studies, qualifying
examinations and practical experience period. To fulfil this requirement, member
bodies may require certain entrants to take pre-entry proficiency tests.” Does
CPT or the commerce education that is imparted today at the undergraduate level
ensure that the students have a fair chance of passing the final examination
within a reasonable period? The answer is in the negative.

Often, students choose their career based on the cost of the
course and monetary prospects rather than their aptitude. In courses which have
tougher entry points, generally only students with the right aptitude and
calibre enter and ultimately most of them taste success. An easy entry and
subsequent difficult examinations reminds one of Abhimanyu in Mahabharat, who
had the expertise to enter the battle formation of `Chakravyuha’ but did not
know how to exit. This is an injustice to students who join the course in a
herd, but even at the end of five years, are unable to clear the final
examination. It creates a large pool of disheartened and disillusioned youth
whose qualification is ‘CA fail’. This does not augur well either for the
society in general or students and the profession in particular.

Coming to the course content, one wonders if the syllabus has
become too unwieldy for the students to handle. Even if one presumes that
students do not refer to the bare text of various laws, accounting and auditing
standards, the amount of reading that is required is voluminous. A student
passing IPCC in the first attempt appears for the final examination within a
period of about 2 to 2½ years. During this period, he is serving articles and
possibly would have appeared for college examinations as well. Even with the
maximum available leave, can a student acquire the level of knowledge that is
expected to qualify as a CA?

Most professional courses have a semester pattern with
evaluation spread over the duration of the course. This may not be possible for
the CA course, but can we think of permitting appearing only for one group at a
time or modular examination with say two papers at a time? That may reduce the
burden on students. By giving an option of appearing for both the groups at the
final examination, we are abetting failure.

At the final examination, a large number of subjects require
expert level knowledge. Does the education and training imparted ensure that?
Even in the best law schools in India, what the students get is a solid
foundation in law to understand and interpret legal issues with core knowledge
of basic laws. While it is absolutely necessary that standards of the course
should consistently remain high, we need to be clear in our mind as to what we
mean by high standards. A student passing the final examination must have
knowledge of core subjects, analytical capability and high ethical standards;
and last but not the least, he/she ought to have developed the capacity to
learn. Framework to IES, in paragraph 21, states, “In a constantly changing work
environment, both learning to learn and a commitment to lifelong learning are
integral aspects of being a professional accountant.”

Today, for a chartered accountant, there are a large number
of career options apart from the traditional areas of taxation and auditing. One
may consider permitting choice of subjects at the final CA examination rather
than expecting the student to have expert knowledge in a large number of
subjects. In fact, many years back, the final examination consisted of three
groups and for one group, a student had a choice of selecting from three
combinations.

There are few things that students need to keep in mind.
Success in any examination requires comprehension of the subject, retention of
knowledge, recalling and applying the same and finally, the presentation. Most
students rely heavily on retention without giving adequate emphasis on the other
aspects. While retention is essential, it is certainly not sufficient.

At the same time, one wonders whether in an era where
information is just a click away, can we have open book examinations in some
subjects that will test the students’ analytical capacity and application of
knowledge? When Late Jal Dastur, CA, wrote papers consisting of case studies for
conferences, he would cite all the relevant sections of the Company Law and yet,
the case studies would be so interesting and challenging.

Students, today, have lost the habit of writing and therefore, the capacity to express themselves in the written form. Also, due to extensive use of computers, there is hardly any occasion for the use of a pen between two examinations. As a result, students are unable to complete the paper. Maybe, in future, some of the papers will be in the nature of multiple choices or online tests requiring little writing. But it is also a fact that in the commercial world, written communication has its own importance, whether one is making submissions to the tax authorities or writing a report in the corporate world. The scheme of Sunday Test Papers, with all its drawbacks, gave students practice of writing answers, kept the students in touch with the syllabus and ensured regular evaluation. It was in the interest of the students.

Students who take up engineering, medicine or law have the benefit of classroom training. Even qualified CAs need to attend CPE programmes. Is it fair to expect CA students to gain expert level knowledge with only self study? Examination results have demonstrated that coaching classes have not helped the students. However, we have done precious little to provide a substitute. With the advent of information technology, we should be able to provide students with structured online training and facilities to resolve doubts and queries quickly through the medium of the Internet and toll-free numbers. A modest beginning has been done with the launch of the CA Shiksha portal.

One aspect that has been ignored is the timely mentoring of students. All the principals have this duty toward their students. It is important that mentoring should include advice to move to an alternate career option at an appropriate time and not after valuable years have been lost after futile examination attempts.

I leave these thoughts with you.

Scrutiny of Income-tax Returns

Editorial

The scrutiny of Income-tax returns for the assessment year
2006-07 is on in full swing, given the deadline of 31st December 2008 for
completion of assessment proceedings. The large number of cases selected for
scrutiny has resulted in most chartered accountants and tax practitioners
running around, trying to cope with the spate of assessment proceedings, and
assessing officers wondering whether it would be possible to complete such a
large number of assessments within the limited timeframe. Given the
inconvenience caused to such a large number of taxpayers in the form of
compiling substantial data and information, the question which really arises is
— Is selection of such a large number of cases for scrutiny really justified ?
Do such assessment proceedings really result in any significant tax collection ?


If one analyses the number of cases selected for scrutiny,
one notices that the overwhelming majority of cases consists of high net worth
individuals who have disclosed significant incomes, and who have also made
significant investments or purchased or sold properties. These cases seem to
have been selected under Computer-Aided Scrutiny Selection (CASS) on the basis
of information received through Annual Information Returns (AIR) regarding
investment, purchase and sale of property, etc. Given the fact that there was no
provision or place for declaration of such investments or purchase and sale of
property in the Income-tax returns for assessment year 2006-07, the Income-tax
Department seems to have blindly selected all these cases for scrutiny, even
though the income for that year may be far in excess of such investments. Most
of these cases result in nil or negligible addition to the assessed income,
yielding no additional tax revenue to the Government.

One reads press reports that as against 3.2 lakh returns
scrutinised in 2007-08, the tax authorities intend to scrutinise about 5 lakh
cases during the current year. Given the fact that most assessing officers in a
city like Mumbai had almost 300 cases to handle last year, it seems that they
would be handling almost 450 cases each in the current year — a Herculean task
indeed !

Even this would be manageable if the assessments were taken
up earlier and the assessing officers followed the CBDT instructions issued last
year, that in cases selected for scrutiny by the computerised process on the
basis of AIR information, only the transactions relating to such information
should be verified with the tax returns, to ensure that such payments are made
out of taxable income. Unfortunately, for most officers, old habits die hard and
they tend to burden themselves with unnecessary details called for from the
assessees, hoping to find scope for some addition or the other, though unrelated
to the AIR information. For the tax authorities to then plead shortage of
officers for carrying out its other functions in time, is totally unjustified.

Take the simple job of issuing refunds for the assessment
year 2007-08. It would be interesting to ask the tax authorities whether any
such refunds have actually been issued so far, though more than one year has
elapsed since the date of filing returns, and the tax authorities claim to have
fully computerised their processes. Almost all taxpayers are still waiting for
the tax authorities to get their act in order, and complete the simple process
of issue of their tax refunds. Obviously, the tax authorities would claim that
their hands are too full with handling scrutiny assessments and selecting cases
for scrutiny for the assessment year 2007-08.

A CBDT press release issued in mid-July 2008 stated that the
Tax Department has taken several steps to expedite processing and scrutiny of
tax returns. This includes doing away with the requirement of filing TDS
certificates and launch of a refund banker scheme, which is claimed to be
currently under implementation in six regions, including Mumbai. Under the
scheme, refunds are to be credited directly to the bank account of the taxpayer.

Unfortunately, the ground reality is quite different. So far,
the Department keeps on sending letters asking for bank account numbers, though
the bank account number may have been mentioned in the return. For months
thereafter, there is no sign of any refund. One therefore wonders as to when the
CBDT talks of ‘under implementation’, at what stage it is ! Would one have to
wait for a few more years for the Tax Department to resolve its own internal
problems and finally grant one’s legitimate refunds ?

The said press release says that the Government has
sanctioned 7051 additional manpower in November 2006 and that recruitment of
additional manpower will be completed by 2010. Do we have to wait till then ?

So many tall claims have been made by the Tax Department in
the past, that when one reads of any such claims or plans, one takes these with
a pinch of salt. In the same press release, the CBDT claims that the CASS system
has been further refined to focus on quality selection of cases with revenue
potential, rather than selecting large quantity of cases. Do the facts bear this
out ?

One can only pray for the day when the actions of tax authorities match their
words !

Gautam Nayak

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Impact of IFRS on Banks

Accountant Abroad

International accounting standards will make it harder for
banks to keep assets off their balance sheets, a UK regulator said on Monday,
while the United States continues to mull whether to broaden its use of foreign
rules.

Under current U.S. accounting rules, companies can keep
certain loans, such as those linked to risky mortgages and credit card debt, in
off-balance sheet vehicles known as ‘qualified special purpose entities’ (QSPEs).

The United Kingdom adheres to international financial
reporting standards (IFRS), which have more flexible accounting rules, but have
forced firms to include more assets on their books. It is said that having a
precise rule may be advantageous, but a precise rule also makes it possible to
design something that is precisely just outside the rule. Therefore the more
principles-based approach under IFRS adopted under UK (Generally Accepted
Accounting Principles) makes it much more difficult to design something in such
a way that it is off-balance sheet.

Few companies that have to adopt international accounting
standards have had to put about 200 off-balance sheet entities back on their
books. Many of the vehicles that were brought back on the balance sheet were
originally created using U.S. accounting rules and “a lot” were set up as QSPEs.
The SEC is examining whether to allow domestic companies to use international
standards instead of U.S. accounting rules.

Foreign-listed firms in the United States can already forego
U.S. standards for international rules and the SEC is expected to come up with a
“roadmap” to broaden use of IFRS. The treatment of off-balance sheet items is
one of many accounting methods that is being examined and debated.

The U.S. accounting rule maker, the Financial Accounting
Standards Board, will soon propose to eliminate the QSPEs. However, the board
has delayed the implementation of the rule change and said it should take effect
for reporting periods after November 15, 2009.

China pushes forward producing accounting, auditing and financing talents :

China’s three National Accounting Institutes are to teach
annually 100,000 people and help them become senior professionals in accounting,
auditing, and financing over the next five to ten years.

Meanwhile, another 1,000 will receive training and teaching
from the three institutes and reach an international level of competence each
year, according to the Chairman of the Institutes’ board of directors.

He raised these two ambitious goals after a board meeting
recently, which analysed the achievements and experiences of the institutes over
the past ten years.

Beijing National Accounting Institute was the first of the
three to be founded in 1998, and had taught more than 130,000 people over the
past decade, averaging 13,000 per year, according to figures from the
institute’s journal. The other two are in the eastern metropolis of Shanghai and
the coastal city of Xiamen, founded in 2000 and 2002, respectively.

Led and supported by multiple state departments, the
institutes are expected to produce talents in accounting, auditing and
financing, who will work as experts and professionals in the country’s
macro-economy management departments, large and medium-sized enterprises and
financial organisations.

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Governance – Rethinking Takeover Regulations in UK in the Wake of Kraft’s Conquest of Cadbury

Accountant Abroad

Workers at the Cadbury plant
in Keynsham, in the west of England, thought they had a sweet deal. In the
middle of a takeover bid for the British confectioner last year, the U.S. food
company Kraft pledged that the factory, earlier slated for closure by Cadbury,
would remain open if it won the company. When the deal wrapped, though, the
pledge soured. Too much of Keynsham’s production had apparently been shifted to
Poland to reverse its closure, Kraft lamented. The plant, after more than 75
years making chocolate, will shut next year, its staff of 400 among the early
casualties of the $ 18 billion deal.

Few hostile bids for a
British firm and a beloved brand have ruffled the country’s business and
political chiefs the way Kraft did. But the debate took a twist. Although the
Americans were excoriated for their U-turn, the pivotal role of short-term
Cadbury investors in handing the firm to Kraft sparked calls for a rethink of
the way takeovers are governed in the U.K.

And that’s exactly what the
Takeover Panel, the independent body that sets the rules for deals involving
U.K. firms, is doing — undertaking a review of the mergers and acquisitions
process with an eye on reform. The government is poised to unveil its own
recommendations for change, Business Secretary Vince Cable said to a
parliamentary committee on July 20.

Few would dispute any
British claim of being the takeover capital of Europe. According to Dealogic,
which tracks global M&A, the U.K. has seen more than twice as many of its
companies bought since 2005 as any of Europe’s other leading economies. Among
the conquests : airport operator BAA bought by Spain’s Ferrovial, British Energy
bought by France’s EDF and iconic car maker Jaguar and steel maker Corus taken
over by India’s Tata Group.

Chalk at least some of that
up to the Anglo-Saxon brand of capitalism, one that European continental
regulators have often resisted. France, for instance, has bluntly protected its
‘national champion’ companies from hostile offers. With boards and the
government less able to meddle in the takeover process in Britain, says Roger
Barker, head of corporate governance at the London- based Institute of
Directors, it is “very much an outlier in terms of the openness of our market
for corporate control.”

To make deals tougher for
acquirers to execute, the Takeover Panel is considering ways to grant
longer-term shareholders in a target firm more power to decide the fate of an
offer. One proposal being considered would see the threshold for an acquisition
increased from 50% plus one of the voting rights to 60% or higher. Another would
disenfranchise investors who buy a target’s shares after an offer has been made
by denying them the right to vote on the bid.

Both ideas have their flaws.
U.K. corporate law permits a shareholder to control a company with 50% plus one
by, for instance, issuing resolutions to dismiss the board and appoint a new
one. That such a stake would no longer grant ownership seems incongruous.
Depriving newer investors of the right to vote on a takeover, meanwhile, makes
presumptions about their motives and desirability that won’t always be fair.
After all, the reason there are short-term shareholders is that some long-term
shareholders sell out. They are voting with their feet. Disenfranchising on
those grounds, says Michael McKersie — an assistant director at the Association
of British Insurers, which represents major investors in U.K. stocks — “is just
a form of discrimination.”

Other proposals, though, are
less fraught. Giving shareholders in a bidding company a say in the process
seems sensible, since those left holding stock in the combined entity have far
more to lose from a poorly judged acquisition. Big deals involving a British
buyer sometimes require approval from the bidding company’s shareholders. For
instance if Kraft were a U.K. company, it would have needed shareholders to
approve the move for buying out Cadbury.

The City is not anticipating
revolutionary change within the Takeover Panel’s recommendations. Any radical
measures to ensure that deals are decided on the basis of long-term-shareholder
value rather than short-term speculation, would be more likely to come from the
government. The Institute of Directors’ Barker, for one, is betting on the
government to take some significant action. Officials are already mulling plans
to subject big deals to greater regulatory scrutiny before an offer has
officially been tabled. That’s far too late to help workers at the Cadbury plant
in Keynsham. But it just might make the deal’s aftertaste a touch less bitter !

(Source : Time, 16-8-2010)

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HR Management in the Accounting Practice

Implementing the basic elements of HR Management can deliver powerful results for any size of firm — small, medium or big.

The secret lies in weaving this discipline of management into the everyday running of our practices.

The need for HR management :

    People are the key ingredient of a professional practice. This is true whether the firm employs 10, 100 or 1000 people.

    Most accounting practices struggle to employ and retain people. The gap between demand and supply is the most obvious reason why finding enough people (leave aside good talent) is so difficult. The problem is accentuated because different sectors (with very different paying capacities and glamour quotients) now compete for the same talent pool.

    Retaining people is an equally big challenge because new employment opportunities (at significantly higher salaries and other perquisites and attractions) are opening up every day.

    The result is that at most times we are short-staffed. Because of attrition we are unable to build and maintain a stable team with steadily improving skill sets. This results in upward delegation, putting the proprietor/partner and senior staff under constant execution and delivery pressure. There is the constant stress of missed deadlines and mistakes in delivery. This leaves us with little time and mind-space to grow and qualitatively improve our practice . . . and of course achieve the elusive work-life balance.

What we want :

    As employers, we all want people who have the right attitude and appropriate and adequate skill sets to work for us. We would like to have a work environment in which our people enjoy working. We want our people to be committed to the Firm. And of course, we are concerned about salary cost since it is the biggest item on our profit and loss account.

    And what employees (and articled clerks) want is professional development through learning and exposure, recognition for their work, a healthy work environment and of course, fair remuneration.

    On the face of it, there is close congruence between the employer’s and employee’s needs which should guide our behaviour and actions to meeting these needs.

Reality check :

    However, the truth is that most of us are so busy with day-to-day execution issues that we don’t pay any conscious attention to the people aspect of our practice. Its not that we don’t care or we don’t want to do it. We do. But our efforts in this direction are often passive, unfocussed, unstructured and sporadic.

The essential elements of HRM :

    The basic objectives of HR management are :

  •         Hiring the right people
  •         Retaining them
  •         Growing them

    The following are the key processes of HRM that would help meet these objectives :

        Recruitment and selection :

Writing clear job descriptions for each position : This is the foundation of good selection and performance management since it brings clarity to what exactly to expect from each position in the organisation. A good job description looks at all aspects of the job. In an accounting practice, the aspects could be clients, service delivery, people and growth and profitability. The specific expectations under each aspect can then be spelt out for each level of staff.

Identifying competencies required for each job/position : Using the job description we can identify the skills and competencies that would be required in order to meet the expectations of that role. Examples of skills and competencies are : expert knowledge of accounting — Accounting Standards and presentation of financial statements (in Schedule VI format), ability to supervise teams, and good report writing ability.

Systematic selection process : At the best of times, selecting people is a tricky business. Not only should the person we select be technically competent, s/he should also be a good fit for the practice in terms of attitude and temperament. Hiring mistakes are costly. An incompetent person puts delivery at risk, an undisciplined person sets a bad example to other staff, an aggressive and rude person can put client relationship at serious risk, and so on. Hence, having a systematic approach to hiring is critical to reduce the risk of a bad choice. A simple three-step process could be :

Initial screening based on CVs and job descriptions : Screening CVs in the context of your expectations help to filter out those that are obviously not a good fit for the position, either in terms of education or in terms of experience and exposure or perhaps even attitude.

 Written tests for assessing technical ability : A good way to shortlist candidates is to put them through suitable tests that establish at least the baseline competency required for the job. After all, it would be a waste of time to interview everyone who applies for the job or whose CV is prima facie suitable.

Interview: This is the most important tool in selection, since it is an opportunity to assess the candidate face to face. Simply put, a good interview is one in which you find out whatever you need to know of the candidate in terms of the position in the shortest possible time. The thing to guard against is focus sing too much on technical knowledge at the expense of other attributes that are Decessary for the job. Needless to say, to get the most out of an interview, even the interviewer must plan and prepare carefully!

Performance management:

Training & Development: Development of people cannot be left to chance. It is also not the responsibility only of the employee. The organisation has (at least) an equal interest in ensuring that its people grow. This growth is in terms of technical competence, management ability and emotional maturity. While some skills and competencies can be taught (and learnt), others are acquired through experience. Again, there are technical skills and ‘soft’ skills. Whom to teach what? And who will teach? How? While these are no doubt tricky questions with no easy answers, the following approach may help to show the way:

  • Identify the skill gap for each person in your team. Job descriptions and competencies for each job can be a good point of reference to determine skill gaps.

  • Based on the skill gaps you have identified, determine the training that would need to be provided. Also choose carefully the format you will use. For example, while ‘classroom’ training is the easiest to deliver, there is a risk that it tends to be theoretical and if not delivered well, is ineffective. On the other hand, workshops and focussed case studies are much more effective, but they need careful preparation and skilful facilitation. Coaching and men toring are useful where you need to focus on the individual development of certain members of your team .

  • Deliver the training and TEST the participants. Needless to say, delivery of the training is the heart of the matter. This necessarily has to be effective and efficient. Short sessions of 60 to 90 minutes tend to be more effective than all-day sessions. The trainer’s preparation is critical for ensuring effectiveness. Also, the more participative the session, better is the retention of knowledge. It is very important to test the participants’ knowledge absorption by conducting a test (maybe multiple choice answers) or quiz. Of course, the ultimate test of effectiveness is how well the person actually applies his/her learnings at work!

Appraisals and feedback:

Feedback is a very powerful tool for people development and performance enhancement. While it is human nature to give feedback (usually in the form of criticism and often in public) when things go wrong, such feedback is counter productive in the long term. Also, contrary to normal practice, feedback should also be given when things go right! Feedback works best when it is given close to the event and is objectively given. While positive feedback should be given in public, negative feedback (as a general rule) should be given behind closed doors.

Even if the feedback is provided on an ongoing basis, formal performance appraisals should be conducted at least once a year. It is an opportunity to pause and objectively assess each person’s performance in all its aspects. Here again, using the job description and competencies helps to bring objectivity. In order to make the process transparent, it is useful to get each person to first do a self appraisal and then for the reporting senior to do an independent assessment which is then discussed with the staff member in a one-on-one meeting. Formal appraisals help to identify people with growth potential, training needs for strong as well as underperformers and provide an objective input for deciding on increments and promotions.

However, the one thing that we need to guard against is the ‘halo’ effect that influences the appraisal. ( The ‘halo’ effect means being un-duly influenced by recent events rather than taking the full year’s performance into consideration).

Compensation  and rewards:

Fixed remuneration i.e., monthly salary: Given that this has a direct bearing on the practice’s profitability, most of us are instinctively good at it. However, one may like to be conscious of the following:

  • Since hiring takes place throughout the year, distortions creep into the salary structure. These need to be addressed during the annual increments.

  • Guard against the ‘halo’ effect described above.

  • Our insecurity in respect of staff on whom we are excessively dependent and its impact on their remuneration.

  • Giving in to requests (demands) for higher pay by some employees. While this may, in the short term, retain the person, in the long term it will be seen as unfair by those who are not as aggressive.

Variable remuneration i.e., performance-linked bonus: Most firms pay an annual bonus to their staff. However, it is not very common to link the bonus to performance. Consequently, the bonus becomes an expectation of the staff and therefore loses its influence as a motivation for better performance. If the bonus payment can be clearly linked to performance, it can indeed become a powerful driver for those with real ability. However, a very important condition for implementing such a scheme is that there be clearly defined performance expectations and performance measurements in place. In view of the issues involved in implementing a variable pay scheme, it is not recommended for very small practices and at the early stages of HR management.

Promotion: Done for the right reasons and in the right manner, promotions are a very visible recognition of a person’s abilities and send a powerful message to all staff. On the other hand, done for the wrong reasons or without an objective assessment of the person’s abilities, it sends out an even more powerful negative message ! Hence the points to keep in mind are:

  •     Have clear reasons why the person is being promoted. Assess objectively the person’s capability to handle the new role. Else, you will neither get the role performed satisfactorily, nor will you be able to retain the person – s/he will soon be frustrated and leave.

  •     Communicate the promotion within the organisation (an email announcing the promotion is one way of doing it) giving in brief the background of the person, his/her key achievements in the earlier role and what the new role and responsibilities will be.

  •     Do ensure that the promotion actually results in a bigger role and is not just a change of designation.

Recognition (e.g., awards for exsra-ordinarq performance, special achievement, etc.) : Done for the right reasons and in the right manner, this can be a very powerful motivator for employees. It is not the monetary value of the award that is important, but rather the public acknowledgement of the achievement. Also, objectivity and consistency are key, else the recognition is seen to be hollow and insincere.

 HR administration:

HR administration is the grease on which staff matters run. If not carried out efficiently and in a timely manner, they can result in staff dissatisfaction that can have serious repercussions for the practice. The basic elements are:

  •  Payment of salaries: Timely and correct payment


  •     Leave management: Clear leave policy, applied consistently, records updated promptly and balances struck regularly


  •     Maintaining  employment.  records of staff


  •     Statutory  compliances (PF, ESI, profession tax, etc.)

    Leadership:

For people to perform, it is essential that they have a good feeling about themselves and their organisation and they have a sense of purpose i.e., they feel that they are doing something worthwhile. This is the softest and most intangible element of HR management because it deals with people’s feelings, their emotions. It is also the most difficult but most important element. It needs to be created at the top – at the level of the proprietor or partners of the practice. Only if you yourself feel good about yourself, your practice and your organisation, will you be able to create the ‘feel good factor’ in your organisation. Every person has a different style for dealing with people. Hence there is no one-size-fits-all formula for motivational leadership. It is not important how you do it. But that you do, is. These are some general pointers:

Communicate with your people, share plans to the extent they affect the team. Give them visibil-ity so they know where they are going. This is very important for creating a sense of purpose, one of the key ingredients of ‘feel good’.

Be in touch with your people. Sense their level of motivation. The ability to understand body language is a big asset. Sensitivity and a genuine concern for people are imperative. Employee engagement activities like lunches/dinners, celebrating birthdays and festivals, picnics, etc. are an excellent way to not only give your people a break and an opportunity to de-stress but also to be one with them and to know them in an informal setting.

Celebrate successes. It is what we strive for. So when it comes, it needs to be recognised and welcomed. Else we will take it for granted and eventually lose the joy of achievement.

Show strength and courage in difficult times. Tough times are inevitable. It is in such times that staff actually look to their leaders for direction.

Hence the ‘tone at the top’ will really determine whether the team will rally behind you and put in that extra effort or whether they will look for their self interest and eventually drift away.
 
Give feedback. The powerful message it gives is this: ‘I have been noticed. What I do matters. Someone is interested enough in me and my work to tell me when I go well and when I don’t’. Without feedback, we feel neglected and unwanted.

The challenges  and why we don’t  do it:

1. It’s a big breakfrom the past: In the past (till about 15 years ago), the demand-supply gap for articled clerks and qualified staff ensured that staff was more or less readily available. By and large, clients’ expectations did not go beyond the very basic and the nature of work was such that the proprietors/partners did not have to rely very heavily on their staff for ‘brainware’ – they essentially needed their staff to do the ‘grunt’ work. So hiring, retention and building skills was not much of a constraint and was consequently did not get any serious attention.

2. We don’t have the mindset for this: Perhaps this is a legacy from the past – the point made above – and is the biggest stumbling block. Most of us are too focussed on the technical aspects of our core areas of work and think of HR functions as esoteric, fancy and ‘soft’.

3. I don’t have the time for this: This is a variation of the above.

4. My practice is too small for this: Certainly, this is a seemingly valid argument. Small practices are typically run with fairly informal structures and processes. The personal style of the proprietors/ partners has a dominating influence in the manner in which the practice is run. They are able to stay on top of things and drive the practice by the seat of its pants. In these practices, management ‘happens’ and is not something you need to do consciously,leave alone recognise its distinct facets. We tend to think of ‘formal’ management as relevant to companies and businesses, not to professional practices.

5. I am not trained for this or I don’t know what to do and how to do it
: Our professional training (as articled clerks and the CA syllabus) does not give us any exposure to or training in management skills. Almost all our general management skills are self-taught and acquired from experience and reading. And HR management hardly ever comes on to our management radars.

6. I cant afford  it:  We  have  a feeling  that  ‘this probably costs a lot of money’ and in any case ‘is nice to have, but is not really essential for my practice’.

Busting the challenges:

The economic, social and professional environment has changed dramatically. Survival and success in the profession therefore demands that we look at managing our practices in a more business-like manner, managing all aspects of the practice (of which the technical or delivery aspect is only one) competently.

Given the benefits that good HR management can bring, spending time on this is an investment and not a cost. Initially, it does need extra effort (as any change does) but once set up properly, it is by and large ‘maintenance-free’.

How formal your HR management is will essentially be determined by the size of the practice and your own management style. What is important however, is to have the ‘HR mindset’ and to keep HR management firmly in the radar of practice management.

HR management (like all management) is essentially common sense and does not necessarily require formal training. Certainly, knowledge of basic HR functions would be a big help but is not a pre-requisite to get started.

Very importantly, none of this costs large sums of money. Like we said earlier, it will require an investment – of your time, mind space and common sense.

Ok, now  where do we go from  here?

Once we recognise the reality of the ‘people challenge’ and have dealt with our reasons for ‘Not Doing It’, we are ready to face the task at hand.

Getting started is a four-step process. Here are some questions to get you started:

1. Do I feel the need for HRM  in my practice?  This will test your  need  and its intensity.

2. Do I really want to implement HRM ? This will be your statement of resolution.

3. Why do I want to implement HRM ? This will test your clarity of purpose and also help to identify the ‘pay-offs’ that you expect.

4. Which elements of HRM should I implement? This will depend on the specific needs of your organisation. Your answer to 3 above will give you pointers to identify this. The section ‘Essential Elements of HRM’ above will also help to set this agenda.

5. How do I do it ? Once your reasons for implementing HRM are clear and you have set the agenda, it will then boil down to the actual implementation. The following tips may be useful:

a) Keep it simple. Don’t make a grand design. Don’t aim for the most ideal HRM practices. Do what you believe is right for you and your organisation.

b) Prioritise. Take small steps. Don’t take on too much at one time. Take what matters most first and implement it. Let it start working. Then move on to the next items.

c) Be disciplined. Once you have taken the plunge, stick to the task. Your efforts will take some time to show results, but they will. Have patience … and faith!

End Note:

Adopt HR management practices. They are simple. They are common-sense. Don’t think your practice is too small for it. Don’t be intimidated by the jargon. What is important is that YJU genuinely care for your people and that you have sincerity of purpose and discipline.

You are bound to reap the obvious benefits discussed earlier in this article. But more than that, you will experience the joy of watching people develop and grow, not by accident, but systematically and by design!

Whether Rectification Order can be passed beyond the time limit of four years ?

Closements

1.1 Under the Income-tax Act (the Act), various provisions
are made for rectification of orders passed. S. 254(2) provides for
rectification of orders passed by the Income Tax Appellate Tribunals (Tribunal).
It is provided that the Tribunal may amend its order at any time within a period
of four years from the date of the order with a view to rectifying any mistake
apparent from the report and the Tribunal shall make such amendment if the
mistake is brought to its notice by the assessee or Assessing Officer.
Accordingly, S. 254(2) enables the Tribunal to rectify its own order suo moto
or when the mistake is brought to its notice by the concerned party.


1.2 The time limit for rectifying the orders u/s. 254(2) is
four years from the date of the order. In the past, the issue had come up as to
whether the Tribunal is empowered to pass rectification order even after the
expiry of the time limit of four years, in a case where the application for the
requisite rectification is made within the specified time limit of four years.
The Rajasthan High Court in the case of Harshwardhan Chemicals and Minerals
Limited (256 ITR 767) had taken a view that if the assessee has moved the
application within the specified period of four years, the Tribunal is bound to
decide the application on merit and not on the ground of limitation, and
accordingly held that the Tribunal can pass such rectification orders even after
the expiry of the specified period of four years, if the application is moved
within the specified period of four years. However, the Madras High Court had
dissented from this view.

1.3 In view of the above-referred conflicting judgments of
the High Court, the issue was under debate as to whether the Tribunal can pass
the rectification order u/s.254(2) after the specific period of four years in a
case where the application for rectification is made within the specified period
of four years.

1.4 S. 154(7) also provides for time limit of four years from
the end of the financial year in which the order sought to be amended was
passed. This enables the Income-tax authorities to rectify their orders within
the specified time limit. S. 154(8) also provides that the Income-tax
authorities shall pass such order of rectification within six months from the
end of the month in which the application is received by it. According to the
Courts, this time limit of six months is within the overall period of time limit
of four years.

1.5 Recently the Apex Court had an occasion to consider the
issue referred to in para 1.3 above in the case of Sree Ayyanar Spinning &
Weaving Mills Limited, and the issue is now resolved. Hence, considering the
importance of the issue in day-to-day practice, it is thought fit to consider
the same in this column.


CIT v. Sree Ayyanar Spinning & Weaving Mills Limited,
296 ITR 53 (Mad.) :

2.1 In the above case, an assessment was completed for the
A.Y. 1989-90 assessing income u/s. 115J. There was some dispute with regard to
the working of Book Profit on the issue of the adjustment of earlier years’
depreciation on account of change in the method of depreciation made by the
assessee in the relevant previous year. The order was confirmed by the First
Appellate authority and the matter came up before the Tribunal. It was remanded
back to the Assessing Officer with certain directions. Again the same order was
passed by the Assessing Officer and the same was also confirmed by the First
Appellate authority. In this second round of appeal, the Tribunal confirmed the
order of the Assessing Officer and took the view that the depreciation relating
to the earlier years should not be adjusted while computing the Book Profits. If
such an adjustment is made, the profit and loss account of the year in question
would not reflect the correct picture. It seems that this order was passed by
the Tribunal on 9-12-1996.

2.2 On 2-8-2000, the assessee moved miscellaneous application
for rectification of above order of the Tribunal u/s.254(2) and raised certain
points therein. Although at the time of making such application, a judgment of
the Apex Court in the case of Apollo Tyres Limited (255 ITR 273) was not
available, relying on the said judgment, the Tribunal finally passed the
rectification order dated 31-1-2003, recalling its earlier order and
subsequently, the consequential order was passed on 12-6-2003. In substance, it
appears that the Tribunal allowed the claim of the assessee in the rectification
proceedings relying on the judgment of the Apex Court in the case of Apollo
Tyres Limited (supra).

2.3 On the above facts, the rectification order passed by the
Tribunal was questioned by the Revenue before the Madras High Court. On behalf
of the Revenue, it was, inter alia, contended that the Tribunal was not
justified in passing the rectification order u/s.254(2) after the expiry of
specified period of four years, though the application for such rectification
was moved by the assessee within the specified period of four years; S. 254(2)
specifies the time limit for passing such an order and hence such order cannot
be passed beyond that specified period. The assessee further contended that in
the case of Income-tax authorities, the rectification of mistake is governed by
S. 154 and even though S. 154(8) provides that the rectification order shall be
passed within the specified period of six months, the same shall be read into
the total period of four years provided in S. 154(7). The statute provides the
specific outer time limit and it may not be proper for the Court to go beyond
the same.

2.4 On behalf of the assessee, it was, inter alia,
contended that the Tribunal is bound to decide the application on merit and not
on the ground of limitation once the application is made within the specified
time limit of four years. For this, reliance was placed on the judgment of the
Rajasthan High Court in the case of Harshwardhan Chemicals and Minerals Limited
(supra). It was further contended that Circular No. 68, dated 17-11-1971
provides that a mistake arising as a result of subsequent interpretation of law
by the Supreme Court would constitute a mistake apparent from the record and
hence, the Tribunal was justified in relying on the judgment of the Apex Court
in the case of Apollo Tyres Limited (supra), though the said judgment was
not available at the time of passing the original order when the application for
rectification was moved.

2.5 After considering the arguments of both the sides and after referring to the provisions dealing with rectification contained in S. 254 as well as S. 154, the Court took the view that the authority is barred from passing the order of rectification be-yond the period of four years specified in S. 154(7) and likewise the Tribunal also should pass the order of rectification u/ s.254(2) only within the specified period of four years. The Court also did not agree with the view of the Rajasthan High Court in the case of Harshwardhan Chemicals and Minerals Limited (supra).

2.6 While deciding the issue in favour of the Rev-enue, the Court finally held as under (page 62) :

“…. it cannot be construed that the power of the Appellate Tribunal to rectify the mistake could be extended indefinitely beyond four years, which time is specifically spelled out by the Legislature in S. 254(2) itself for passing an order of rectification, either suo motu by the Tribunal or on application either by the assessee or by the Assess-ing Officer. The mere usage of ‘and’ between two limbs of S. 254(2) will not, in any way, enlarge the limitation prescribed for passing the order of amendment u/ s.254(2) of the Act. Consequently, any order of amendment that would be passed by the Appellate Tribunal beyond the period of four ( years would lack jurisdiction, assuming the Ap-pellate Tribunal has got a right to pass an order of rectification to rectify the mistake in the light of the subsequent interpretation of law by any Court, as per Circular No. 68, dated November 17, 1971 [see (1972) 83 ITR (ST.) 6]. Therefore, it follows that in any case of rectification, the Income-tax authorities and the Appellate Tribunal are within their power and jurisdiction to amend their respective orders u/ s.154 and u/ s.254, respectively, in the light of subsequent interpretation of law by the Courts, but such power and jurisdiction could be exercised statutorily only . within the time of four years, not beyond the period of four years.”

CIT v. Sree Ayyanar Spinning & Weaving Mills Limited, 301 ITR 434 (SC) :

3.1 The above-referred judgment of the Madras High Court came up for consideration before the Apex Court, wherein the only issue to be considered was whether the Tribunal can pass the order of rectification u/ s.254(2) beyond the specific period of four years when the application for such rectification is moved within the specified period of four years. To consider the issue, the Court noted the relevant facts and the issues raised before the High Court and the grounds on which the Tribunal had passed the order u/s.254(2). The Court also noted that in the appeal before it, the Court is not concerned with the merits of the case, i.e., reworking of computation made by the Assessing Officer. The Court also heard both the parties, wherein on behalf of the Revenue it was contended that on the facts of the c.aseof the assessee, the judgment of the Apex Court In the case of Apollo Tyres Limited (supra) was not applicable. However, the Court stated that though we have referred to the submissions of both the sides on merits, in this case, we are only conerned with the interpretation of S. 254(2) regarding the powers of the Tribunal in the matter of rectification of mistake apparent from the record.

3.2 Having clarified the issue under  consideration the Court noted  the controversy raised  on account of the rectification order  passed by the Tribunal  in response to miscellaneous applications dated 2-8-2000 filed by the assessee  and  the order  of the Tribunal dated 31-1-2003 recalling its order dated 9-12-1996. The Court also noted the conclusion of the High Court and also the fact that the High Court did not go into the merits of the case.

3.3  The Court then referred  to the provisions of S. 254(2) and  observed as under (page  432) :

“Analysing the above provisions, we are of the view that S. 254(2) is in two parts. Under the first part, the Appellate Tribunal may, at any time, within four years from the date of the order, rectify any mistake apparent from the record and amend any order passed by it U / ss.(l). Under the second part of S. 254(2), the reference is to the amendment of the order passed by the Tribunal U/ss.(l) when the mistake is brought to its notice by the assessee or the Assessing Officer. Therefore, in short, the first part of S. 254(2) refers to the suo motu exercise of the power of rectification by the Tribunal, whereas the second part refers to rectification and amendment on an application being made by the Assessing Officer or the asseSSee pointing out the mistake apparent from the record. In this case, we are concerned with the second part of S. 254(2). As stated above, the application for rectification was made within four years. The application was well within four years. It is the Tribunal which took its own time to dispose of the application. Therefore, in the circumstances, the High Court had erred in holding that the application could not have been entertained by the Tribunal beyond four years.”

3.4 The Court then referred to the judgment of the Rajasthan High Court in the case of Harshwardhan Chemicals and Minerals Limited (supra), relied on by the counsel appearing on behalf of the assessee and noted the view of the Rajasthan High Court as appearing in the head notes of the said judgment as under (page 438) :

“Once the assessee has moved the application within four years from the date of appeal, the Tribunal cannot reject that application on the ground that four years have lapsed, which includes the period of pendency of the application before the Tribunal. If the assessee has moved the application within four years from the date of the order, the Tribunal is bound to decide the application on the merits and not on the ground of limitation. S. 254(2) of the Income-tax Act, 1961, lays down that the Appellate Tribunal may at any time within four years from the date of the order rectify the mistake apparent from the record, but that does not mean that if the application is moved within the period allowed, i.e., four years, and remains pending before the Tribunal, after the expiry of four years the Tribunal can reject the application on the ground of limitation.”

3.5 Having considered the above-referred view of the Rajasthan High Court, the Court decided the is-sue in favour of the assessee and held as under (page 438) :

“We are in agreement with the view expressed by the Rajasthan High Court in the case of Harshwardhan Chemicals and Minerals Limited (2002) 256 ITR 767.

For the aforesaid reasons, we set aside the impugned judgment of the High Court and restore T.e. (A) No. 2/2004 on the file of the Madras High Court for fresh decision on the merits of the matter as indicated here in above. All contentions on the merits are expressly kept open. We express no opinion on the merits of the case whether rectification application was at all maintainable or not and whether the judgment in the case of Apollo Tyres (2002) 255 ITR 273 was or was not applicable to the facts of this case. That question will have to be gone into by the High Court in the above T.e. (A) No. 2/2004.”

Conclusion:

4.1 In view of the above judgment of the Apex Court, now it is clear that once the application for rectification is moved within the specific period of four years, the Tribunal can pass order u/ s.254(2) even if such a period has expired.

4.2 The above position will also equally apply for passing rectification order u/s.154 by the Income-tax authorities. Therefore, once such a period is expired, it would not be correct for the Income-tax authorities to take a view that it has no power to pass the rectification order u/s.154, even if the application is made within the specified period of limitation.

4.3 So far as the powers of the Income-tax authorities to rectify their order are concerned, there is also time limit of six months provided in S. 154(8). In many cases, this time limit is not observed by the authorities. Even in such cases, it would not be correct for the Income-tax authorities to later on take a stand that since specified mandatory time limit of six months has expired, they have no power to pass the requisite rectification order. With the above judgment of the Apex Court, in our view, even this position becomes clear.

4.4 Interestingly, there is also time limit for passing order for refusing or granting registration to charitable trusts, etc. u/s.12AA, wherein it is provided that every order of granting or refusing the registration under the said provision shall be passed before the expiry of six months from the end of the month in which the relevant application is received – [Refer S. 12AA (2)]. In the context of these provisions, the Special Bench of the Tribunal (Delhi) in the case of Bhagwad Swarup Shri Shri Devraha Baba Memorial Shri Hari Parmarth Dham Trust [(2007) 17 SOT 281] has taken a view that if such an order u/s.12AA(2) is not passed within the specified period of six months, registration shall be deemed to have been granted.

Liability of Partners of Limited Liability Partnerships — is it Limited ?

Article

1. The Limited Liability Partnership Act, 2008 (‘the LLP
Act’) was brought into force with effect from 31st March 2009 to permit
formation of Limited Liability Partnerships (‘LLPs’) in India. The main focus of
the LLP Act is to permit a partnership structure and at the same time, limit the
liability of partners which was heretofore unlimited under the provisions of the
Indian Partnership Act, 1932 (‘the Partnership Act’). This article discusses
briefly the limitation of liability of partners under the LLP Act as compared to
the limitation of liability of a shareholder of a limited company formed and
registered under the Companies Act, 1956 (‘the Companies Act’) and the manner in
which such liabilities are limited under the LLP Act.

2. A company formed and registered under the Companies Act is
a separate legal entity distinct from its shareholders and directors. The extent
to which the liability of shareholders of a limited company, formed and
registered under the Companies Act, towards the debts of such a company is
limited, is contained in the Memorandum of Association thereof. Accordingly, if
a company is limited by shares, a shareholder is not required to make any
contributions for the satisfaction of the debts of the company of any amount
over and above the amounts remaining due and payable on the shares held by him.
Such amount may be called up by the board of directors of the company in the
course of the day-to-day operations of the company or in the event of winding up
thereof, as the case may be. Where a company is limited by guarantee, a
shareholder is, upon a winding-up thereof, required to contribute the amounts
specified in the Memorandum of Association thereof for satisfaction of the debts
of such a company limited by guarantee. S. 426 of the Companies Act clearly sets
out the aforesaid position.

3. We now examine the provisions of the LLP Act in relation
to limitation of liability of the partners of an LLP. The LLP Act does not
specifically provide the manner in which liabilities of the partner would be
limited. However, the same can be deduced from several provisions of the LLP Act
as set out hereinafter.

4. S. 3 of the LLP Act, inter alia, provides that an
LLP is a body corporate separate from its partners, unlike a partnership firm
constituted under the Partnership Act, which has no separate legal existence. S.
4 of the LLP Act, inter alia, provides that the provisions of the
Partnership Act would not apply to an LLP. Ss.(3) and (4) of S. 27 of the LLP
Act, inter alia, provide that an obligation of the LLP whether arising
out of contract or otherwise is solely the obligation of such LLP and the
liabilities of such LLP are to be met out of the property of the LLP. Ss.(1) of
S. 28 of the LLP Act provides that a partner is not personally liable for any
obligation of an LLP solely by reason of being a partner thereof. Ss.(2) of the
said S. 28, inter alia, provides that such partner would be personally
liable for wrongful acts or omissions committed by him, but not those committed
by any other partner of the LLP. Therefore, in terms of the aforesaid provisions
of the LLP Act, a partner of an LLP is not personally liable for the obligations
of such LLP, except those arising as a result of his own wrongful acts or
omissions.

5. However, unlike the Companies Act, the aforesaid
provisions do not specifically indicate the circumstances and extent to which
any partner would be required to make contributions to the LLP. The provisions
in relation to such contributions are contained in S. 32 and S. 33 of the LLP
Act.

6. Ss.(1) of S. 32 of the LLP Act, inter alia,
provides that a partner may make contributions to the LLP in the form of
tangible or intangible property, money, promissory notes and the like. Ss.(2) of
S. 32 of the LLP Act, inter alia, provides that the monetary value of the
contribution of each partner is required to be accounted for and disclosed in
the manner prescribed. Rule 23 (1) of the Limited Liability Partnership Rules,
2009 (‘the Rules’), inter alia, provides that the contribution of such
partner is required to be accounted for and disclosed in the accounts of the LLP
along with the nature of contribution and amounts.

7. Ss.(1) of S. 33 of the LLP Act, inter alia,
provides that the obligation of a partner to contribute money or other property
or to perform services for an LLP is governed by the provisions of the limited
liability partnership agreement (‘the LLP Agreement’) executed between the
partners. The said provisions are broad enough to enable contractual
restrictions to be placed on the obligation of a partner to make contributions,
whether on incorporation of the LLP or dissolution thereof or at any time during
the continuance thereof. Therefore, generally speaking the LLP Agreement may
provide that a particular partner is required to contribute certain amounts upon
execution of the LLP Agreement or in the usual course of its business or for
that matter perform services in the course of the business of the LLP, but is
not required to contribute any amounts upon the winding-up thereof. The LLP
Agreement may also provide that a partner is bound to contribute certain sum
only upon winding-up thereof and not otherwise. The aforesaid clauses could, in
ordinary circumstances, be regarded as sufficient to restrict the liability of a
partner.

8. However, the LLP Act does not itself provide for the
circumstances in which the obligations of the LLP can be enforced against the
partners thereof and we need to consider as to whether provisions such as the
aforesaid are sufficient to protect the interests of a partner of the LLP
against any personal liabilities. We therefore examine the provisions of the LLP
Act which define the circumstances in which an obligation of a partner under the
LLP Agreement can be enforced.

9. It is obvious that an obligation in the LLP Agreement can be enforced against a partner by other partners being parties thereto. In addition thereto, Ss.(2) of S. 33 of the LLP Act, inter alia, provides that a creditor of the LLP which extends credit to or acts on an obligation described in the LLP Agreement may enforce the original obligation against such partner. The said Ss.(2) of S. 33 does not restrict the aforesaid right of the creditor to a circumstance in which the LLP is ordered to be wound-up, but appears to extend such right to the creditor in all circumstances. Therefore, an obligation of a partner to contribute any sum to the LLP can be enforced by a third party against such partner at any point of time and is not limited to the event of winding-up as in case of a company formed and registered under the Companies Act. Similarly, in case a partner has agreed to contribute any service to the customer or clients of the LLP, such an obligation may be enforced by the customer or client of the LLP against the particular partner of the LLP. Ss.(4) of S. 24 of the LLP Act in fact provides that the liability of a partner of the LLP to such LLP or its other partners or to third parties would not cease merely by virtue of his ceasing to be a partner of the LLP. Also, questions may arise as regards the contribution made by a partner at the time of setting-up of the LLP, which contributions are eventually refunded to the partner on account of profits made by the LLP. In such a case, it is necessary to consider as to whether the partner would be obliged to once again bring in such contributions in future, which have been refunded upon the LLP having made profits. All these aspects would have to be taken into account while drafting the LLP Agreement which may differ on a case-to-case basis.

10. To summarise the issue, the LLP Act is a very complicated piece of legislation. The LLP Agreement may need to take care of a large number of issues for protection of its members. Moreover, unlike companies formed and registered under the Companies Act, the LLP Act and the Rules do not prescribe the manner in which the liability of a partner of an LLP is limited. It is’ advisable and essential therefore that the LLP Agreement is carefully drafted by an experienced person so that the same contains all necessary provisions as per the LLP Act, so as to ensure that the liability of a partner thereof to make contributions to an LLP does not extend be-yond what is envisaged and the LLP remains as such in law and in spirit.

Section 92C, the Act – Since the Taxpayer had paid royalty fully and exclusively in course of business and even after paying the same, had earned gross profit at rate better than that earned by comparables, royalty payment was at arm’s length and addition was to be deleted.

22. [2017] 83 taxmann.com 165 (Delhi – Trib.) DCIT vs. Cornell Overseas (P.) Ltd. A.Y. 2003-04, Date of Order: 2nd May, 2017

Section 92C, the Act – Since the Taxpayer had paid royalty fully and exclusively in course of business and even after paying the same, had earned gross profit at rate better than that earned by comparables, royalty payment was at arm’s length and addition was to be deleted.

FACTS
The Taxpayer was engaged in the business of designer garments. During the relevant year, the Taxpayer entered into an agreement with its AE in USA for licensing designs from the AE. Under the agreement, the AE was to supply designs, provide technical know-how, permit use of logo, provide guidelines and expertise through visits of its personnel and access to the market. In consideration, the Taxpayer paid royalty @ 5% of sales of products.

The Taxpayer benchmarked its major international transaction of sale of garments on cost plus method. It earned gross profit of 19% whereas the comparables had earned between 12% to 16%. The Taxpayer considered that the transaction was at ALP since it had earned better net margins as compared to the comparables.

TPO disallowed royalty on the ground that the Taxpayer was a limited risk contract manufacturer. He thus held that payment of royalty did not conform to arm’s length principle. On appeal, the CIT(A) held that the royalty payment was included in the sale price of garments to its AE. Hence, it was automatically benchmarked. Further, since royalty and export transactions were clubbed to arrive at the gross profit margin, which was higher than the comparables, automatically each of the transactions was to be treated as being carried on at ALP.

HELD

  • The royalty paid by the Taxpayer was fully and exclusively incurred in the regular course of business. Even after paying royalty, the Taxpayer earned gross profit @19% which was better than GP of 12% to 16% in case of comparables.

  • Therefore, royalty payment was at arm’s length. The addition made by the AO was not justified and was rightly deleted by CIT(A).

Windows 7

Computer Interface

This write-up is about Windows 7 operating system and the
objective is to highlight the pros and cons about the new operating system.
Generally users in their zeal to keep up with the latest technological
developments, rarely look ahead before leaping towards the unknown and
thereafter blaming others for their folly. This article has been written keeping
such average user in mind and for the record I consider myself to be an average
user too.

Once upon a time there was an operating system called Windows
95 which dominated most of the tech-world/desktop PCs. Windows 95’s dominance
continued when its new avatar i.e., Windows 98 took over. And then there
were others (Windows CE, Windows ME & Windows NT—CE ME NT?????), but none like
Windows XP. Windows XP was a wonderful desktop operating system and it ruled
over desktops for a very long time. Even today after it has (officially) passed
on the reins to Vista, Windows XP continues to overshadow its predecessors as
well as its successor. This is true because many buyers still ask for XP instead
of Vista. As a matter of fact many even sought to uninstall the preloaded
version of Vista in favour of XP. However, with newer applications and
technology being developed every day one needs to move on. With XP being more
popular than Vista and people preferring to downgrade from Vista to XP, what did
Microsoft do ? ? Did it infuse better code in Vista ? Was XP resurrected from
the dead?? . . . . on the contrary it announced the launch of Windows 7.

Microsoft has announced that the launch will be in the last
week of October 2009. In fact, Microsoft has already begun dishing out trial
versions to users in order to get a feedback and plug any bugs. The reactions of
the users however, have been guarded.

While other operating systems came and went, sometimes in the
blink of an eye, yet there were others like Windows XP which stayed firm. But
the question that begs to be answered is WHY ? ? ? An industry expert points out
that what many neglected to figure out was that Vista needed a different machine
and hardware to function properly at its optimum, not an XP designed machine.
It’s like when Bill Gates announced the launch of Windows 98, he said it was
faster than Windows 95 and better to use. What he failed to mention was that it
needed a different machine to work on and not the old machine itself. Oops, a
minor detail ! ! !.


Another fact about Windows Vista is that it gave
dedicated Windows users a tough time. For instance Vista takes up hogged
gigabytes of space, users had to interact with the machine saying ‘yes’ (as
someone put it) a million times before it starts to even contemplate copying a
small file from one place to another.

So what did Microsoft learn from all this (and after a couple
of million dollars down the drain) . . . looks like very little because (once
again) . . . they have forgotten to mention that e-mail, address book, calendar,
photo management, movie editing and instant messaging won’t be available with
Windows 7. These have to be downloaded from Microsoft’s website. What’s more, in
some cases, additional requirements are needed. For instance, the Windows XP
Mode requires an additional 1 GB of RAM, an additional 15 GB of available hard
disk space, and a processor capable of hardware virtualisation with Intel VT or
AMD-V enabled. OOPPSS ! !

There are news reports stating that while designing Windows
7, users were asked, if it were up to them, how would they make XP better ? What
would they want from a new OS ? The feedback was anything that combines
simplicity, sleek design, ease of operation and interactivity sits pretty much
at the top of a ‘to own’ list. The result ? Windows 7. In fact, the marketing
hype from Microsoft says, “To create the next generation OS, which would make
everyday tasks faster and easier and make new things possible, Windows 7
simplifies things with a more streamlined design and one-click access to
applications and files. It has a faster boot-up and shut-down time and comes
bundled with improvements in terms of reliability, battery life and fewer
alerts.” What’s more, Windows 7 promises not only to be faster but in fact
intuitive. Features like multi-touch, JumpLists and HomeGroup have been built in
to enable consumers to interact with their PCs in faster and more intuitive
ways. Enhancements to the Windows taskbar, JumpLists and search are designed to
make navigation much easier. Also, InPrivate browsing in IE 8 prevents browsing
history, temporary Internet files, form data, cookies and usernames and
passwords from being retained by the browser. Controlling the computer by
touching a touch-enabled screen or monitor is another core Windows 7 user
experience.

But the fact is that these features were always available in
MAC OS. For those who’ve used Apple’s systems, it’s easy to see what has been
borrowed. The taskbar looks and works like the Mac OS X’s Doc :
big square icons of your favourite programs. Other Apple borrowings include the
sticky notes programe, multi-touch gestures like rotating an image by twisting
your fingers and pinch to zoom. Aero Shake allows you to get all but one window
out of the way. One needs to grab the top of that window, shake it and all the
other open windows minimise to the taskbar. Shake the window again, and they all
pop back on screen.

Didn’t we see something similar in Vista as well —it was felt
nice initially, but then eventually I used to turn it off because the feature
would either slow down the PC or would result in disrupting other programs.
Whats the point of an enhancement which cannot balance user experience with
costs and performance degradation issues.

Another feature in Windows 7 is Snap. With Snap, one can
simply grab a window and pull it to either side edge of the screen to fill half
of the screen. If one wants to quickly see gadgets or grab a file from the
desktop, all one needs to do is move the mouse to the lower right corner of the
desktop. Peek makes all the windows transparent and one can view the desktop.
Windows Flip is a feature similar to Mac OS X’s Expose. The rate at which
they are borrowing the feature
may be… one may want to wait for the Snow
Leopard (new OS announced by Apple) before switching to Windows 7.


There is also the issue of cost of the software. The cost remains unclear, though initial reports had indicated that the estimated prices for the full Windows 7 package in the US for the premium, professional and ultimate versions would be $ 199.99, $ 299.99 and $ 399.99, respectively. The hype however says that “Firstly, the price for the retail versions of Windows 7 Home Premium and Windows 7 Professional will reduce in the range of 15-25%. Secondly, India pricing for these two versions is lower by 25-40% in comparison with developed markets like the US. Pricing for other retail versions of Windows 7 remains the same as Windows Vista.” Of course this does not include the additional requirements in terms of RAM/CPU, etc. It’s still a wait and watch for me.

After all the cribbing readers may wonder whether its worth the upgrade … maybe … maybe not. Wait for the next write-up before you leap.

Cheers! ! .

This article is merely an attempt to give the readers a bird’s-eye view of the reactions. This article is not intended to be either an endorsement or critique of any particular software or feature.

‘Urban Land’ Under Wealth Tax Act

Controversies

1.
Issue for consideration :


1.1 Wealth tax is chargeable
on the assets specified in S. 2(ea) of the Wealth-tax Act. One of such assets is
an ‘urban land’, which has been defined in Explanation 1(b) of the said Section.
The definition reads as under :


” ‘Urban land’ means land
situate :



(i) in any area which is
comprised within the jurisdiction of a municipality (whether known as a
municipality, municipal corporation, notified area committee, town area
committee, town committee or by any other name) or a cantonment board and
which has a population of not less than ten thousand according to the last
preceding census of which relevant figures have been published before the
valuation date; or

(ii) in any area within
such distance, not being more than eight kilometres from the local limits of
the municipality or cantonment board referred to in sub-clause (i) as the
Central Government may, having regard to the extent of, and scope for,
urbanisation of that area and other relevant considerations, specify in this
behalf by Notification in the Official Gazette,

but does not include land
on which construction of a building is not permissible under any law for the
time being in force in the area in which such land is situated or the land
occupied by any building which has been constructed with the approval of the
appropriate authority or any unused land held by the assessee for industrial
purposes for a period of two years from the date of its acquisition by him or
any land by the assessee as stock-in-trade for a period of ten years from the
date of its acquisition by him.”

1.2 One of the exceptions
contained in the said definition excludes an urban land occupied by any building
which has been constructed with the approval of the appropriate authority or an
unused land held by the assessee for industrial purposes for a period of two
years from the sate of its acquisition.

1.3 We intend to examine
here, the liability to wealth tax in a case where the work for construction of
an industrial building has begun in pursuance of the approval by appropriate
authority, but is not completed within the period of two years or a case where
work for construction of a residential building has begun in pursuance of the
approval by appropriate authority, but is not completed. The case of the
taxpayers for exemption from levy of the wealth tax rests on the contention that
once the work of construction of a building has commenced, the structure even
though incomplete should be recognised as ‘building’ nonetheless, and in the
alternative a land on which the work of constructing a building is in progress,
ceases to be a ‘land’. It is argued that since the building is being
constructed, the same is exempt for the purpose of wealth tax in terms of the
meaning to be given to urban land more importantly on account of the objective
behind the levy of tax. The Revenue, on the other side is of the view that such
a land on which the building is under construction continues to be a land and
therefore liable to wealth tax. The conflicting decisions, available on the
subject, of the High Court highlight the importance of the issue that requires
consideration. The Karnataka and the Gujarat High Courts are of the view that
the land under discussion is liable to wealth tax, while the Kerala and Punjab &
Haryana High Courts hold that no wealth tax is chargeable once the work of
construction has begun.

2.
Giridhar G. Yadalam’s case, 325 ITR 223 (Karn.) :


2.1 Recently the Karnataka
High Court examined this issue in the case of CWT v. Girdhar G. Yadlam.
The assessee in that case was assessed in the status of a Hindu undivided family
and the assessment year in question was 2000-01. The assessee owned a plot of
land which was given to a developer for construction of residential flats in the
year 1995-96, so however the ownership of the same was retained by him as
contended by him in the income-tax proceedings. The assessee had claimed, in the
income-tax proceedings, that it had retained ownership of the land until flats
were fully constructed and possession of the assessee’s share was handed over.
It had contended that the development agreement constituted only permissive
possession for the limited purpose of construction of flats. The assessee
contended that it continued to be the owner of the land till the flats were
sold. A notice u/s.17 of the Wealth-tax Act was issued to the assessee for
bringing to tax the said land under development. On due consideration of the
facts, the Assessing Officer treated the said land as an urban land and brought
it to tax. An appeal was filed against such an order was allowed by the CWT
(Appeals) whose order was confirmed by the Tribunal following its decision in
WTA Nos. 4-5/Bang./2003, dated March 22, 2004.

2.2 Aggrieved by the order
of the Tribunal the Revenue filed an appeal before the Karnataka High Court
raising the following questions of law :


(a) Whether the Tribunal
was correct in holding that the value of properties held by the assessee at
Adugodi and Koramangala is not chargeable to wealth tax, as the same are not
urban land but land with superstructure and cannot form part of the wealth
as defined u/s.2(ea) of the Act ?

(b) Whether the
properties of the assessee cannot be brought to wealth tax assessment ?


2.3 The High Court on appreciation of the opposing contention observed that what was excluded was the land occupied by any building which had been constructed; admittedly, in the case on hand, the building was not fully constructed, but was in the process of construction and hence could not be understood as a building which had been constructed. It held that the Courts had to interpret any definition in a reasonable manner for the purpose of fulfilling the object of the Act and the Courts. It held that the term ‘constructed’ had its own meaning and would mean ‘fully constructed’ as understood in the common parlance.

2.4 The Court further observed that the Tribunal had chosen to blindly follow its earlier order, without noticing the intention of the Legislature and the specific wording in the Section and neither the owner nor the builder nor the occupant would pay any tax to the Government in terms of the Wealth-tax Act, if the order of the Tribunal was accepted. The ‘land occupied by any building which has been constructed’, should be interpreted in a manner that would fulfil the intention of the Legislature.

2.5 The Court did not approve the theory of openness of the land for the purpose of taxation accepted by the Tribunal as in its opinion the Tribunal had failed to notice the principle that each word in taxing status had its own significance for the purpose of taxation. The Court observed that the words ‘land on which the building is constructed’ had not been properly appreciated/ considered by the Tribunal.

2.6 The Court further observed that the interpretation of any word would depend upon the wording in a particular context and the object of the Act as understood in law and therefore, was not prepared to blindly accept the meaning given to the term ‘building’ in the Law Lexicon. That the use of the words ‘building constructed’ in the Act made all the difference for the purpose of interpretation.

2.7 The Court took note of its own judgment in the case of Vysya Bank Ltd. v. DCWT, 299 ITR 335 (Karn.) to buttress its findings in favour of the Revenue. It also distinguished the judgment of the Orissa High Court in CWT v. K. B. Pradhan, 130 ITR 393 (Orissa) which examined the meaning of the term ‘house’ for the propose of the Wealth-tax Act as in the said case, the Court was considering only the word ‘house’ and not ‘building constructed’ as in the case before it.

2.9 The Court further observed that it could not forget that the Parliament in its wisdom had chosen to provide an exemption only under certain circumstances which could not be extended without any legal compulsion in terms of the Act. The Court finally held that a land on which completed building stood, such land alone would qualify for exemption. The Court accordingly accepted the appeal of the Revenue.

    Apollo Tyres Ltd.’s case, 325 ITR 528 (Ker.):
3.1 The Kerala High Court was appraised of the same issue in the case of Apollo Tyres Ltd. v. CWT, 325 ITR 528 (Ker.). In that case, the assessee, a public limited company was engaged in production and sale of automotive tyres. It was allotted a plot in Gurgaon on December 29, 1995 on which it commenced construction of a commercial building in November, 1997, and completed construction of a four-storeyed building with basement and started occupying it from March 29, 2000. After completion of the construction of the building, the land and building were granted exemption from wealth tax as the said assets fell under the exempted category. However, in the course of assessment for the A.Y. 1998-99, the Wealth-tax Officer assessed the value of the land treating it as urban land u/s.2(ea) rejecting the assessee’s contention that construction of building was in progress on the valuation date, that is, March 31, 1998, and as such the land could not be treated as urban land under Explanation 1(b) to S. 2(ea) of the Act. The first Appellate Authority upheld the claim of exemption of the assessee, but the Tribunal on appeal by the Department, reversed the order of the first Appellate Authority and upheld the assessment order by relying on the decision of the Karnataka High Court in the case of CWT v. Giridhar G. Yadalam (supra).

3.2 The appellant company submitted that the exemption ceased to be available only where, after two years of acquisition, the land was continuously kept vacant without utilising it for construction of building for industrial or commercial purposes. It was highlighted that the assessee had started construction of a commercial building as on the valuation date and in the course of two years and thereafter the assessee had completed the construction of the building and had started using the building which was no longer assessed by the Wealth-tax Officer as the building qualified for exemption. It contended that commencement of construction of the building on the urban land itself was use of the building for industrial purpose.

3.3 The Revenue on the other hand contended that the intention of the Legislature in limiting the exemption for vacant land up to two years was only to ensure that if the assessee wanted to get exemption beyond two years, the assessee should have completed construction of the building in the course of two years and used the building for industrial purposes. It further contended that unless the building was constructed and put to use for industrial purpose, before the year end, the land could not be said to have been used for industrial purpose. In other words, the value of urban land could be assessed to wealth tax until completion of construction of the building and until commencement of use of such building for commercial or industrial purpose.

3.4 The Kerala High Court held that the urban land that was subjected to tax under the definition of ‘asset’ generally covered vacant land, only. It noted the fact that under the exception clause ‘the land occupied by any building which has been constructed with the approval of the appropriate authority’ was exempt from the purview of tax which according to the Court clarified that when an urban land was utilised for construction of a building with the approval of the prescribed authority, then the land ceased to be identifiable as urban land; that the section contemplated for taxing such a land on which an illegal construction was made without approval by the appropriate authority and that it was only in such a case that such land would still be treated as urban land, no matter building was constructed thereon; that however, if a building was constructed with the approval of the prescribed authority, then such land went out of the meaning of ‘urban land’.

3.5 The question according to the Kerala High Court to be considered was whether during the period of construction of the building, the urban land on which such construction was made could be assessed to wealth tax. In the Court’s view, once the land was utilised for construction purposes, the land ceased to have its identity as vacant land and it could not be independently valued. The Court pertinently noted that the building under construction whose work was in progress was not brought within the definition of ‘asset’ for the purpose of levy of wealth tax. It also noted that there was no dispute that as and when construction of the building was completed, there could be no separate assessment of urban land and the assessment was thereafter only on the value of the building, if it was not exempted from tax. The commercial building constructed by the appellant assessee, the Court noted, fell within the exemption clause as commercial building was not subjected to wealth tax. The commencement of construction in the opinion of the Court amounted to the use of the land for industrial purpose as without construction of the building the land could not be used for the purpose for which it was allotted.

3.6 For removal of doubts the Court noted that part construction and abandoning further construction would not entitle the assessee for exemption, unless the assessee eventually completed construction of the building and used the building for commercial or industrial purpose. As in the case before the Court, the assessee progressively completed construction of a four-storeyed building with basement and started using it within the course of two years from the valuation date, the assessee was entitled to exemption; that the assessee could not be expected to complete the construction of

    four-storeyed massive building in the course of two years which was the period provided in Explanation 1(b) of S. 2(ea). Keeping in mind the exemption available to productive assets, the Court felt that there was no scope for levy of tax during the period of construction of the productive asset, namely, commercial building by utilising the urban land. In other words, once the non-productive asset like urban land was converted to a productive asset like a building which qualified for exemption, then the assessee could start availing of exemption even during of conversion of such non-productive asset to productive asset. The Court confirmed the eligibility of the assessee for claim of exemption for urban land on which they were constructing a commercial building on the valuation date.

    Observations:
4.1 The present scheme of the wealth tax primarily seeks to tax an unproductive asset and leaves un-taxed an asset, which is put to a productive use. This is amply clarified by the Finance Minister’ speech and the memorandum explaining the objects behind the introduction of the new scheme of wealth tax while moving the Finance Bill, 1992. Once an asset is shown to be a not non-productive asset, it ceases to be outside the ambit of the wealth tax. The activity of construction ensures that the land in question is a ‘productive asset’ and no wealth tax can be levied on an asset which is productive.

4.2 A land on being put to construction cannot be termed as an open land and even perhaps a ‘land.’ A land is a surface of the earth and once the surface is covered, it cannot be termed as the land, leave alone the urban land.

4.3 The decision in Giridhar G. Yadalam’s case under comment was discussed by the Kerala High Court in Apollo Tyres Ltd. v. ACIT, (supra), and only thereafter the Court did not subscribe to the view that construction should have been completed within two years. The Kerala High Court found that Giridhar Yadalam’s case was inapplicable, where the assessee constructed the building in stages though the full construction took four years.

4.4 The purpose and the objective behind introduction of the provision, brought in with effect from April 1, 1995, should be kept in mind. It was for bringing to tax an unutilised open land that the provision was introduced. Once a land is admitted to be put to use for the purposes of construction, it ceased to be a chargeable land and should not be subjected to tax if the construction of the building is eventually completed and is not used a subterfuge to avoid any tax. While there is no doubt that a land that is put to use for construction within two years, is exempt for two years from tax, for the period thereafter it is no longer a virgin land, so that it is not liable to tax.

4.5 Once land is married to a superstructure, it can no longer be treated as land simpliciter. It is also not a property capable of being occupied for use and be termed as a building. A building under construction is neither vacant land, nor can it be treated as a building prior to completion as is generally understood for municipal tax. The Supreme Court in Municipal Corporation of Greater Bombay v. Polychem Limited, AIR 1974 SC 1779 with regard to municipal tax had held that unfinished building would not justify any valuation, since it cannot be treated as a building. The Madras High Court in CWT v. S. Venugopala Konar, 109 ITR 52 has held that only the amount spent on construction would be the value of the property under construction. The Karnataka High Court referred to the decision in State of Bombay v. Sardar Venkat Rao Gujar, AIR 1966 SC 991, where it was held that a building in order for it to be con-sidered as a building should have walls and a room. The Supreme Court in that case had followed the decision in Moir v. Williams, (1892) 1 QB 264.

4.6 The Gujarat High Court, in CWT v. Cadmach Machinery Co. Pvt. Ltd., 295 ITR 307 (Guj.) found that the land on which construction had started would not be treated as building, so that the land value could be included under the law u/s.40(3)(vi) of the Finance Act, 1993 differing from the decision of the Delhi High Court in CWT v. Prem Nath Mo-tors P. Ltd., 238 ITR 414. Recently, in the case of CIT v. Smt. Neena Jain, WTA Nos. 17 to 20, dated 19-2-2010, the Punjab & Haryana High Court has upheld the view that a house under construction is not liable to WT and is not an urban land.

4.7 The Cochin Bench of the Tribunal in the cases of Mathew L. Chakola v. CWT, 9 SOT 617 (Cochin) and Meera Jacob v. WTO, 14 SOT 486 (Cochin), held that once construction activity started on an urban land, the land lost its character of an urban land and was outside purview of definition of the ‘urban land’. Similarly, in Federal Bank Ltd. v. JCIT, 295 ITR (AT) 212 (Cochin), it was held by the Tribunal that once the building was under construction, the land was no longer a vacant land so as to be made liable for wealth tax u/s.2(ea) of the Wealth-tax Act.

4.8 In the said case of Meera Jacob v. WTO, 14 SOT 486 (Cochin), the Tribunal has also upheld the alternative contention of the appellant that once a land was put to construction, it ceased to be an asset liable to wealth tax, as the activity of construction ensured that the land in ques-tion was a ‘productive asset’ and no wealth tax could be levied on an asset which was productive; wealth tax was chargeable only on such assets which were not productive. For supporting this proposition, the Cochin Bench followed its own decision in the case of Federal Bank Ltd. 295 ITR (AT) 212 (Cochin). The Cochin Bench in the said decision also held that once a land was subjected to construction, it ceased to be an open land; it is only an open land that could be treated as a land; a land was a surface of the earth and once the surface was covered, it ceased to be the land, leave alone the urban land.

4.9 It is exempt primarily for the reason that land on which construction is in progress is not an asset u/s.2(ea) as it has not been so listed. A land acquired for industrial use will be exempt for two years after its acquisition provided the construction starts during the third year. Once the construction has begun, as stated, the land ceases to be chargeable to wealth tax, subject to the condition that such construction eventually leads to completion of building. It needs to be appreciated that the exemption given for a land on which construction is in progress is in relaxation of levy of wealth tax on urban land.

4.10 In the case of Vysya Bank Ltd. v. DCWT 299ITR335 (Karnataka) the Bank had entered into an agreement for purchase of property on June 17, 1978 and was put in possession of the property. The Assessing Officer ruled that the assessee had become the owner of the property and was liable to wealth tax. On an appeal by the assessee to the Court, the Karnataka High Court examined the meaning of the terms ‘assets’ and ‘urban land’ and also the judgment of the Apex Court in CWT v. Bishwanath Chatterjee, (1976), 103 ITR 536 and ultimately ruled that the Assessing Authority was not justified in including the vacant land in the net wealth of the assessee for the purpose of computation of wealth as on the valuation date for the purpose of the Wealth-tax Act.

4.11 It is relevant to note that there are no rules for valuation of a property under construction. Neither there is a provision which state that such a property should be valued merely as land.

4.12 As noted by the Kerala High Court, the better view is that the decisions of the Karnataka High Court and the Gujarat High Court need review.

Slump sale and S. 50B

Controversies

1. Issue for consideration :


1.1 S. 50B provides for taxation of capital gains arising in
a slump sale. ‘Slump sale’ has been defined by S. 2(42C) to mean transfer of one
or more undertakings as a result of sale for a lump sum consideration without
values being assigned to individual assets and liabilities in such sales other
than for the purposes of payment of stamp duty. An ‘undertaking’ has been
defined vide S. 2(19AA) to include any part or a unit or a division thereof or a
business activity as a whole.

1.2 These provisions are introduced by the Finance Act, 1999
w.e.f. 1-4-2000 to put to rest the serious doubts prevailing for long about the
taxability or otherwise of gains in slump sale of business on a going concern
basis.

1.3 The newly introduced provisions besides providing for the
taxability of such gains provide for the detailed mechanism for determination of
the period of holding and the computation of capital gains.

1.4 The doubts about the taxability of gains in slump sale
for the period up to A.Y. 1999-2000 continue to persist with the views with
equal force persisting. While some Benches of the Tribunal have favoured the
taxability, others have exempted the gains form the ambit of taxation.

1.5 As if the above-referred controversy was in-sufficient, a
new controversy has arisen about the applicability of the newly inserted
provisions to the pending assessments. A recent decision of one of the Benches
of the Tribunal has taken a view conflicting with the prevailing view that the
said provisions were prospective in nature.

2. Asea Brown Boveri Ltd.’s case :


2.1 In the case of ACIT v. Asea Brown Boveri Ltd., 110
TTJ 502 (Mum.), the Tribunal was concerned with the issue as to whether the
transaction in question was a slump sale or an itemised sale. It was also
concerned about the taxability or otherwise of the gains arising on transfer of
a business in a slump sale. Though the Tribunal in this case had held that the
impugned transaction did not amount to slump sale, it was felt necessary to deal
with the issue of taxability of profits or gains if the impugned transaction was
held to be a slump sale without prejudice to the aforesaid finding.

2.2 The Tribunal for the reasons recorded in their order held
that profit arising on slump sale was taxable, as it was possible to compute the
capital gains including the cost of acquisition in some manner and the limited
question before them was about the mode of computation to be adopted for working
out the profits/gains from the slump sale. The Tribunal noted that there were
two provisions which were relevant in this behalf : (i) the provisions of S.
50B, which were specific to the computation of capital in case of slump sales,
and (ii) the general provisions of S. 45, which were applicable in the absence
of special procedure prescribed in S. 50B.

2.3 On applicability of S. 50B, the Revenue submitted that
once the transaction was held to be a slump sale, the taxability of the profits
and gains arising on such sale had to be brought to tax u/s.50B of the IT Act,
as the said S. 50B, being a procedural and computational provision, was
retroactive in its operation and therefore should govern all the pending
proceedings. Against the contentions of the Revenue, the assessee, on the other
hand, contended that S. 50B did not have retrospective operation and hence the
taxability of profits/gains from a slump sale could not be considered u/s.50B
which Section was operative from A.Y. 2000-01, only.

2.4 The Tribunal after taking note of the several
provisions including that of S. 2(42C) and S. 2(19AA) confirmed that S. 50B had
been inserted in the IT Act by the Finance Act, 1999 w.e.f. 1st April 2000 and
was applicable w.e.f. A.Y. 2000-01, while the appeal before them related to A.Y.
1997-98 and accordingly the newly inserted provisions were not available on the
statute book for the assessment year under appeal. This fact however did not
deter the Tribunal to apply the said provisions of S. 50B, as in their opinion
the concept of slump sale which hitherto judicially recognised was now been
codified and inserted in the form of clause (42C) in S. 2 of the IT Act; that
what was earlier the judge-made law was now a codified law; the Bombay High
Court in the case of Premier Automobiles Ltd. v. ITO, 264 ITR 193 held
that the concept of slump sale initially evolved under judge-made law was
subsequently recognised by the Legislature by inserting S. 2(42C); that
insertion of the new provisions was nothing but codification of what was
hitherto judicially recognised and S. 2(42C) was nothing but declaration of the
existing law of slump sale.

2.5 The Tribunal further noted that the Court in the said
case was concerned with the A.Y. 1995-96 when S. 50B was not in existence and
still the Court accepted that profits and gains arising on slump sale were
taxable, which in the opinion of the Tribunal showed that it had always been the
law that profits and gains from slump sale were taxable; the natural corollary
to the said decision was that the provisions of S. 50B(1) declaring that any
profit or gain arising from the slump sale would be chargeable to tax as capital
gains, was merely declaratory of the law as it then existed.

2.6 The Tribunal also proceeded to answer the obvious question as to what was the necessity of en-acting S. 50B when it was merely declaratory of the existing law. The Tribunal observed that the answer to that question lay in the provisions of Ss.(2) and Ss.(3) of S. 50B, which provided for the mechanism for the computation of cost of acquisition and the cost of improvement. It noted that the absence of any statutory mode of computation of cost of acquisition/improvement, difficulties were being experienced in the computation of capital gains arising from the slump sale, which were resolved by introduction of S. 50B; the heading of S. 50B which read: “Special provision for computation of capital gains in case of slump sale” clarified that S. 50B dealt with computation of capital gains in cases of slump sale; while Ss.(l) of S. 50B declared the existing law and thus put the same beyond the pale of any doubt, Ss.(2) and Ss.(3) thereof merely laid down the machinery for computation of capital gains from slump sale.

2.7 The Tribunal  proceeded to examine whether the computational provisions in S. 50B(2) and (3), enacted to provide simplicity, uniformity and certainty, the three pillars of taxation for the computation of capital gains, were retroactive or not. In order to answer this question, the Tribunal referred to the decision of the Supreme Court in CWT v. Sharvan Kumar Swarup & Sons, 210 ITR 886 (SC), wherein it had been held that machinery provisions, which provide for the machinery for the quantification of the charge, were procedural provisions and therefore would have retroactive operation and apply to all pending proceedings. Ss.(2) and Ss.(3) of S. 50B are thus procedural provisions inasmuch as they have been enacted to quantify and thereby simplify the procedure for computation of cost of acquisition/improvement in cases of slump sale. Based on the aforesaid findings, the Tribunal held that the provisions of S. 50B(2) and (3) were machinery provisions and hence would have retroactive operation and apply to all pending matters.

2.8 In deciding the issue the Tribunal also rejected the plea of the assessee that S. 50B could not have retroactive operation as it would mean, by the same logic, that the amendments made in S. 55(2)(a) deeming the cost of acquisition of certain assets to be nil would equally have retroactive operation. The assessee for this contention had relied on CIT v. D.P. Sandu Brothers Chembur (P) Ltd., 273 ITR 1, wherein it was held that the amendments to S. 55(2)(a) -(., deeming the cost of acquisition of a tenancy right to be nil had only prospective effect and not retrospective effect. The aforesaid decision was found to be rendered in the context of the provisions of S. 55(2)(a), which deemed the cost of acquisition of tenancy right to be nil and not in the context of S. 50B(2) and (3) which merely simplified and standardised the procedure for computation of cost of acquisition/improvement in cases of slump sale.

3. Sankheya Chemicals’ case:

3.1 In Sankheya Chemicals Ltd. v. ACIT, 8 SOT 50 (Mum.), the Chemical Division of the assessee-company was sold as a going concern on 1st April, 1990 for a lump sum price of Rs.20 lakhs. The said business consisted of the leasehold rights of the land, factory building, plant and machinery and electrical installation which was transferred to the subsidiary company, along with other assets and liabilities including transfer of raw material and other licences, etc.

3.2 The same Mumbai Tribunal was inter alia asked to consider whether provisions of S. 50B were retroactive in its operation so as to bring within its net the gains of transfer of a business for a slump consideration prior to introduction of S. 50B.

3.3 Taking into consideration the facts of the case in totality, the Tribunal held that no tax was exigible to the gains arising on the transfer of the business undertaking as a going concern by the assessee-company and the gains on such transfer were not includible in the hands of the assessee as income from short-term capital gains by relying on Coromandel Fertilisers Ltd. v. DCIT, 90 ITD 344 (Hyd.). The Tribunal also noted that S. SOBof the IT Act was introduced w.e.f. 1st April 2000 and in the facts of the present case, the business undertaking was sold on 1st April 1990, i.e., prior to the introduction of the provisions of S. SOBof the IT Act.

3.4 The Mumbai Tribunal in this case noted with approval the decision of the Hyderabad Bench in the case of Coromandel Fertilizers Ltd. (supra) which held as under:  “……S. 50 and S. SOB are mutually exclusive.  In other  words,  S. 50B is attracted when  there  is a slump  sale and  S. 50 is attracted when  there is an itemised  sale. S. SOBwas not applicable  for the assessment  year  in question,  as it had no retrospective  operation.  So, the position that emerged  was that what  was transferred  by the assessee was the cement  unit as a going  concern  for a lump sum price, and so, the sale in question  was a slump  sale, and so, S. 50 was not attracted,  (para 34)…..  “

Observations:

4.1 With utmost respect for the Bench of the Tribunal delivering the decision in the case of Asea Brown Boveri’s case, it is to be noted that the Tribunal erred in not appreciating the correct ratio of the Bombay High Court’s decision in the case of Premier Automobiles Ltd. The Court in that case while deciding the appeal in favour of the assessee had nowhere directly or indirectly stated that the provisions of S. SOB were retrospective in its operation. The Coud was only asked to decide whether the transfer in the said case was a slump sale or an itemised sale. This is clear from p. 235 of the said report as under : “In this appeal, we were only required to consider whether the transaction was a slump sale and having come to the conclusion that there was a sale of business as a whole, we have to remand the matter back to the AO to compute the quantum of capital gains. For that purpose, the AO will have to decide the cost of the undertaking for the purposes of the computing capital gains that may arise on transfer. That, the AO will also be required to decide its value u/ s.55 of the IT Act. Further, the AO will be required to decide on what basis indexation should be allowed in computing the capital gains and the quantum thereof. Lastly, the AO,will be required to decide the quantum of depreciation on the block of assets. It may be mentioned that these parameters which we have mentioned are not exhaustive. They are some of the parameters under the Act.” In fact, the Court only directed the authorities to compute gains if that was possible and nothing beyond that. The Court in that case was not concerned with the issue as to whether there at all arose any taxable capital gains on slump sale.

4.2 The Tribunal itself noted with approval that in Premier Automobiles case (supra) the Court had left the issue of working out the cost of acquisition to the AO with the observations, which even the Tribunal found to be quite significant. It further ob-served that “the Hon’ble jurisdictional High Court in the aforesaid case has not excluded the applicability of the parameters prescribed in S. 50B(2) and for computing the cost of acquisition/improvements in cases of slump sale”. This observation makes it clear that the Bombay High Court nowhere confirmed the applicability of the said provisions.

4.3 Thus, contrary to what has been stated by the Tribunal, we do not find that the said decision of the Tribunal was in conformity with the decision of the Bombay High Court in Premier Automobiles case in-asmuch as the issue adjudicated by the Tribunal was never before the High Court in the said case.

4.4 The Supreme Court in Sandu Bros. (supra) was asked to examine whether the provisions of S. 55 providing for adoption of Nil cost in case of tenancy was retrospective and was applicable to assessment years prior to AY. 1995-96. The Supreme Court after analysing the facts and the law held that the said provisions had only prospective application. The issue before the Tribunal in Asea Borwn Boveri’s case was largely similar and the assessee was right in relying on the said decision to support its case that provisions of S. SOBwere not to apply retroactively.

4.5 The Tribunal itself noted that the provisions of S. SO Band Ss.(l) in particular had the effect of removing existing anomaly about the taxation of gains on slump sale. This finding of the Tribunal confirmed that the new provision created a specific charge on such gains for the first time by providing the elaborate mechanism for making the said charge effective. The definitions of the terms ‘slump sale’, ‘undertaking’ and ‘net worth’ give a fresh meaning to the understanding of the said terms and therefore make it all the more difficult to support the Tribunal’s view that the newly inserted provisions are retroactive. Even the Legislature has nowhere expressed that the provisions were clarificatory, leave alone retroactive. Neither the provisions, nor the notes on clauses and the memorandum explaining the provisions as also the Circular following the insertion make such a claim.

4.6 The issue was examined by the Hyderabad Bench in the case of Coromandel Fertilizers Ltd. (supra), which clearly held that the provisions of S. 50Bwere not retrospective or retroactive. This decision was followed by the Mumbai Bench in the Sankheya Chemicals’ case (supra), which sadly was not taken note of.

4.7 The better view is that S. SOB should be applied prospectively and not retrospectively. The issue however calls for adjudication by the Special Bench of the Tribunal in view of the cleavage of the opinions amongst the Benches.

Exemption for services provided by certain associations of dying units — Notification No. 42/2011- Service Tax, dated 25-7-2011.

The above Notification has exempted the club and association services provided in relation to ‘project’ by an ‘association of dyeing units’. The term ‘project’ is explained as common facility set up for treatment and recycling of effluents and solid waste discharged by dyeing units, with financial assistance from the Central or State Government.

Clarification on Completion of Service under Point of Taxation Rules — Circular No. 144/13/2011-ST, dated 18-7-2011.

The Service Tax Rules and Point of Taxation Rules require the assessee to issue an invoice within 14 days of Completion of Service (COS), but the term COS is not clearly defined anywhere, hence CBEC has come up with clarification vide this Circular.

Accordingly, COS would not just mean physical completion of work, but would also include completion of some other auxiliary activities and basic formalities like quality testing, etc. which are pre-requisites to arrive at the invoiceable figure.

E returns in Profession Tax — Notification VAT/AMD.1010/IB/PT/Adm-6, dated 14-7-2011.

With effect from 1st August, 2011, every dealer holding Professional Tax Registration Certificate shall pay the tax in Challan MTR6 and file the electronic return in Form IIIB in respect of period from 1st April, 2006.

3 more banks can collect VAT — Notification No. VAT.1511/C.R.94/Taxation 1, dated 22-7-2011.

By this Notification, three more banks, namely, Oriental Bank of Commerce, Vijaya Bank and Andhra Bank have been added to collect MVAT & CST w.e.f. 22-7-2011.

Due date for payment of Profession Tax extended — Notification No. PFT/2011/Adm – 29/NTF, dated 13-7-2011.

For the year 2011-12, due date for payment of Profession Tax has been extended from 30th June, 2011 to 31st August, 2011 for the tax payable by an enrolled person who has already enrolled on or before 31st May, 2011.

PTEC & PTRC not applicable to Mathadi Mandal, Mathadi Kamdar — Trade Circular 12T of 2011, dated 3-8-2011.

By this Circular it is clarified that Profession Tax is not applicable to Mathadi Mandal, Mathadi Kamdar and Hamal.

Import of services whether liability of recipient prior to 18-4-2006 existed? Charging section i.e., section 66A of the Finance Act, 1994 introduced w.e.f. 18-4-2006, demand prior to 18-4-2006, relying on Rule 2(1)(d)(iv) of the Service Tax Rules, wholly impermissible.

(2011) 23 STR 15 (Guj.) — Commr., Service Tax v. Quintiles Data Processing Centre (I) P. Ltd.

Import of services whether liability of recipient prior to 18-4-2006 existed? Charging section i.e., section 66A of the Finance Act, 1994 introduced w.e.f. 18-4-2006, demand prior to 18-4-2006, relying on Rule 2(1)(d)(iv) of the Service Tax Rules, wholly impermissible.

Facts:

The assessee received management consultant’s service from the service provider stationed outside India. The Department relied on Rule 2(1)(d)(iv) of the Service Tax Rules, 1994 to recover service tax from the assessee on the premise that the service was provided by a person from a country other than India but the service was received by the assessee in India. The Tribunal relying on the decisions in the case of Indian National Shipowners Association v. Union of India, 2009 (13) STR 235 held that the assessee was not liable to pay any service tax for the period prior to 18-4-2006, the date with effect from which section 66A was introduced in the Finance Act, 1994. The Revenue contended that the facts in the aforementioned case were different and that in the present case the management consultant service was received in India. The respondent contended that in absence of any charging section prior to 18-4-2006, reliance could not be placed on Rule 2(1)(d)(iv) of the Service Tax Rules, 1994 to levy service tax from the recipient.

Held:

Following the judgments in the case of Laghu Udyog Bharti v. Union of India, 2006 (2) STR 276 SC and Indian National Shipowners Association v. Union of India, 2009 (13) STR 235, the Court held that any demand of service tax in absence of the charging section prior to 18-4-2006 by merely rely-ing on Rule 2(1)(d)(iv) was wholly impermissible.

Section 32(1) — Depreciation is allowable on pre-operative expenses which are revenue in nature, allocated to fixed assets since the expenses were incurred on setting up fixed assets and in pre-operative period the assessee was only engaged in putting up fixed assets on rented land.

(2011) TIOL 434 ITAT-Del.Cosmic Kitchen Pvt. Ltd. v. ACIT ITA No. 5549/Del./2010 A.Y.: 2006-2007. Dated: 13-5-2011

Facts:

In
pre-operative period, the assessee had incurred expenditure of
Rs.16,93,153, which was debited under 8 heads, all of which were revenue
in nature. The assessee was not able to link any expenditure with a
particular item of fixed asset. However, since during the pre-operative
period the assessee was engaged only in putting up fixed assets on
rented land, it had capitalised this sum of Rs.16,93,153 to various
items of fixed assets in the ratio of cost of the asset to total cost.
The Assessing Officer (AO) disallowed Rs.2,70,744 being the amount of
depreciation on this sum of Rs.16,93,153 on the ground that the
expenditure incurred is revenue in nature and there is no link between
item of asset and the expenditure incurred. Aggrieved the assessee
preferred an appeal to the Tribunal.

Held:

In
view of the ratio of the decision of the Delhi High Court in CIT v. Food
Specialities Ltd., 136 ITR 203 (Del.) and also the ratio of the
decision of the Madras High Court in CIT v. Lucas-TVS Ltd., 110 ITR 346
(Mad.), the expenditure was required to be capitalised. Also the
proportionate method of allocating the expenditure to various items of
fixed assets is fair and reasonable. Accordingly, the assessee is
entitled to claim depreciation on the sum of Rs.16,93,153 being
pre-operative expenses capitalised to various items of fixed assets. The
Tribunal decided the appeal in favour of the assessee.

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GAPS in GAAP – Amalgamation after the Balance Sheet Date

Accounting Standards

Paragraph 27 of AS-14
‘Accounting for Amalgamations’ states as follows :

When an amalgamation is effected
after the balance sheet date but before the issuance of the financial statements
of either party to the amalgamation, disclosure is made in accordance with AS-4,
‘Contingencies and Events Occurring After the Balance Sheet Date’, but the
amalgamation is not incorporated in the financial statements. In certain
circumstances, the amalgamation may also provide additional information
affecting the financial statements themselves, for instance, by allowing the
going concern assumption to be maintained.

It has been noticed that there
is a mixed accounting practice with regards to High Court orders for
amalgamation received after the balance sheet date but before the issuance of
the financial statements. Many companies incorporate them in the financial
statements, a few have not. The mixed practice has arisen because the term
effected after the balance sheet date can be interpreted in more than
one way. This can be explained with the help of a simple example.

Query :

Big Ltd. has a year end 31
December 2007. It had earlier filed an application with the High Court for
merging Small Ltd. with itself with an appointed date of 1 January 2006. The
High Court passed the merger order on 4 January 2008, and the same was
filed on the same day with the ROC at which point in time it became
effective.
Accounts for the year ended 31 December 2007 were signed on 15
January 2008. Should Big Ltd. consider the merger in its financial statements
for the year ended 31 December 2007 ?

Response :

View 1 :

No. The effective date of
amalgamation is the date when the amalgamation order is filed with ROC, which in
this case is, 4 January 2008. Therefore, the amalgamation has become effective
after the balance sheet date. Hence, in the 31 December, 2007 financial
statements, appropriate disclosures are made but the amalgamation is not
incorporated in the financial statements.

View 2 :


Yes.
The reference to effective date in AS-14 could be interpreted to mean the
appointed date. In this case the High Court has passed an order for merger with
an effective date of 1 January 2006.

From a plain reading of AS-14 it
appears that View 1 is a more appropriate answer. AS-14, paragraph 27 when
applied in this case, seems to suggest that the merger event is an event after
the balance sheet date and hence should be recorded after the balance sheet
date. The actual merger takes place only when the order is passed by the High
Court and filed with the ROC. Those significant events (High Court order
and filing with the ROC) had not happened before or at the balance sheet date.

However practice seems to
suggest that View 2 is more prevalent. This is probably for the reason that the
effective date is interpreted to be the appointed date. Moreover, as the event
(High Court order and filing with ROC) has already happened prior to issuance of
financial statements, it would not be prudent not to incorporate them in the
financial statements
merely because the order was passed and filed with ROC
after the balance sheet date. The disadvantage with View 2 is companies may
arbitrarily choose to time the issuance of the financial statements to either
account or ignore the amalgamation transaction in the financial statements.

The author believes that whilst the technically
right answer is View 1, at the present moment and in the absence of any contrary
opinion from the ICAI, both views may be sustainable.

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Gaps in GAAP – Guidance Note on Accounting for Employee Share-based Payments

Accounting Standards

The Guidance Note allows either the fair value method or the
intrinsic method to account for employee share-based payments. The manner in
which the Guidance Note is drafted is based on the fair valuation principle
(more or less on the basis of IFRS). The intrinsic method is inadequately
covered by a sweeping paragraph (see below), without thought to the unintended
consequences that it may cause.

“Accounting for employee share-based payment plans dealt with
heretobefore is based on the fair value method. There is another method known as
the ‘Intrinsic Value Method’ for valuation of employee share-based payment
plans. Intrinsic value, in the case of a listed company, is the amount by which
the quoted market price of the underlying share exceeds the exercise price of an
option. For example, an option with an exercise price of Rs.100 on an equity
share whose current quoted market price is Rs.125, has an intrinsic value of
Rs.25 per share on the date of its valuation. If the quoted market price is not
available on the grant date, then the share price nearest to that date is taken.
In the case of a non-listed company, since the shares are not quoted on a stock
exchange, value of its shares is determined on the basis of a valuation report
from an independent valuer. For accounting for employee share-based payment
plans, the intrinsic value may be used, mutatis mutandis, in place of the
fair value.” (paragraph 40 of the Guidance Note)

When the above oversimplified paragraph is applied in the
context of some aspects of ESOP, it could result in certain unexpected results.
Let’s explain this with the help of a small example where a share settlement is
changed to cash settlement on vesting.

Now, let’s say one ESOP is granted that will vest at the end
of 3 years at an exercise price of Rs.90. At the date of grant the fair value of
the share is also Rs.90. The value of the option is estimated to be Rs.30. In
this example, if the fair value model is applied, Rs.10 will be charged in each
of the next three years. If the intrinsic model is applied, there will be no
charge.

So far so good, but now things will get a little complicated
as we move from a share-settled ESOP scheme to a cash-settled ESOP scheme. As
per the Guidance Note, “if an enterprise settles in cash, vested shares or stock
options, the payment made to the employee should be accounted for as a deduction
from the relevant equity account (e.g., Stock Options Outstanding
Account) except to the extent that the payment exceeds the fair value of the
shares or stock options, measured at the settlement date. Any such excess
should be recognised as an expense.” (paragraph 28 of the Guidance Note)

Assume in the above example, the share price is Rs.150 at
vesting date (end of the third year). The Company collects exercise price Rs.90
from the employee and pays Rs.150 (cash settlement). As already discussed above,
for accounting of employee share-based payment plans, the intrinsic value may be
used, mutatis mutandis, in place of the fair value. The requirement of
the Guidance Note will be changed as follows (if intrinsic rather than fair
value method is used) : “if an enterprise settles in cash, vested shares or
stock options, the payment made to the employee should be accounted for as a
deduction from the relevant equity account (e.g., Stock Options
Outstanding Account) except to the extent that the payment exceeds the intrinsic
value of the shares or stock options, measured at the settlement date.
Any such excess should be recognised as an expense.”

The payment of Rs.150 does not exceed the intrinsic value of
the shares at the settlement date, i.e. Rs.150. Hence the strange
conclusion is that there is no excess which needs to be recognised as an
expense.

This is strange because had the ESOP been a cash-settled
employee share-based payment plan from inception, the Company would have
charged Rs.60 as per the Guidance Note over 3 years of the scheme (see Appendix
IV of the Guidance Note). However, it appears that if a company has a
share-based plan to start with, but is then eventually settled in cash, no
charge is required in the profit and loss account.

The above dichotomy has arisen primarily because of an
unintended interplay between paragraph 28 and paragraph 40 of the Guidance Note,
which was predominantly written to provide guidance on fair value accounting of
ESOP, with the intrinsic method being inadequately addressed by a sweeping
paragraph (paragraph 40), which has caused a GAP in GAAP.


This issue needs to be immediately addressed by the Institute of Chartered
Accountants of India.

 

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GAPs in GAAP – Accounting for carbon credits

Accounting Standards

A number of Indian companies generate carbon credit under the
Clean Development Mechanisms (CDM). The amount involved is material enough to
the overall viability of a project.

Under IFRS, the International Accounting Standards Board (IASB)
had issued an interpretation IFRIC 3 Emission Rights, which was withdrawn
in June 2005. Thus, the IASB is still debating on an appropriate treatment for
CERs (Carbon Emission Reduction). Under IFRS most entities generating CERs
treat
the same as government grant covered under IAS 20 Accounting
for Government Grants and Disclosure of Government Assistance
. This is
because an international agency grants the same. Accordingly, based on IAS 20
requirements, a generating entity recognises CERs as asset once there is a
reasonable assurance that it will comply with conditions attached and CERs will
be received.

IAS 20 gives an option to measure such grant either at
fair value or nominal value. Most entities will measure the CERs at fair
value
to ensure appropriate matching with the costs incurred. They will
recognise the same in the income statement in the same period as the related
cost which the grant is intended to compensate.
The corresponding debit will
be to intangible assets in accordance with IAS 38 Intangible Assets.


No guidance is currently available under Indian GAAP;
consequently various practices exist (a) income from sale of CERs is recognised
upon execution of a firm sale contract for the eligible credits, since prior to
that there is no certainty of the amount to be realised (b) income from CERs is
recognised at estimated realisable value on their confirmation by the concerned
authorities (c) income from CER is recognised on an entitlement basis based on
reasonable certainty after making adjustments for expected deductions.

The Accounting Standards Board (ASB) of the Institute of
Chartered Accountants of India (ICAI) has issued an Exposure Draft (ED) of the
Guidance Note on Accounting for Self-generated Certified Emission Reductions.
The ED proposes to lay down the manner of applying accounting principles to CERs
generated by an entity.

As per the ED the generating entity should recognise CERs as
asset only after receipt of communication for credit from UNFCCC and provided it
is probable that future benefits associated with CERs will flow to the entity
and costs to generate CERs can be measured reliably. Further, such assets meet
the definition of the term ‘inventory’ given under AS-2 Valuation of
Inventories
and hence are valued at lower of cost and net realisable value.
Only the costs incurred for the certification of CERs bring the CERs into
existence and, therefore, only those costs should be included in the cost of
inventory. All other costs are either not directly relevant in bringing the
inventory to its present location and condition or they are incurred before CERs
come into existence as per the prescribed criteria. Thus, those costs cannot be
inventorised.

The ED will result in significant cost and revenue
mismatch
in the financial statements. This is because entities would need to
expense most of their costs as soon as incurred (with an insignificant amount
being capitalised as inventory), but will recognise revenue arising from CERs
only when these are actually sold. Clearly the accounting recommended by the
ICAI is very different from existing practices under Indian GAAP, and hence
every company that has significant revenue from carbon credits will have to
consider the impact of the ED very carefully.

The treatment prescribed in the ED appears to be inconsistent
with the existing Indian GAAP literature in more than one regard. The ED
requirement to recognise CERs as asset only when these are credited by UNFCCC in
a manner to be unconditionally available is contrary to the principles currently
followed for recognition of an asset. In most cases, recognition of an asset is
based on criteria of probability/reasonable assurance as against absolute
certainty prescribed in ED. For example, both under AS-9 Revenue Recognition
and AS-12 Accounting for Government Grants, recognition of income is
based on the criteria of reasonable assurance.

The ED is also inconsistent with an Expert Advisory
Committee’s (EAC) opinion on export incentives. As per the EAC opinion DEPB
credit should be recognised in the year in which the export was made, without
waiting for its actual credit in the subsequent year, provided there are no
insignificant uncertainties of ultimate collection. The EAC opinion is based on
the application of the existing accounting principles, including definition of
the term ‘asset’ given in the Framework, which is based on the
probability theory.

In the authors view, the ED should not have been issued since
it clearly conflicts with the existing requirement and practices under both
Indian GAAP and IFRS and is contrary to the definition of an asset in the
Framework.
As India is adopting IFRS and the guidance in these areas is
being developed under IFRS, issuing India-specific guidance is duplicating the
effort and creating more differences in how the 2 GAAPs are applied, which will
have to be then taken care of in 2011, which is the transition date for adopting
IFRS.

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Foreign Exchange Reserves — What Do They Represent ?

Foreign Exchange Reserves

The thoughts expressed in this article emerged when the
global financial crisis was at its peak in the beginning of 2009. The focus is
on Foreign Currency Reserves. It all began with questions such as :





  •   What will happen if China withdraws its reserves from the USA ?



  •   Can China not invest its huge foreign exchange reserves in its own
    economy ?



The above questions are applicable globally. But China and
the USA, being the largest creditor and debtor in the world ideally represent
the global scenario. The article explores the concept of foreign currency
reserves and the related concerns.

Fundamentals :

What do foreign currency reserves of a country mean ?




  •   Does it mean ‘cash balance’ in other country’s currency ?



  •   Does it imply that the more the reserves, the richer is the country ?




Nature of foreign currency :

To cite an example, say China has exported goods and services
worth US $ 1,000 to the USA. Assume that these are net exports (export minus
import). This transaction has resulted in a liability for the USA and for China
it is a claim over the USA. Can China utilise this claim for its domestic
economy ? Or for investing in US treasury bills ? Or for any other purpose ?

To understand this, let us understand the nature of export,
import, payment, claim, etc. (Please note that dictionary definitions are not
relevant.)

Generation of claim :


Let us assume that Chinese residents have exported goods and
services to US residents for US $ 1,000. Chinese residents get US $ 1,000. That
is, Chinese residents get a claim over the US government. These Chinese
residents sell the currency or the claim to the Chinese government. The Chinese
government, in turn, pays Renminbis (RMB) to the Chinese residents. I.e.,
China buys the US $ claim from Chinese residents.

The corresponding effect is that the Chinese residents
substitute their claim over the USA, with claim over China. When any person
holds a currency of any government, it is a loan to the government, or a claim
over the government. All currencies are a ‘promises to pay’.

The Chinese residents utilise the RMBs for their expenses of
raw materials, labour, etc. The surplus will be used for investments,
consumption, etc. Effectively, the Chinese exporters pay for raw materials and
expenses to other Chinese residents. This is followed by further payments to
more Chinese residents and so on. Thus, all the RMBs received against US $ 1,000
get distributed amongst the Chinese residents. These residents will put the
money in the bank or mutual fund, which will invest in infrastructure, etc. It
may be noted that the claims being country-specific, it is immaterial whether
Chinese residents or Chinese government holds US $ claims. It is difficult (and
impractical) for individuals to get foreign exchange claims from other
governments. Hence such claims are normally held by governments.

Now, foreign exchange reserve is the Chinese government’s
claim over the USA. Can China invest these reserves in its infrastructure ? It
cannot. It has already been invested/utilised when Chinese residents sold their
US $ to Chinese government and utilised the RMBs for expenditure or investment.

Basically, what China has to do is recover the equivalent of
the claim from the USA. Claim can be expressed in different ways — it is an
intangible made up of confidence that the other country will settle the claim in
future; it is the goodwill; it is a paper entry.

Investment in treasury bills :

It is said that China is investing in US treasury bills. Why
is it doing so ? What else can it do ? When it invests in treasury bills, it is
really substituting non-interest bearing cash for interest bearing treasury
bills. It is assured of interest income till the USA settles its claim. Hence,
when we say China is investing in US treasury bills, it is not really investing
but is only substituting one claim with another; and it does not have a choice.

Can China withdraw its investment in the US treasury bills ?
This is consequential to investment. When it cannot really ‘invest’, it cannot
really withdraw. However, when it wants to withdraw its investment in the US
treasury bills, what can it do ? It can sell the treasury bills and regain US $,
and the cash claim still remains. Therefore, foreign currency reserves or
treasury bills are ‘claims’.

Withdrawal of reserves :

Can China withdraw the US $ reserves ? Prima facie it
cannot. As we have seen, US $ is only a claim. Withdrawal of reserves can happen
only if the currency is backed by something valuable like gold. Therefore, if
the USA has commodity equal to US $ 1,000, it can give that commodity against US
$ 1,000. As currencies are backed by promises or goodwill, investing in or
withdrawing from treasury bills really does not mean much. It can sell the claim
by way of these securities to another person, provided there is a buyer. This is
discussed in later paragraphs.

Sovereign Wealth Fund :

What is a Sovereign Wealth Fund (SWF) ? The foreign exchange
reserves of a country are invested abroad through special purpose vehicles known
as SWF. So if the Chinese government’s claim is converted into an SPV, it will
be called an SWF. SWFs invest in other country’s capital. In the example of
China, the SWF will either buy capital in the USA or sell US $ to buy capital in
other countries. SWFs are supposed to give better yields than treasury bills. In
an SWF one asset is converted into another asset — cash into treasury bills
which in turn is converted into investment through SWF.

If India were to set up a SWF and invest in other countries,
it will be borrowing and then investing elsewhere. By borrowing, one gets
foreign exchange, but that is not a true reserve. One cannot establish an SWF
out of borrowed capital. SWFs are usually set up by countries that have current
account surplus. Therefore it was a right decision by India not to establish an
SWF.

How does China settle its ‘claim’ over USA?

There are following ways:

    i) The USA exports to China goods/commodities worth US $ 1,000 (net). China may either buy goods and consume it; or may buy gold and hold it. However, if the USA does not have the goods or commodities that China requires, the account cannot be settled.

    ii) The USA sells China its capital — say China buys property and business in the USA. This way, China owns a little bit of the USA.

    iii) China sells its claim over the USA to someone else i.e., it sells US $ and buys other currency in the market. However, this means that it is buying another country’s claim in exchange of its claim over the USA. The other country is buying a claim over the USA. This does not absolve USA of its liability.

    iv) It buys capital in other countries and pays for it in US $ i.e., China uses its export surplus to buy capital in other countries and sell its US claim [combination of steps (ii) and (iii)].

    v) China writes off the claim.

The first two are the only ways to per se settle the account. The third and the fourth options do not really settle the account. The liability of debtor remains. The last option is not a desirable way of settling the account.

In actual practice all or some of the above happens continuously. The balances/claims keep changing. There is never a perfect settlement of claims. All countries simultaneously can never have an export surplus. Someone has to be a net importer at some time or the other.

When a person buys more than what he can sell and cannot pay, he has to sell his capital. If he doesn’t have capital, the amount is written off by the creditor. This rarely happens in case of countries over a long period of time. As time horizon is vastly different for individuals and countries, one may not be able to see things immediately and obviously.

If China wants to withdraw its reserves, it can only sell its claim to others — provided there are others who are prepared to buy. If there is no one prepared to buy, the supply being more than the demand, the value of US $ will depreciate. The situation is similar to any shareholder owning a major stake of a company’s stocks. If such shareholder sells, the value of shares goes down. In such a case value of his unsold share also comes down and he suffers.

Considering the above, the only way to settle the claim in the long term is — the net importing country becomes a net exporter or it sells capital. Those countries which have raw material or goods to sell may be able to do it. Arab countries have oil and hence are able to sell oil and have surpluses.

What happens to those countries that do not have raw materials or manufacturing sector necessary for generating export surplus? They can:

  •     Export services (It includes licensing of tech-nology, rendering services as employee or consultant, etc.)


  •     Sell tourism services


  •     Provide undesirable services like tax evasion facilities through tax havens, gambling, etc.


India imports goods for which it does not have exportable surplus. Therefore, it sells services — software services, etc. The services should be valuable enough to generate export surplus. In absence of a current account surplus, a country can sell capital. However, selling capital has its own issues.

What happens if a country cannot settle the claims?
If settlement runs over a long period of time and claims become large, then the creditor will demand either sale of capital or sale of goods with a hefty discount. (If a country is indebted, generally its goods and capital command a lower price.) Therefore, to generate export surplus, such country has to sell cheap — it has to devalue its currency.

A cheap currency should normally help a country to sell its goods and thus settle the claim. If it cannot generate export surplus, it has to sell capital. Does selling capital (accepting foreign investment) create a liability? In case of FDI, one can say that the country has sold capital and therefore the reserve is a true reserve. However, even FDI is a loan in one way, but it is better than ECB. In case of FDI, there are other issues like foreigners owning and influencing the country’s policy. This is particularly true when large corporate invests in a comparatively smaller country.

If the capital of a country is attractive, one can sell the same and treat the proceeds as reserve. Therefore many countries have liberal FDI policy. What makes a country’s capital attractive?? For example, capital in the USA may be more valuable than, say, in India or China. A number of factors contribute to this — security, clear ownership laws, perception, etc.

Despite China having a current account surplus, why is it that US $ is overvalued and Chinese RMB is undervalued?? There could be several reasons. One of them is perception and the other is time lag. As mentioned above, time horizons of individuals and countries are different. In case of countries it takes many decades before a perception is corrected or reversed. Just a current account surplus is not sufficient. If a country can generate a foreign exchange surplus by sale of capital, it contributes to appreciation of currency. The USA has been able to do that.

However, in spite of selling capital, if the claim cannot be settled, what happens? In such a case, the situation is similar to a bankrupt person. Both the creditor and debtor lose. The creditor loses the claim and the debtor loses his credit and is declared insolvent.

Confidence:

It all leads to the conclusion that ultimately what is the confidence of people in claims of others? Confidence is built up of due several things including perceptions. Perceptions keep changing. The USA enjoys the most confidence as it has several institutions and processes which other countries do not have. These include freedom, ownership of asset, dispute resolution mechanism, security, power of fighting difficulties, etc. Also living conditions are better in the USA.

However, this confidence of the USA is under threat. Unless it regains the confidence, it will not be able to maintain the value of its currency. All those countries who hold US $ as their reserves, will suffer losses. The only way in which the USA can settle its claim is that by cutting its expenditure and generating export surplus.

India’s foreign exchange reserves:

India has a current account deficit — its import of goods and services is more than its export revenues. Still India has a reserve of US $ 250 bn. What does this reserve represent? It represents sale of capital and borrowings. It must be remembered that foreign exchange reserves is only a bank balance (a claim). Only export surplus or current account surplus is a true reserve. Foreigners have invested in land, industry, etc. To that extent they are owners of India. When foreigners give loans (ECBs), they have a claim over the Indian government/ residents. The foreign currency that comes in through sale of capital (FDI) or by accepting foreign loans (ECBs) goes in to foreign currency reserve. But simultaneously, there is a liability for the country to refund the loan when due and pay the foreigner when there is divestment of FDI. In a way, therefore, FDI is also a liability for India as a whole. In practice, when countries sell capital it is not treated as a liability. But in the International Investment Position Reports, these are shown as liabilities.

Conclusion:

Foreign exchange reserves represent only claims. It does not represent wealth, unless one is confident of encashing it before its value is eroded. Only time will tell whether Chinese reserves are really valuable or not. The best situation is when the claims of countries remain within reasonable limits as it preserves the confidence. Both, large current account surpluses or deficits are not desirable for any country.

TDS is highly tedious

Article

Terminology used in this Article :


TDS is Tax Deducted at Source. This is a
misnomer. This is not a tax at all.

TDS is only a Tentative Deposit of Sum
which is later refunded or appropriated towards tax assessed and levied on
another. Till such time this is not tax and this is not Government’s money.

AT is Advance Tax. An assessee knows and estimates what he is
earning in the current year, for which he pays estimated tax. This is a tax
payment but TDS is not a tax payment, but only a Tentative Deposit
of Sum.

HIC is abbreviation for Honest Innocent Citizen.

Payee is the assessee on whose behalf a Tentative Deposit of
Sum is made with a bank.

The basic assessment procedure under the IT law is — an
assessee has to file the Return of Income, the computation of which is made by
deducting the expenditure from the income and the net income is to be taxed. A
net loss may also arise. It is the duty of the Department to make the
assessment, levy tax and collect the same.

The Department also envisages collection by way of Advance
Tax on the estimated income the assessee is earning in the current year.

The Income-tax Department is maintained to do the exercise of
assessment, levy of tax and collect. This governmental agency is expected to be
efficient in the matter of levy and collection of such taxes. Inefficiency and
lethargy should not be there and the governmental agency cannot shirk its
responsibility and shift such responsibility on the HIC.

Further, S. 269 mandatorily has made payments above Rs.20000
to be made only by cheques. Even though this is much against the law of ‘legal
tender’, when payments are made by cheques, the recipient automatically
discloses it in his accounts, which is to come to the notice of the I.T.
Department. It is difficult to suppress the same. If in spite it is suppressed,
the I.T. Department is to unearth the same.

‘Bonded Labour’ under the Bonded Labour System (Abolition)
Act, 1976 means ‘forced or partly forced labour under which a debtor enters into
an agreement with the creditor’. HIC is declared an ‘assessee in default’ and
thereby presumed legally a ‘debtor’ and the Government a ‘creditor’. Such a law
is against the Constitution and would be ‘bonded labour’ under the Bonded Labour
Abolition Act, 1976.

The following questions and answers would give a proper
appraisal of the issue :

(1) Can a HIC be mandatorily forced to undertake the work/labour
of collecting and remitting TDS into the bank much against his will and consent,
and that too without any consideration or remuneration ?

Whether such enforcing of work/labour is bonded labour which
would infringe the personal freedom and liberty of a HIC guaranteed under the
Constitution ?




Ans. : HIC are mandatorily forced and made responsible to
collect TDS and deposit in a bank, failing which such HIC is deemed an ‘assessee
in default’.

An HIC is to make payment for services and utilities availed
by him, which is his expenditure and liability. Unless such liability is timely
cleared, his business and business relationship suffers.

The provisions relating to TDS in the Income-tax Act run to
35 pages and the IT Rules to some pages. These are cumbersome and an HIC cannot
understand and follow them. Qualified auditors do not undertake this table work
as this is considered a clerical work. Clerks may be appointed, but they are not
trained and well versed. Moreover, it is not a work for a full-time clerk. If
part-time freelance clerks are employed, the business secrets cannot be kept.

Forcing a person and making him responsible to do a
particular work, namely, collecting and remitting TDS is practically an
‘enforced bonded labour, which infringes on one’s personal freedom and liberty
assured in the Constitution of India. No person could be compelled by any law to
undertake a particular work against his will and consent. This is against the
Constitution.

(2) What are the cumbersome procedures and services to be
complied with by such HIC ?



Ans. :

(a) Refer Income-tax Reckoner and determine how much tax has
to be deducted from each kind of payment made by HIC. Different services with
different tariffs need a competent assistant who can rightly understand them.
Several services fall under two categories and any decision becomes debatable.

(b) Two cheques are to be written, one for the payment less
TDS and the other for the TDS amount. If the magnitude of the business is more,
the volume of cheque writing multiplies.

(c) The TDS cheques have to be rightly entered in the TDS
challan. Writing of challans is now laborious and meticulous care is necessary,
as the computer Forms are cumbersome.

d) When the deduction  is made as per law, many recipients do not furnish their PA No. Either they have not obtained it or they have misplaced it. The HIC deductor has no power or authority to insist on their giving the PA No. Even if he discharges the responsibility of collecting and depositing in bank, the HIC is punished for the lack of PA No. of the recipient. This is not the mistake of the HIC, but punishment is provided u/s.206. This is ridiculous. The Government is keen to get the TDS money. The HIC collects and deposits it and discharges his function. The Government must be satisfied with such money deposited. The HIC should not be punished if the recipient does not furnish his PA No. when the address is given.

e) The TDS cheque written has to be sent to the bank with the challan filled and an assistant is to go to the bank.

f) When the cheque is received by the bank, acknowledgement is never given immediately, but deferred till the cheque gets encashed. An assistant has to go to the bank several times to collect the challan acknowledged. If the collection of the challan is forgotten, no proof will be available. Monitoring this is a cumbersome responsibility. When the challan acknowledgement is given by the bank, they scribble in the challan No., and it is not decipherable many a time. The assistant going to the bank is helpless.

g) The challan has to be collected and it is to be rightly placed in the file and safeguarded. ThIS requires a filing assistant. If this challan is missed, nuisance entails.

h) Within one month individual certificates have to be prepared and the number of forms for such purpose are so many and the right form and updated form has to be used. Such forms have to be purchased from the printers as and when required. An assistant has to go to buy this form and many a time the form is not readily available. Filling up this form is not easy by an assistant unless he knows his job.

i) In such certificates the Director or a responsible person has to sign even though he cannot be made to check the particulars contained in the form. This is to be counter-checked by another assistant. When the signatory of the certificate is authorised is another issue.

j) Once in three months the Quarterly Return manually with all the deduction details referring to each and every transaction is to be prepared, which is an elaborate and meticulous work.

k) The Quarterly Return details have to be fed in computer, which requires a software and a data programmer and the accuracy has to be checked. For any typographical mistake of the data programmer, the HIC is punished.

1) The acknowledgement for having filed the Quarterly Return has to be preserved. The Department on many occasions sends notices for not having received the same. Jurisdictional changes and jurisdictional clashes arise and notices are received, which have to be replied.

For so much of honorary work done by HIC incurring enormous expenses, he is always cornered as ‘Assessee in default’ – an irony of fate.

The fact remains, the Sections, the nature of transactions, the procedures, the multifarious forms, are so cumbersome, even the Income-tax Officials find it difficult to understand.

Irrespective of the onerous difficulties  unduly cast on the HIC, the writer suggests a simple remedy. TDS stamps can be sold in post offices. When payments are made by cash/ cheques, TDS stamps will also be issued along with, duly endorsed. Such stamps will be pasted in the Returns. Even this the Department will misplace. The assessee should always send a xerox and obtain acknowledgment from the Department. Cumbersome procedures can be avoided. If TDS stamps are not issued in time, interest is to be charged automatically by the Department at the time of assessment.

3) When such services are honorarily rendered, whether the HIe can be punished/penalised for any lapses?

Ans. : Rendering service in the interest of the country is to be appreciated and honoured. The TDS provisions and especially the recently introduced Section 40(1)(ia) are draconian and against all can-nons of law, justice, equity and fair play. Legally such laws cannot be sustained.

If the IT Department is not efficient to collect rightful taxes from an assessee, it cannot make an HIC ‘assessee in default’ in the place of the defaulting tax-payer who only has to be punished. Thereby, this provision amounts to letting off defaulters, Department and the assessees and punishing an HIe. There is no justice and equity in penalising HIe.

4) Whether such punishment or penalising be more than the punishment prescribed under law for the real defaulter or evader of taxes?

Ans. : Cases have now arisen that the punishment on the HIC is much more than the punishment prescribed for the real defaulter. The defaulter commits the crime, but the punishment prescribed for the defaulter is much less than the punishment prescribed for the HIC for failure to deduct Tentative Deposit and remit to the bank.

If an HIC makes a payment, and if he does not deduct tax at source, such payment is considered as income in the hands of the HIe. When the payment is made, the payee deducts his expenditure and pays income tax only on his net income. If the payee evades taxes, the punishment on this is very much less than the punishment given to the HIC when the total payment is considered as income in the hands of the HIC for no fault of him, which gets assessed at about 33%.
 
Several instances have come to light when agents, under law of agency, collect money and remit to their principal. Over-zealous officers consider that on such collection and payment by agents, tax should be deducted, failing which the entire payment made to their Principal is treated as income in the hands of such agent. All these penalties and punishments are not equitable as HICs are forced with such work and responsibility due to the indolence and inefficiency of Governmental agency in preventing tax evasion. Such an attitude by the over-zealous officers is driving HIC to the roads.

5) When taxes have been paid on the income by the payee, whether punishment for non-deduction of tax be imposed on the HIC ?

Ans. : When an honest payee has paid his taxes on all his income less his expenditure and given valid proof for the same, the proceedings and actions under law should be dropped. Duplication of payment of taxes arising on the self same transaction is unethical. The deductor should not be punished when the rightful payee has paid his taxes if this is proved by the payer. There is no legal sanction for such duplication in tax levy and collection.

6) Whether the payment made to the payee can be deemed as income of the HIC by any stretch of imagination?

Ans. : Agents render services for their principals, The law of agency applies between them. Some agents are authorised to collect by their principals. They collect in their name, on behalf of their principals. The principals receive the same and disclose in their accounts. The principals incur various expenses which are deducted from the receipts from their agents. Over-zealous officers insist that such agents should deduct tax at source from payments made by them to their principals. While there is no need for such tax deduction, the officers assess the sum total of amounts paid as income in the hands of the agents. While the principal is to pay tax on his net income, the agent is forced to pay tax on the gross income of the principal. This is totally ridiculous. The gross receipt of the principal cannot be deemed to be the income of the agent. The Section 40(1)(ia) has to be reconsidered.

Concluding, the Constitutional validity, equity and justice of the law relating to TDS needs a judicial review.

Registration — Public auction — Sale certificate sent to the Registrar for filing in Book No. 1 would not attract stamp duty — Registration Act, 1908, S. 17 & S. 89.

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30 Registration — Public
auction — Sale certificate sent to the Registrar for filing in Book No. 1 would
not attract stamp duty — Registration Act, 1908, S. 17 & S. 89.


[Shree Vijayalakshmi
Chartiable Trust v. Sub-Registrar,
(2010) 155 Comp. Cas. 549 (Mad.)]

The petitioner was the
successful bidder of the property of the company in liquidation sold in public
auction in accordance with the directions of the winding-up Court. Possession of
the property was given to the petitioner and a certificate of sale was issued by
the official liquidator. The office of the official liquidator sent a copy of
the certificate of sale to the office of the Sub-Registrar of file it in Book
No. 1 as required u/s.89 of the Registration Act, 1908. The Sub-Registrar
directed the petitioner to pay a sum of Rs.10,39,122 towards deficit stamp duty
for entering the certificate in Book No. 1. The aforesaid order was challenged
in a writ petition.

The Madras High Court held
that the documents mentioned in S. 17 of Registration Act, 1908, are to be
registered by the Registrar as per the procedures mentioned in S. 52 to S. 67 of
Part XI of the Registration Act, 1908. On the other hand the procedure for
filing copy of the sale certificate finds place in S. 89 of the Act. Hence both
procedure are different. For registration, stamp duty is a must, whereas for
filing no stamp duty is necessary.

The Court further observed
that the Legislature consciously used the word ‘registrar’ in S. 17, whereas the
word ‘file’ was employed in S. 89 of the Act. Only when the purchaser goes for
registration of sale certificate issued by the Court Officer, Article 18 of
Schedule 1 of the Indian Stamp Act, 1899, would be attracted and stamp duty is
to be paid in accordance with Article 23 treating it as conveyance, i.e., market
value of the property. When the instrument is not submitted for registration and
is being sent to the Registrar only for the purpose of filing in Book No. 1, it
does not attract any stamp duty.

The Court auction sale
certificate sent to the Registrar for filing in Book No. 1 would not attract
stamp duty. In view of S. 17(2) and S. 89 of the 1908 Act, the Sub-Registrar had
no power and jurisdiction to demand stamp duty. Hence the order was liable to be
set aside.

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Passenger — Person holding a valid platform ticket cannot be considered as passenger — Railways Act, 1989 S. 2(9).

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28 Passenger — Person
holding a valid platform ticket cannot be considered as passenger — Railways
Act, 1989 S. 2(9).


[Smt. Puttamani and Ors.
v. UOI,
AIR 2010 Karnataka 109]

A person holding a platform
ticket falls from a moving train and later dies. Whether the Railway
Administration can be fastened with the liability to pay compensation for the
death of such a person on an application filed by the wife and daughters of the
deceased. This was the question that had come up for consideration before the
Railway Claims Tribunal. The application filed by them was dismissed by the
Tribunal.

The Court held that the
definition u/s.2(29) of the Act makes it clear that in order to consider a
person travelling in train as a passenger, he must possess a valid pass or
ticket and a person who merely holds a valid platform ticket is not entitled to
travel in train as a passenger. S. 123(c)(2) makes it clear that if a person
travelling as a passenger in a train accidentally falls from a train carrying
passengers, such an act would come within expression untoward incident. In the
instant case deceased was not carrying any valid ticket or valid pass so as to
treat him as a passenger. Although S. 124A in explanation mentions that for
purpose of S. 124A, a person who had a valid platform ticket is also included
within meaning of ‘Passenger’, the said explanation (ii) also makes it clear
that even while including a person holding a platform ticket within expression
‘Passenger’, care is taken to also mention that the said expression also
includes a person who has purchased valid ticket for travelling a train carrying
passengers.

Expression untoward incident
which has been explained in S. 123(c) makes it clear that if any unfavourable
incident like Commission of Terrorist Act, making of a violent attack or
commission robbery or dacoity or indulging in rioting shoot-out or arson by any
person in or on any train carrying passengers, or in a waiting hall, cloak-room
or reservations or booking officer or on any platform or in any other place
within the precincts of a railway station would come within the said expression
‘untoward incident’ and also of passenger falling from a train carrying
passengers. Therefore, the Court held that if a person holding a platform ticket
becomes victim of untoward incident mentioned in S. 123(c) in such an event for
purpose of paying compensation in a respect of victim of a untoward incident
even a person holding platform ticket can be included within the expression
‘passengers’. Though accident is unfortunate one, having regard to provisions of
the Railways Act, the instant case the deceased who had a platform ticket and
fell from a moving train cannot be brought within hold of expression ‘accidental
falling of any passengers from a train carrying passengers’.

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Registered document has lot of sanctity attached to it — Evidence Act, S. 74.

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29 Registered document has
lot of sanctity attached to it — Evidence Act, S. 74.


[Shanti Budhiya Vesta
Patel & Ors v. Nirmala Jayprakash Tiwari & Ors.,
AIR 2010 SC 2132]

The dispute arose between
the parties in respect of suit property wherein the respondents claimed to be
the owner by adverse possession. There were several appeals and counter claims
filed before the High Court. One of the respondent No. 9 who was holding power
of attorney for the appellant entered into consent term with other respondents.
The High Court disposed of the appeals after taking on record the consent terms.
The appellant thereafter filed civil application praying for recalling the
aforesaid orders alleging that fraud had been played upon the High Court by
filing the consent terms. Stating that consent term was filed without knowledge
and consent of the appellants.

The Supreme Court held that
all the power of attorney were irrevocable and duly registered for valuable
consideration. By executing the power of attorney in favour of respondent No. 9
the appellants had consciously and willingly appointed, nominated constitute and
authorised respondent No. 9 as their lawful power of attorney to do certain
deed, thing and matter. The appellants could not be said to have any right to
assail the consent decree passed by the High Court.

It is settled position of
law that the burden to prove that a compromise arrived at under Order 23, Rule 3
of the Code of Civil Procedure was tainted by coercion or fraud lies upon the
part who alleges the same. However, in the facts and circumstances of the case,
the appellants, on whom the burden lay, have failed to do so. Although, the
application for recall did allege some coercion, it could not be said to be a
case of established coercion. Since the particulars in support of the allegation
of fraud or coercion have not been properly pleaded as required by law, the same
must fail.

Further, all the powers of
attorney executed in favour of respondent No. 9 as also all the deeds and
documents entered into between the predecessor-in-interest of the appellants and
respondent No. 9 were duly registered with the office of the Sub-Registrar.
Neither any document nor any of the powers of attorney was ever got cancelled by
the appellants.

The registered document has
a lot of sanctity attached to it and this sanctity cannot be allowed to be lost
without following the proper procedure.

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Limitation — Pronouncement of order — Maximum period prescribed is 120 days from ‘date of communication of order’ of Tribunal — Electricity Act, 2003, S. 125.

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27 Limitation —
Pronouncement of order — Maximum period prescribed is 120 days from ‘date of
communication of order’ of Tribunal — Electricity Act, 2003, S. 125.


[Chhattisgarh State
Electricity Board v. Central Electricity Regulatory Commission & Ors.,
AIR
2010 SC 2061]

S. 110 of the Electricity
Act provides for establishment of a Tribunal to hear appeals. S. 111(1) and (2)
lays down that any person aggrieved by an order made by an adjudicating officer
or an appropriate commission under this Act may prefer an appeal to the Tribunal
within a period of 45 days from the date on which a copy of the order made by an
adjudicating officer or the appropriate commission is received by him. S. 111(5)
mandates that the Tribunal shall deal with the appeal as expeditiously as
possible and endeavour to dispose of the same finally within 180 days from the
date of receipt thereof. S. 125 lays down that any person aggrieved by any
decision or order of the Tribunal can file an appeal to the Supreme Court within
60 days from the date of communication of the decision or order of the Tribunal.

The question which arose for
consideration was what is the date of communication of the decision or order of
the Tribunal for the purpose of S. 125 of the Electricity Act. The word
‘communication’ has not been defined in the Act and the Rules. Therefore, the
same deserves to be interpreted by applying the rule of contextual
interpretation and keeping in view the language of the relevant provisions. Rule
94(1) of the Rules lays down that the Bench of the Tribunal which hears an
application or petition shall pronounce the order immediately after conclusion
of the hearing. Rule 94(2) deals with a situation where the order is reserved.
In that event, the date for pronouncement of order is required to be notified in
the cause list and the same is treated as a notice of intimation of
pronouncement. Rule 98(1) casts a duty upon the Court Master to immediately
after pronouncement transmit the order along with the case file to the Deputy
Registrar. In terms of Rule 98(2), the Deputy Registrar is required to
scrutinise the file, satisfy himself that provisions of rules have been complied
with and thereafter, send the case file to the Registry for taking steps to
prepare copies of the order and their communication to the parties. If Rule
98(2) is read in isolation, one may get an impression that the registry of the
Tribunal is duty bound to send copies of the order to the parties and the order
will be deemed to have been communicated on the date of receipt thereof, but if
the same is read in conjunction with S. 125 of the Electricity Act, which
enables any aggrieved party to file an appeal within 60 days from the date of
communication of the decision or order of the Tribunal, Rule 94(2) which
postulates notification of the date of pronouncement of the order in the cause
list and Rule 106 under which the Tribunal can allow filing of an appeal or
petition or application through electronic media and provide for rectification
of the defects by e-mail or net, it becomes clear that once the factum of
pronouncement of order by the Tribunal is made known to the parties and they are
given opportunity to obtain a copy thereof through e-mail, etc., the order will
be deemed to have been communicated to the parties and the period of 60 days
specified in the main part of S. 125 will commence from that date.

The issue was also
considered from another angle. As mentioned above, Rule 94(2) requires that when
the order is reserved, the date of pronouncement shall be notified in the cause
list and that shall be a valid notice of pronouncement of the order. The counsel
appearing for the parties are supposed to take cognizance of the cause list in
which the case is shown for pronouncement. If title of the case and name of the
counsel is printed in the cause list, the same will be deemed as a notice
regarding pronouncement of the order. Once the order is pronounced after being
shown in the cause list with the title of the case and name of the counsel, the
same will be deemed to have been communicated to the parties and they can obtain
copy through e-mail or by filing an application for certified copy.

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The Finance (No. 2) Act, 2009

Order — Order passed without jurisdiction is nullity

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  1. Order — Order passed without jurisdiction is nullity


[ Chandrabhai K. Bhoir & Ors. v. Krishna Arjun Bhoir &
Ors.,
AIR 2009 SC 1645]

The question that arose for consideration was in respect of
application filed u/s.302 of the Indian Succession Act 1925.

One Mr. K. B. Mhatre executed a will on or about 1963, the
legatee whereunder are the respondents. On his expiry an application for grant
of probate in respect of the said will was filed by the respondents. The
appellant filed a caveat pursuant to which a suit was registered. In the said
suit a compromise was entered into by and between the parties. Subsequently
the appellant cancelled the said agreement. Thereafter pursuant to certain
orders passed by the Court in Chamber Summons the matter reached the Court by
appeal filed by the appellant. The appellant contended that the contract
between the parties could not be specifically enforced by the High Court while
exercising its testamentary jurisdiction.

The Court observed that the effect of termination of such
agreement entered into by and between the parties was required to be gone into
in an independent suit and not in a proceeding u/s.302 of the Act. The
testamentary Court in exercise of its jurisdiction u/s.302 of the Act cannot
enforce a contract qua
contract only because the executor is a party thereto.

The submission of the appellant that the decision of the
High Court constitutes res judicata cannot be accepted. Thus, the issue
did not attain finality. In view of the matter, an order passed without
jurisdiction would be a nullity. It will be a coram non judice. It is
non est in the eye of law. Principles of res judicata would not
apply to such cases.

As S. 302 of the Act was not attracted in the facts and
circumstances of this case, the principles of res judicata would also
not apply. If the agreement was not a part of the will, S. 302 will have no
application.

The testamentary Court must give effect to the will and not
an agreement by and between the Executor and the third party, which would be
contrary to the wishes of the testator.

The appeal was allowed. The order of High Court was set
aside.

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Tenancy : Right to take possession of secured asset would not include right to extinguish pre-existing tenancy : Securiti-sation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002.

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30 Tenancy : Right to take possession of
secured asset would not include right to extinguish pre-existing tenancy :
Securiti-sation and Reconstruction of Financial Assets and Enforcement of
Security Interest Act, 2002.


Tenancy is a creation of a contractual relationship between
the parties. Such tenancy would thereafter be statutory tenancy governed by the
provisions contained in the Bombay Rents, Hotel and Lodging House Rates Control
Act, 1947.

Where tenancy in respect of part of secured asset was created
long before the borrower (landlord) mortgaged the property to secure debt from
the secured creditor, then the provisions of the Securitisation Act would not
authorise secured creditor to extinguish such tenancy.

 

In view of relation between the borrower and the bank
(secured creditor), it may be open for the bank to take all such measures as may
be authorised under the Securitisation Act, including the measures enumerated in
Ss.(4) of S. 13. Such measures, however, would not permit the secured creditor
to extinguish the pre-existing tenancy between the tenant and the borrower. The
case would have been different if the tenancy was created subsequent to creation
of charge over the secured asset. The case perhaps also would have been
different had the case of tenancy been set up after creation of mortgage by the
borrower in favour of the secured creditor.

 

When there is a pre-existing admitted tenancy, in exercise of
powers U/ss.(4) of S. 13 of Act, even if it is open for the secured creditor to
take physical possession (as understood in contradiction to symbolic possession)
of property in question, such physical possession would not necessarily mean
vacant possession thereof. Thus, while asserting its rights u/s.13(4), it would
not be open to the secured creditor to summarily evict the pre-existing tenant
and extinguish his tenancy contrary to contract between landlord and tenant or
the Rent Act.

 

Neither the right to take possession, nor the right to sell
the property would include the right to extinguish the pre-existing tenancy.

 

The concept of possession and occupation are not necessarily
one and same. In legal terminology, both have distinct and different meanings.
The Legislature also recognises taking possession of the secured asset even
where it is not necessarily free from all encumbrances. The property can be put
to sale only after possession is taken by authorised officer. However, at the
time of putting property to sale, either by tender or by public auction, proviso
to sub-rule (6) of Rule 8 envisages issuance of public notice which will include
besides other details, the details of encumbrances on immovable property being
sold.

Therefore, despite overriding effect given to the provisions
contained in the Securitisation Act u/s. 35 over any other law for the time
being in force, the Act does not empower the secured creditor to extinguish a
pre-existing tenancy.

[ Dena Bank v. Shri Sihor Nagarik Sahakari Bank Ltd. & Ors., AIR 2008
Gujarat 110]

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Medical services — State cannot avoid its constitutional obligation to provide medical services on account of financial constraints — Constitution of India, Art : 47.

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  1. Medical services — State cannot avoid its constitutional
    obligation to provide medical services on account of financial constraints —
    Constitution of India, Art : 47.

[ B. Krishna Bhat v. State of Karnataka & Ors., AIR
2009 (NOC) 1787 (Kar.)]

Maintenance and improvement of public health is joint
obligation of Central as well as State for which they have to provide medical
services. State cannot avoid its constitutional obligation in that regard on
account of financial constraints. Govt. hospitals or public hospitals (run by
local authorities) are ill-equipped as they lack infrastructure both in terms
of buildings, medical equipments, adequate drugs, etc., and adequate manpower.
It is irrational, unjustifiable, unethical, unhygienic and antisocial to plan
a slum colony inside a hospital. All efforts to curb corruption in hospitals
be made. The Court suggests facilities required to be provided in hospital.

Stay : Tribunal has got inherent power to extend stay granted : Central Excise Act, 1944.

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29 Stay : Tribunal has got inherent power to
extend stay granted : Central Excise Act, 1944.


The appellants were granted full waiver of pre-deposit of the
amounts and the appeal was listed for hearing. In the meanwhile the Revenue
proceeded to recover the amounts and hence the appellants filed the application
for extension of stay.

 

The Bangalore Tribunal held that the Tribunal has got
inherent powers to extend the stay granted in a matter as held by the Apex Court
in the case of CC & CE Ahmedabad v. Kumar Cotton Mills Pvt. Ltd., (2005)
(180) E.L.T. 434 (SC). Therefore the action of the Revenue to resort to coercive
steps was held to be unjustified.

[ R. S. Avatar Singh & Co. v. Commissioner of C. Ex.
Visakhapatnam-I,
2008 (226) E.L.T. 457 (Tri-Bang.)

 


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Registration : Reconveyance deed not compulsorily registrable : Registration Act, 1908, S. 17(1)(b).

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28 Registration : Reconveyance deed not
compulsorily registrable : Registration Act, 1908, S. 17(1)(b).


Whether a non-testamentary document in respect of immovable
properties is compulsorily registrable or not depends on the facts and
circumstances and the terms of the document. No hard and fast rule can be laid
down. The crucial test in each case is as to the nature of the document itself,
if it does create a right, title or interest in itself, whether in present or in
future, it is compulsory registrable u/s.17(1)(b). However, if by itself it does
not create any right but visualises creation or extinction of a right by some
other document, then it falls squarely within the ambit of S. 17(2)(v) and,
hence, not registrable.

In the instant case, the agreement in dispute was a simple
agreement to reconvey property under certain conditions mentioned therein and,
thus, was not compulsorily registrable. Under the circumstances, even provisions
of S. 92(4) of the Evidence Act are not applicable in such case and therefore
subsequent document varying the terms of recoveying deed would not required to
be registered.

[Bhikkilal & Ors v. Smt. Shanti Devi & Ors., AIR
2008 Rajasthan 128]

 


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Guarantor — Liability : Rights of corporation to make recovery only against defaulting industrial concern and not against surety or guarantor : State Financial Corporation Act, 1951, S. 29 and S. 31.

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26 Guarantor — Liability : Rights of
corporation to make recovery only against defaulting industrial concern and not
against surety or guarantor : State Financial Corporation Act, 1951, S. 29 and
S. 31.


AP Rocks Private Limited is an industrial concern. It
approached the appellant Corporation for grant of loan in the form of
non-convertible debenture.

Respondents who were Directors of Company executed deeds of
guarantee, agreeing to guarantee repayment/redemption by the company to the
Corporation of the said non-convertible debenture subscription together with
interest, etc. The said Company also executed a deed of hypothecation, whereby
and whereunder its plants and machinery were hypothecated. A collateral security
agreement was also executed. The ‘Industrial Concern’ allegedly committed
defaults.

 

The appellant-Corporation in exercise of its power u/s.29 of
the Act directed that the possession of the said properties of the guarantors be
taken over.

 

The Karnataka High Court held that the appellant-Corporation
could not have proceeded against the guarantors u/s.29 of the Act.

 

The Court observed that the heading of S. 29 states ‘Rights
of financial corporation in case of default’. The default contemplated thereby
is of the industrial concern. Such default would create a liability on the
industrial concern. Such a liability would arise inter alia when the
industrial concern makes any default in repayment of any loan or advance or any
instalment thereof under the agreement. In the eventualities contemplated u/s.29
of the Act, the Corporation shall have the right to take over the management or
possession or both of the industrial concern. It confers an additional right as
the words ‘as well as’ are used which confer a right on the corporation to
transfer by way of lease or sale and realise the property pledged, mortgaged,
hypothecated or assigned to the Corporation. S. 29 nowhere states that the
Corporation can proceed against the surety even if some properties are mortgaged
or hypothecated by it. The right of the financial corporation in terms of S. 29
must be exercised only on a defaulting party. There cannot be any default as is
envisaged in S. 29 by a surety or a guarantor. The liabilities of a surety or
the guarantor to repay the loan of the principal debtor arises only when a
default is made by the latter. The words ‘as well as’ play a significant role.
It confers two different rights but such rights are to be enforced against the
same person, viz., the industrial concern.

 

The liability of a surety is made co-extensive with the
liability of the principal debtor only by virtue of S. 128 of the Contract Act.
The rights and liabilities of a surety and the principal borrower otherwise are
different and distinct.

 

An implied power of Corporation to proceed against a surety
or guarantor cannot be read in S. 29 on principle that a construction which
effectuates the legislative intent and purpose must be adopted. A statutory
authority may have an implied power to effectuate exercise of substantive power,
but the same never means that if a remedy is provided to take action against one
in a particular manner, it may not only be exercised against him, but also
against the other in the same manner.

 

Therefore, the intention of the Parliament in enacting S. 29
and S. 31 was not similar. Whereas S. 29 consists of the property of the
industrial concern, S. 31 takes within its sweep both the property of the
industrial concern and that of the surety. None of the provisions control each
other. The Parliament intended to provide an additional remedy for recovery of
the amount in favour of the Corporation by proceeding against a surety only in
terms of S. 31 and not u/s.29 thereof.

[ Karnataka State Financial Corporation v. N.
Narasimahaiah & Ors.,
AIR 2008 Supreme Court 1797]

 


levitra

Passport Renewal : Renewal of passport cannot be withheld indefinitely for want of police verification : Passport Act S. 5, S. 6.

New Page 1

27 Passport Renewal : Renewal of passport
cannot be withheld indefinitely for want of police verification : Passport Act
S. 5, S. 6.


The petitioner had applied for issuance of passport, but
neither the same had been issued, nor the issuance has been declined by the
Passport Authority. The respondents stated that on receipts of the applications
for issuance/renewal of passports, the cases were sent for clearance by the CID
and either the same has not been received back or received with the inconclusive
report or received with the recommendation that the same should not be issued,
therefore, no decision in the matter has yet been taken by the Authority.

The High Court observed that on receipt of the application
the Passport Authority is empowered to make such inquiry which he may consider
necessary before issuance of a passport. It is because of such power of making
inquiry the Passport Officer is entitled to seek Police verification report in
regard to the antecedents of the person who has applied for the issuance of a
passport. The purpose of such inquiry by the Passport Authority is to enable
himself to make up his mind as to whether the passport or travel documents
should be issued or refused in the circumstances of each particular case. The
decision over the issue of a passport or travel documents has to be taken by the
Passport Authority alone and for taking such decision he may keep the
intelligence report in view. Merely because the intelligence report received is
adverse, the Passport Authority cannot defer his own decision on the issue of
passport, nor can he refuse the same without applying his mind to the facts
stated in the report. Adverse Police verification report per se does not
disentitle a citizen from his legal right to have a passport. It is for the
Passport Authority to take into consideration the facts/antecedents of the
person who has applied for issuance of a passport, alleged by the intelligence
agency in its report, for deciding whether passport should be issued or refused.
The Passport Authority is not bound by the recommendations of the intelligence
agency.

Where a complete police verification report has not been
received within thirty days, the Passport Authority is to take a decision by
following instructions of the Chief Passport Officer. Therefore, in no case the
Passport Officer can withhold consideration of the question of issuance of
passport or travel documents indefinitely and same shall be true about the cases
of renewal or re-issue of passports or travel documents.

[Anwar-ul-Haq v. UOI & Ors., AIR 2008 Jammu and
Kashmir 35]

 


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Banking — Date of maturity of fixed deposit lapsed — Yet payment of maturity value should be along with interest @ 6% p.a.

New Page 1

26 Banking — Date of
maturity of fixed deposit lapsed — Yet payment of maturity value should be along
with interest @ 6% p.a.


(Tausif Ali v. State of
Jharkhand & Ors.,
AIR 2010 Jharkhand 108)

The savings made from the
daily earnings of the petitioner’s father, deposits of amount were made by the
petitioner’s father in the name of the petitioner, with the bank. As per the
terms of the deposit, the period of fixed deposits was for one year and on the
date of maturity, the amount of the fixed deposits together with interest
accrued, was to be paid to the nominee. Upon maturity of the fixed deposits,
when the demand for payment of the amounts was made, the manager of the
respondent bank refused to make payment. The petitioner thereafter approached
the Registrar, Co-operative Societies, since the bank was registered under the
Co-operative Societies Act, but the Registrar also did not entertain the
petitioner’s claim.

The Court observed that the
date of maturity of the fixed deposits had long lapsed, yet the payment of the
maturity value had not been made by the respondent bank to the petitioner.

The respondent bank was
directed by the Court to pay the maturity value of the fixed deposit to the
petitioner along with interest calculated at the rate of 6% per annum on the
maturity value, within four weeks from the date of receipt of a copy of the
Court order.

levitra

Credit Rating: Features and Benefits for SMEs

Article

Introduction :


Small and Medium Enterprises (SME), for years, have been the
‘common man’ of business fraternity. Though often referred to as the most
important part of the economic fabric of the country, hardly anything concrete
was done for their growth. However, of late, efforts have been made to bring
about a change in the way of working of SMEs through implementation of services
like rating of the enterprises, easy loans availability, information technology
and a host of schemes of the Government. But, the awareness level is still low.

A major obstacle in the SME development is its inability to
access timely and adequate finance. There are several reasons for low SME credit
penetration, key among them being insufficient credit information on SMEs, low
market credibility of SMEs (despite their intrinsic strengths) and constraints
in analysis. This leads to sub-optimal delivery of credit and services to the
sector. Availing credit rating from credit rating agencies can play an important
role in addressing some of these concerns.

But it has been observed that there are a few characteristics
of small entities in India e.g., they are often reluctant to disclose
actual sales/revenue or profit. This may be due to the fear of attracting higher
tax liability. SMEs also lack effective internal controls or audit. These areas
are ignored to save costs. But these practices only create problems for the firm
in the long run. Due to weak financial statements, bankers refuse to assist them
when they need funds. Therefore, these practices create hurdles in the growth of
SMEs and this is where the role of a credit rating agency comes into picture.
The rating agency can point out the issues which hinder the growth of SMEs. The
rating report can also help SMEs to implement best practices in their day-to-day
operations. The SMEs should be educated to maintain transparency in their
activities. The rating can help SMEs to create benchmark for themselves in
financial and other parameters.

Basic features of credit rating :

Credit rating is an estimate of the creditworthiness of an
enterprise or a country. It is an opinion made by credit evaluators of a
borrower’s potential to repay a debt. Every rating grade comes with its
probability of default, which in turn assists investors/lenders to take informed
investment decision.

Rating is arrived at after considering various financial,
non-financial parameters, past credit history and future outlook. There are
various types of ratings viz. Issuer Rating, Bank Loan Rating,
Issue-based Ratings, Project Rating, etc. based on type of borrower/issuer.
Ratings can also be classified based on the type of entity rated, such as
Individual Rating, Corporate Rating, Bank/Financial Institutions Rating, SME
Rating, MFI Rating, etc.

The advantage of rating symbols is their simplicity which
facilitates universal understanding. Rating companies also publish explanations
for symbols used as well as the rationale for the ratings assigned by them, to
facilitate better understanding.

The rating process is a fairly detailed exercise. It
involves, among other things, analysis of financial information, visits to the
customer’s office and works, intensive discussion with management, auditors,
bankers, etc. It also involves an in-depth study of the industry itself.

Rating does not come out of a pre-determined mathematical
formula. Rating agencies do a great amount of number crunching, but the final
outcome also takes into account factors like quality of management, corporate
strategy, economic outlook and international environment. To ensure consistency
and reliability, a number of qualified professionals are involved in the rating
process. The rating committee, which assigns the final rating, consists of
professionals with impeccable credentials. Rating agencies also ensure that the
rating process is insulated from any possible conflict of interest.

Ratings are based on an in-depth study of the industry as
also an evaluation of the strengths and weaknesses of the company. The inherent
protective factors, marketing strategies, competitive edge, level of
technological development, operational efficiency, competence and effectiveness
of the management, hedging of risks, cash flow, trends and potential, liquidity,
financial flexibility, government policies, past record of debt servicing, and
sensitivity to possible changes in business/economic circumstances are looked
into.

Credit rating experience gives SMEs an insight into corporate
credit analysis and methodologies for understating fundamentals of credit risk,
cash flow modelling, enlarging managerial skills and best practices in doing
business. Peer group comparisons help creating standardisation in units of SMEs
besides identifying risks for hedge and for grooming strategies, which exist,
for exploiting opportunities. Rating pinpoints the overall health of the
enterprise and explains exactly how the business will fit in relation to
competitors and how to deal with it.

Fear of lower rating :

Rating for SMEs as a concept is comparatively new in India.
They get themselves rated only when they are pushed by the banks; they go ahead
only when there is a fear of loss or hope of gain. There is a general
apprehension as to what if the rating goes bad ? There is also a fear among
several SMEs that if they get rated low, their value will come down and that may
act as a hurdle in raising funds. It is a valid point. But it should be
remembered that the fact that an enterprise has opted for rating process from a
rating agency.

Subsidy for rating fee :

In order to encourage SMEs to go for credit rating a scheme
named ‘Performance and Credit Rating scheme’ was formulated in consultation with
Indian Banks’ Association (IBA) and Rating Agencies. NSIC (National Small
Industries Corporation Limited) has been appointed as the nodal agency for
implementation of this scheme through empanelled agencies.

Basic features of the scheme :



  • The SME units are at liberty to select any of the rating agencies
    empanelled under the rating scheme with NSIC.




  • The validity of a rating shall be for a period of one year from the date
    of issue of the rating letter.

  •     The rating agencies have different fee structures for their rating of various clients including small-scale units. The rating agencies will devise their fee structure for SSI units under this scheme separately.


  •     Although, the rating fee of different rating agencies may vary, but for the purpose of subsidising the fee, a ceiling has been prescribed by the Government.


  •     The small-scale units will have to pay their contribution towards the rating fee along with its application.


  •     In the event of the request for rating being treated as closed by the rating agency due to non-receipt of the complete information, 50% of the fees received from the SSI unit shall be refunded by the rating agency. However, if the SSI unit backs out from the rating process after the rating agency has carried out its inspection, no amount shall be refunded back.


  •     The fee to be paid to the rating agencies shall be based on the turnover of the small-scale units which has been categorised into three slabs. The slabs of the turnover and the share of the Ministry of SSI towards the fee charged by the rating agency are indicated in Table 1.


  •     The rating to be awarded by each of the rating agencies shall be prefixed by the word NSIC. Thus rating awarded by, say, ICRA shall be termed as ‘NSIC-ICRA Performance and Credit Rating’. The list of empanelled rating agencies is given in Table 2.


  •     NSIC also gives concession in rate of interest for units rated under the Performance and Credit Rating scheme. The concession details are also given in Table 3.
Table 1

Reimbursement of performance and rating fee

Turnover of SSI

Reimbursement of fee

 

through NSIC

Up to Rs.50 lac

75% of the fee or

 

Rs.25,000
(whichever is less)

 

 

 

 

Above Rs.50 to

75% of the fee or Rs.30,000

Rs.200 lac

(whichever is less)

 

 

More than

75% of the fee or Rs.40,000

Rs.200 lac

(whichever is less)

 

 

Table 2
List of empanelled agencies by NSIC

NSIC (www.nsic.co.in)

 

CARE (www.careratings.com)

 

CRISIL (www.crisil.com)

 

FITCH (www.fitchratings.com)

 

ICRA (www.icra.in)

 

ONICRA (www.onicra.com)

 

SMERA (www.smera.in)


Dun & Bradstreet (D&B) (Empanelment of D&B under this scheme was valid up to 31-3-2009. Thereafter rating is being done by SMERA as “NSIC-D&B-SMERA Rating”) (www.dnb.co.in)


Table 3
Concession in rate of interest

Rating
scale on performance

Reduction

and
credit parameters

in
rate of

 

 

interest

 

 

 

SE 1A

Highest performance

 

 

capability; High
financial

 

 

strength

1.00%

 

 

 

SE 1B

Highest performance

 

 

capability;

 

 

Moderate financial
strength

0.50%

 

 

 

SE 2A

High performance

 

 

capability;

 

 

High financial
strength

0.50%

 

 

 


To summarise, credit rating can bring a host of benefits to SMEs and often balance sheets are the starting point for any analysis. CAs can play a better role in educating their clients by giving an advice which is in their long-term interests to make them tomorrow’s Reliance and Infosys.




Consolidation in the Indian Banking Industry

Article

Preamble :


The period since the early 90s has witnessed a flurry of
activities in the Indian economy not experienced earlier. This is truly the era
of liberalisation, economic reforms, globalisation, etc. The trend of events in
the Indian economy during this period can be summed up only as positive. While
there is always the downside in any scenario, the balance is certainly
encouraging. The fast growth in the GDP, the strong foreign exchange reserves
position, and a host of other parameters all point in this direction with the
result that India is being seen as a very attractive destination for several
countries for investments in different fields.

One of the sectors that has been eyed for sometime now is the
banking and financial sector. India is already home for different categories of
banks viz. public sector banks, old generation private sector banks, new
generation private sector banks, foreign banks, co-operative banks. The list
does not include non-banking finance companies, investment banks, etc. While the
canvas is quite wide, the immediate focus of this article is the public sector
banks and private sector banks. Much interest has been evinced by several
foreign banks, which do not have a presence in India at present, for setting
base here or widening the existing base, and establishing a large presence
because of the opportunities that have been identified for banking activities in
the country. The Government of India has however been holding back permission
for these banks, essentially with a view to provide the Indian banks an
opportunity to strengthen their position adequately enough to be able to
withstand foreign competition — a necessary fallout of the globalisation that
has been taking place across the world. (The existing guidelines1 prescribe a
74% limit for all types of foreign investment, which effectively means a minimum
stake of 26% for resident Indian capital. Foreign banks have been allowed to
open branches or establish wholly-owned subsidiary or subsidiaries, which have
investment up to 74% in private banks.) Since however such protective policies
cannot remain without any time limit, the Government of India has decided that
from April 2009 onwards, the banking sector would be thrown open to foreign
entrants as well. This date incidentally coincides with the date by which banks
in India are expected to be Basel II–compliant, which to mention in simple
terms, would ensure that the financials are strong enough by international
standards. Thus, the post-April 2009 scenario is expected to witness hectic
activities in this sector with the expected increased presence of foreign
players. The strategies and course of action that would need to be adopted by
Indian banks to equip themselves to face the situation that is likely to emerge
make interesting study. This process of consolidation, which has been suggested
very often by the Government of India, would inter alia witness
mergers and acquisitions in the industry. This paper seeks to look at a few
issues that would have a bear-ing on the decisions of banks to acquire/be
acquired/get merged with other banks, some of the factors that could induce such
decisions, and a few matters having a bearing on the success or otherwise of the
process. The focus would essentially be on the issues involved rather than a
simple statistical tell-tale rhetoric, figures being mentioned purely
incidentally.

History of mergers & acquisitions in Indian banking industry :

Since the onset of reforms in 1990, there have been quite a
few bank amalgamations. Prior to 1999, the amalgamations of banks were primarily
triggered by the weak financials of the bank being merged, whereas in the
post-1999 period, there have also been mergers between healthy banks, driven by
business and commercial considerations. The earlier mergers were more often
distress mergers and hence not entirely for business considerations. Mergers
were driven by the Government to address the financial crisis or distressed
financial position of a bank. Some of the examples are those of SBI taking over
Bank of Cochin and Kashinath Seth Bank, New Bank of India merging with Punjab
National Bank, Global Trust Bank with Oriental Bank of Commerce, Ganesh Bank of
Kurundwad with Federal Bank, etc. . . . But in the recent years a new wave of
consolidation has entered the Indian banking industry. The mergers of Times Bank
with HDFC Bank, Bank of Madura and ICICI with ICICI Bank, Bank of Punjab with
Centurion Bank and now Centurion Bank of Punjab with HDFC Bank fall under this
category of mergers not arising out of distressed financial position.

The few paragraphs that follow have been devoted to a few
topics that are incidental to the main theme, essentially relating to the
causative factors, both external and internal. This has been done consciously
since the capacity of the Indian banking sector to be prepared for coping with
the emerging scenario would not depend on the picture as may be presented, but
on the harsh ground level realities, and any attempt to turn a “Nelson’s eye” to
these warning signals would only be counter-productive and, in certain
circumstances, could even prove suicidal. As such, this diversion is considered
a necessity.

Causative factors :

The situations influencing M&A in the banking industry (as
indeed in any industry) could broadly be classified as external and internal,
though the discussions could see a bit of overlapping of these two factors.
External factors refer to the intent of a bank to grow inorganically by takeover
of another bank or to join hands with another bank in order to reap the benefits
of size and reach. These can also relate to a necessity-based situation driven
by the inherent weakness of a bank as a component of the sector as a whole and
its inability to cope with the dynamic situation. Internal factors on the other
hand refer to the position of the concerned bank itself in terms of its overall
internal financial strength as reflected by various parameters. The following
paragraphs seek to look into these factors and related aspects.

External factors :

The globalisation process has brought ‘in its wake quite a few challenges, not the least being one of intense competition which would ultimately result in the survival of the fittest, the others being forced out of the race for one reason or the other. The focus thus shifts entirely to one characteristic – being fit enough to withstand the competition and being the fittest in order to outperform others. This is where quite a lot of discussions have taken place and will continue to take place – as to what constitutes fitness? Suffice it to understand that the concerned bank needs to be financially strong not only in isolation, but more importantly, as one among, and in comparison with, the other players in the field. In the context of the players in the banking industry, this should encompass largeness of size (where this provides the advantages of volumes in transactions and balance sheet size), a wider reach than at present (where this provides not only the reach into newer areas geographically, but also facilitates newer approaches and products not hitherto possible), a stronger balance sheet (with the inherent advantages of faster growth), etc. It must be mentioned that largeness of size and having a wide reach could turn into disadvantages if not handled in a proper and planned fashion. While it is not the intention of this paper to enter into a debate on the advantages and disadvantages of largeness of size and reach – these have been discussed and chronicled fairly adequately – a few connected points need mention in order to have a clearer understanding:

1. Largeness of size without a proper integration of various activities and co-ordination among them could create total chaos. While this is true of any organisation, it is all the more relevant in the case of banks which deal with public funds and where ongoing changes in the market affecting one activity could have a direct or indirect bearing on another activity of the bank. It is necessary to take full advantage of the synergies of the various activities and utilise the benefits of networking among them, if largeness of size is not to become a ‘drag’.

2. The above observations equally apply to the wide reach that is expected to be one of the advantages of consolidation. The planning process plays a very important role since the reach of a bank in different locations would provide different strengths, depending on the location. For example, location in a rural area would provide the advantage of funding of small business, agriculture and micro-credit as against an urban location which would facilitate corporate business, etc.

3. Viewed from a different angle, smallness of size is also a disadvantage in certain circumstances. With the deadline for reporting compliance with Basel II norms just round the comer, there could be issues connected with need for a strong database and MIS. Inadequacies in these areas would be serious. At the same time, getting these in place would necessitate a strong technology base and connectivity, with the obvious issue of costs. Equally important is the need to build up sophisticated systems which would continuously assess the capital requirements for the different risks and ensure optimal allocation of capital towards these risks; this would again have a cost implication that could prove too high for smaller banks.

4. A large number of small banks have the effect of splitting the consumer base of existing players in the market, similar trends being observed in profit after tax, borrowings and interest and non-interest incomes of the banks, thereby hinting at increased levels of fragmentation in banks. Though this could be an opportunity for healthy competition, the goal of becoming a globally competent bank, for which size of the bank does play an important role, would be missed out. (It may be significant to state at this stage that State Bank of India (SBI)the country’s largest bank, is ranked 60th in the world according to Fortune it is gathered that the next biggest i.e. ICICI Bank, is ranked around 200.) The smaller fragmented banks with no economies of scale, low capabilities to manage risks and poor market power at times end up taking excessive risks resulting in irreparable losses overall. (This aspect is covered in slightly greater detail later in this note.) Under these circumstances, merging or getting taken over by a bank with a ready infrastructure has a lot to commend itself.

As mentioned earlier, the inorganic growth through the process of mergers and acquisitions could be the voluntary route where two banks decide to merge or one bank decides to acquire another bank, essentially by mutual consent, in order to secure the advantages of size and/or reach. Alternatively, it could arise because of inherent weaknesses observed in the bank being acquired. While the former would essentially be caused by external factors, the latter could see a combination of external and internal factors.

The history of mergers and recent discussions held to discuss possible mergers would indicate both categories. The mergers of ICICI with ICICI Bank, IDBI Bank with IDBI, etc. and the discussions held between Bank of India and Union Bank of India are examples of mergers by mutual consent aimed at tapping the inherent synergies between the two organisations. More recently, the discussions between State Bank of India and State Bank of Saurashtra, and also the indications of talks aimed at merger of its other associate banks with State Bank of India, are further examples of this category. On the other hand, the takeover of banks like Global Trust Bank by Oriental Bank of Commerce, Lord Krishna Bank by Centurion Bank and Nedungadi Bank by Punjab National Bank fall in the latter category viz. banks that have had problems and are required to be taken over in the interests of the stakeholders. Also, since there has been quite a bit of analysis on the former category of consolidation, only a brief mention has been made above of the former category. It is however considered necessary to discuss the latter category in slightly greater detail. This would essentially focus on the internal causative factors, though as mentioned earlier, a slight degree of overlapping of the external factors cannot be totally avoided.

Internal factors:

Situations where a bank is confronted with problems to the extent that external help is required to resurrect it are invariably built up over a period – these do not happen overnight or in a totally unexpected manner. On occasions, the approach of a bank to remain content with its level of operations, whether in terms of size or area of operations, could turn out to be the negative factor. Instances exist of banks having been in existence for quite a long period (sometimes even extending to decades) without the type of growth that is seen in other banks placed in a similar category in terms of period of existence, etc. By the time there is an ‘awakening’, it is perhaps too late – the concerned bank remains small in comparison to other players, thereby having to face the negative effects of smallness of size and reach. While this by itself could induce corrective action through the process of consolidation (which would perhaps be the right course of action when viewed from the stakeholders’ angle), the temptation of attempting to remain afloat and in the race’ at any cost’ very often leads to its undoing and pushes the concerned bank into an enforced consolidation by way of takeover by another bank. The next part of this study looks at some of the ways in which this misguided attempt takes place, as also some of the implications of such attempts:

1. Efforts are made to make up for lost time by adopting inappropriate shortcuts. A typical instance would be of a bank trying to go beyond its capacity and rushing in an unplanned manner into activities which it may not be able to handle. For example, taking into account the size and other related factors of a bank. it may not be equipped to handle the larger, and more sophisticated, business offered by corporates. This type of business is however a strong temptation for achieving quantum jump in figures on the business front. This situation can be avoided only with a strong and well-informed Board of Directors which should be very particular on a properly drawn out business plan covering a reasonable period into the future, based purely on the inherent strengths of the bank, sector-wise growth prospects and the opportunities available. In this context, the importance of an independent director on the Board who is truly independent cannot be overstated. This aspect of the Board’s composition is an area that requires serious attention.

2. A variation of the above possibility is the anxiety of the top management, particularly at the CEO’s level, to show good progress in terms of figures during his/her tenure, which could be quite short. During this process, the interests of the stakeholders are lost sight of, since the time available at the disposal of the CEO is less, in view of the short tenure of appointment. The solution to this matter partly lies in the CEO being appointed ab initio for longer durations (say, 4-5 years) with very clear mandates from the Board of Directors (as a sequel to the point mentioned above), so that the long-term interests of the bank and its stakeholders are not sacrificed in the process of achieving short-term results which may not be sustainable.

3. A slightly narrower version of the above observations arises out of the fixation on figures (targets ?), whether year end or at end of specific periods viz. quarter-end or half year-end. This fixation takes the form of ‘ballooning’ towards end of such specific periods, whether in terms of deposits or advances (credit). Often, there is a spurt in the figures of business at such period-ends which revert to the earlier levels when the fresh period commences. While this by itself may not always impact the financial health of the bank, the figures per se are misleading. Where such action also impacts the bank’s financial health, the matter is more serious. This aspect is discussed briefly.in the following paragraphs :

a)  It is evident that growth of the type envisaged above cannot be achieved through retail or other small business avenues in the very short period of (say) a fortnight or a month. The temptation is therefore to go in for bulk business, whether deposits or advances. Deposits, when raised in bulk, are invariably from corporates/institutions where the rates offered have to be high enough to be attractive. These do not conform to the normal rates otherwise offered by the bank – they are quite higher. Looking to the volumes generated through this route, the impact on the profitability can easily be visualised, though the deposits may have been raised only for short periods. The logical sequel to the above is the deployment of the funds thus raised. Here again, the situation is similar to deposits except that the competitive rates have to be low enough to be attractive, with the obvious impact on the bottom line of the bank.

b) The cause-effect could also be reversed in the sense that with availability of large quantum of surplus funds, the deployment could take place first, followed by raising of deposits, the latter with an eye on the need for a satisfactory Credit-Deposit (CD) ratio. In either case, the impact would be the same. Such developments would in the normal course get reflected in the Asset Liability Management (ALM) exercise, as would the possible situation of such bulk advances being extended for longer periods as compared to the tenure of the bulk deposits. There do arise circumstances where these indicators are given a ‘go-by’ in a variety of ways, but dilating on these would shift the focus away from the main theme, and is therefore being left open for individual interpretations.

c) An incidental fallout of the above is the frightening possibility of one or more of such bulk advances turning bad, a situation that could seriously impact the financial position of the bank whose size may not permit such an impact. The implications are obvious.

 4. Another area where the focus on figures could easily take the visibility away from realities relates to the identification and declaration of non-performing assets (NPAs). While the matter of handling of NPAs is by itself a complex one permitting a full-fledged discussion paper, acts of omission and commission in this area could also present the financial position of a bank at an unreal level. One of the routes followed is what is commonly referred to as the process of ‘ever-greening’. Quite simply put, this is the process where, just before an account slips into the category of an NPA, fresh assistance is provided on an ad hoc basis to clear the amounts that are about to slip into the overdue category. This is an area that has been attracting a lot of flak from the regulators who have been giving several guidelines to overcome this ‘illness’. The ultimate effectiveness would however depend on the will to face the real picture which alone would facilitate taking of corrective steps, all in the interests of the health of the banking sector aimed at making it strong enough to face up to the emerging challenges.

Some important issues :

With April 2009 just round the corner, when the sector would be more fully opened up to the foreign banks, and with the prospect of these banks landing with their huge resources and infrastructure, size would become a matter that cannot be wished away. It is therefore apparent that consolidation in the banking industry is inevitable sooner than later. Against this backdrop, it would be appropriate to take a brief look at some of the areas where the consolidation process would make an impact, and some of the issues that may be required to be addressed:

Invariably, the shareholders of the bank being taken over benefit as compared to the shareholders of the acquiring bank.

A few issues could be posed by differences in the customer mix if the banks entering into an arrangement are of different categories e.g., old generation bank and new generation one, public sector bank and private sector bank, Indian bank and foreign bank, etc. The differences could relate to the manner in which transactions are put through in each bank even in such simple matters like withdrawal or deposit of cash.

Objections raised by unions/associations may playa role. The recent case in view is the plan for merger of Union Bank of India and Bank of India, which did not move beyond the initial stages.

Related alliances of either bank have to be taken into account. In today’s scenario, most of the banks have some tie-up or the other. For instance, a bank may have linkages with an insurance company for marketing of the latter’s products. If two such banks with linkages with two different insurance companies come together in the consolidation process, appropriate methodologies may have to be worked out in this area as well.
 
The next issue which should be thoroughly analysed is the HR factor. Looking to its importance, it would only be appropriate to look at this area in slightly greater detail under a couple of sub-heads:

 The culture and behavioral patterns of the concerned banks could be quite different, and their mutual compatibility and adapt-ability is an important pre-condition for the success of the consolidation process. While problems could arise even between two banks of similar character (e.g., two new private sector banks or two nationalised banks), the matter gets more complex when such similarity does not exist. The complexities could relate to different types of hierarchies and reporting practices in the organisation structure, procedures (whether in internal personnel matters or seeking decisions on credit and other business-related matters, and a host of such matters), differences in staff regulations, etc.

Differences in the overall age pattern prevailing within each bank can be another serious matter. One cannot afford to bypass matters such as the typical ‘generation-gap’, with the elder generation strongly believing that all its long years of experience and labour are being slighted – particularly if they are required to report to the younger lot, post-consolidation, and the younger generation equally strongly feeling that their professional qualification linked to the current requirements need to get much greater attention and that the earlier generation is somewhat ‘out-of-tune’ with today’s world. The simple fact is that neither the large experience, for which there can be no substitute, nor the technical expertise gained by the younger generation can be ignored a healthy marriage of the two is essential.

 Merging and positioning of the personnel of the two banks in the new organisation structure is another challenge, particularly in certain specialised departments like Credit, Treasury and Resource Management, etc.

 Differences in compensation structure is yet another serious component of the HR factor, particularly if the employees in the bank being taken over have been drawing more compensation than the employees of the taking-over bank.

Recent mergers/takeovers of Global Trust Bank by Oriental Bank of Commerce, Bank of Madura by ICICI Bank, IDBI Bank with IDBI, etc. have all had issues falling under one or the other of the above HR-related categories.

Instances of this crucial area (HR) could be multiplied, but suffice it for the purpose of this paper to observe that this is a really crucial, if not critical, issue in any process of consolidation, and any due diligence study that does not give this matter the required level of attention would only be half-cooked. The consequences could be disastrous in the form of staff frustration, depression, disappointment over failure to be given due recognition and, quite often, a high degree of attrition. The net result is not hard to visualise.

The type of technologies used in each bank is another crucial factor. With almost all the banks across the economy going in for Core Banking Solutions a necessity in the context of growing competition, imperative need to focus on providing the best customer service, need for a strong database that would keep updating itself on real-time basis and hence provide a strong MIS – different players have emerged for providing this Solution, with differences existing between one and the other. In the event of different vendors having provided the CBS to the two banks, the scope for successful integration of these two technologies needs to be critically examined.

6. The individual balance sheet position of the banks is yet another crucial matter. This assumes greater seriousness when one of the banks is being taken over due to its weak financial position. Differences in the quality of loan portfolios, mix (e.g., one bank having a greater percentage of corporate accounts and the other a high level of retail portfolio), the levels of non-performing assets and stressed accounts, the composition of deposits (time and demand), the Credit-Deposit ratios, the investment strategies adopted and the types of investments on the balance sheet (statutory or otherwise), the Capital Adequacy ratios; matters relating to Asset Liability Management (area of maturities and interest rates mismatches) – all these demand a high degree of attention and analysis.

Conclusion:
The current scenario on the banking sector front is indeed dynamic, extremely challenging and, for a true hard core professional, immensely exciting. It is certainly not for the weak-willed. Genuine strong and equipped players will find the future holding out several challenges, thrills and prospects. At the same time, players who have missed out on opportunities, focus and direction, all of which have to be based on a strong foundation of discipline and commitment to the sector and the nation, are bound to find the going very tough for survival in the emerging scenario. The process of consolidation is not just a major one – it is almost inevitable. The process necessarily pre-supposes a meticulous and professional due diligence study, for which some of the important issues to be kept in view have been discussed in this note. It would only be an understatement to mention that such a study needs to be factual, fearless, truly independent and totally unbiased. Given the strong professional talent that is available in the country and the committed leaders in the banking sector (quite a few still remain – they only need to be identified and encouraged/supported and assuming a definite sense of purpose, focus and urgency at various levels with various authorities, one only hopes that the future would witness the emergence of a new-face banking sector – a strong, vibrant one, competing fiercely, but with one clear-cut common objective – to build a much stronger India, both financially and industrially, which would be looked upon as a role model by the rest of the financial world.

References :
1. Book: Bhagaban Das and Alok Kumar Pramanik on ‘Mergers and Acquisitions – Indian Scenario’, Kanishka Publishers,2007.

2. Business Standard, Banking Annual, 2006 Issue.

3. IBA Bulletin, Special Issue 2005,Consolidation in Banking Industry: Mergers & Acquisitions, [an 2005,VolXXVII – No. 1.

4. Special address delivered by Shri V. Leeladhar, Deputy Governor, Reserve Bank of India on April 17, 2008 in Mumbai on the occasion of the International Banking & Finance Conference 2008organised by the Indian Merchants’ Chamber, Mumbai.

5. The Banker, July 2007 Issue, ‘Top 1000World Banks’.

6. WebLink: http://rbidocs.rbLorg.in (Roadmap for Presence of Foreign Banks in India and Guidelines on Ownership and Governance in Private Banks, dated February 28, 2005)

7. Weblink: http://money.cnn.com/magazines/fortune/global500/2007/industries/192/1.html (Fortune, Global 500 Companies)

Allowability of Losses from Forex Derivatives

Allowability of Losses from Forex Derivatives

Background :


So long as the exchange rate of Indian Rupee
against US Dollar was relatively stable or depreciating, the exporters did not
resort to complex hedge instruments to cover their currency risks. But when the
Indian Rupee started steeply appreciating against US Dollar during April to June
2007, many were caught unaware suffering severe losses.

During this period, few banks came up with a novel
idea of ‘foreign exchange derivatives’ with possible attractive returns for the
exporters and entered into several forex derivative contracts. Initially, some
exporters made some gains in the transactions and more exporters opted for the
arrangement. However, in the end, almost everyone who went for the arrangement
suffered significant losses.

Some of the exporters challenged the validity of
the contracts itself as illegal under the provisions of the Contract Act, while
some others have settled the issue with the banks and the banks have waived a
portion of their claims under the derivatives contracts, still leaving the
exporters with substantial loss in the bargain.

There is a view that these contracts may be treated
as speculative in nature hit by the provisions of S. 43(5) of the Income-tax
Act, thereby the loss on such contracts may be disallowed. There are few other
issues as to the accounting methodology adopted by the organisation, compliance
with AS 31-33 and the recent Circular issued by the CBDT in this connection that
require careful consideration.

In this article it is proposed to analyse various
issues that confront a taxpayer in claiming deduction for these forex derivative
losses while computing his total income in this article.

Forex derivatives :

The term derivative is defined u/s.45V of the
Reserve Bank of India Act, 1949 as meaning “an instrument, to be settled at a
future date, whose value is derived from change in interest rate, foreign
exchange rate, credit rating or credit index, price of securities (also called
‘underlying’), or a combination of more than one of them and includes interest
rate swaps, forward rate agreements, foreign currency swaps, foreign
currency-rupee swaps, foreign currency options, foreign currency-rupee options
or such other instruments as may be specified by the Bank from time to time”.

To put it in simple language, a derivative is a
financial instrument whose value depends on the values of the underlying
exposure. The underlying exposure in the case of forex derivatives is the
foreign exchange rates.

Commonly used forex derivatives are Forward
Contracts, Option Contracts and Swap Contracts. These instruments are used to
hedge the currency risk on account of adverse currency movements.

Hedging and need for hedging :

Hedging is defined as ‘to enter in to transactions
that will protect against loss through a compensatory price movement’. A hedging
transaction is one which protects an asset or liability against a fluctuation in
the foreign exchange rate. Any person having an exposure to foreign currency may
resort to hedging so as to fix his cost and profits at a particular level.

For example, an exporter of T-shirts has the
following cost structure :

Rs.

Sale price in India … … … 45

Total cost … … … 40

Profit … … … 5




  •   The buyer agrees
    to buy the T-shirt at the rate USD 1 per T-shirt.



  • The current price
    of USD is Rs.46.



  •   The seller
    prefers to sell the T-shirt for USD 1 each, since he is going to make Re 1
    extra because for each dollar he will get Rs.46.



  •   Sale proceeds
    will be received three months from today.



  •   The exporter is
    wishes to enter into hedging transaction so that future adverse movements of
    USD against INR will not affect his earning.



  •   For which he has
    two choices, one is Forward Contracts and the other is Options.




Forward contracts :

A forward contract is nothing but an agreement
between an enterprise and a banker to purchase or sell a particular quantity of
a currency for a mutually agreed price at a particular future date. Exporters
are extensively using forward contracts to get their export receivables hedged
against adverse currency movements.

In the above example, if the exporter books a
forward contract for Rs.46 to be delivered on a specified future date
synchronising with the date of realisation of his export proceeds, his risk is
neutralised inasmuch as he is certain to receive Rs.46 per USD, irrespective of
the spot price on the date of delivery of the transaction. But in case the spot
price is Rs.48 per USD, there will be an opportunity loss of Rs.2 about which
the exporter is consciously taking the risk.

Option contracts :

Option contracts are slightly different from
forward contracts. They give the exporter a right to exercise the option of
buying/selling a foreign currency at a particular price, but the exporter is not
obliged to buy/sell if the spot market prices are favourable to him. This
involves a price which is called option premium upon payment of which the
exporter is hedged against adverse currency movement and also not liable to lose
in case of favourable currency movement.

In the above example, if the exporters takes an
option at 1USD = Rs.46, his minimum realisation is assured at Rs.46 on the date
of delivery. If the spot rate on delivery is above Rs.46, he can leave the
option unexercised and go for the spot rate. This right he acquires by payment
of an option premium.

Exotic options :

Exotic options are structured contracts which are extremely difficult for an ordinary exporter to understand. Among the most successful exotic option products are barrier options. The pay-off of a barrier option depends on whether the price of the underlying asset crosses a given threshold (the barrier) before maturity. The simplest barrier options are ‘knock-in’ options which become exercisable when the price of the underlying asset touches the barrier.

Crystallised losses v. Mark to Market losses:
The term ‘crystallised losses’ refers to the losses crystallised and debited to the exporter’s account whereas the term ‘Mark to Market’ losses’ (MTM) refers to losses computed as on a particular date with reference to prevailing exchange rate in respect of contracts that have not matured (open contracts). As per the recommendatory Accounting Standard 30, companies are required to account for the mark to market losses in their books despite the fact that the contract has not yet matured as at the balance sheet date.

The following issues arise in connection with the allowability of forex derivative losses:

    a. Whether losses on account of forex derivatives are to be considered in the threshold itself u/s.28 as a business loss or they are in the nature of business expenditure subject to the restrictions u/s.29-44?

    b. Whether the MTM loss provided for in the books of an entity pursuant to AS-30 is allowable under the Income-tax Act?

    c. Whether crystallised losses on account of forex derivatives including exotic option contracts settled otherwise than by delivery of foreign currency are speculative in nature and liable to be dealt with separately as per S. 43(5) of the Income-tax Act ?

    d. In cases where few assessees have challenged the validity of these contracts on the ground that they are wager in nature and void u/s.30 of the Contract Act, whether the said loss may be termed as speculative u/s.43(5) of the Income-tax Act?

    e. In cases where the exporters have gone to the Courts challenging the validity of the contracts under the Contract Act on the ground that they are illegal contracts, whether disallow-ance could be made under explanation to S. 37(1)?

Expenditure v. Loss:
The terms ‘Loss’ and ‘Expenditure’ have distinct meanings and are defined as follows in the Webster New Word Dictionary:

    a. Loss — the damage, disadvantage, etc. caused by losing something

    b. Expenditure — an expending/a spending or using of money.

This was highlighted in Allen (H.M Inspector of Taxes) v. Farquharson Bros and Co (1932) 17 Tax Cases 59 (KB) wherein the King’s Bench observed as follows:

“An expenditure relates to disbursement; that means something or other which the trader pays out; I think some sort of volition is indicated. He chooses to payout some disbursement; it is an expense; it is something which comes out of his pocket. A loss is something different. That is not a thing which he expends or disburses. That is a thing which, so to speak, comes upon him ab extra”.

Based on the above discussion, it is clear that the case of forex derivative losses squarely falls within the purview of the term ‘loss’ and cannot be termed as an ‘expenditure’.

Allowability of MTM losses

Recently, the CBDT has issued Instruction No. 03/2010, dated 23-3-2010 to assessing officers regarding the loss on account of currency derivatives. The crux of the said instruction can be captured as under?:

    1. In respect of MTM losses debited to Profit and Loss account, the Assessing Officers are instructed to disallow the same while computing the taxable income.

    2. In respect of actual or crystallised losses, the Assessing Officers are instructed to verify whether the losses are on account of speculative transaction as specified u/s.43(5) and decide in accordance with law.

The above instructions make it extremely difficult for claiming deduction for MTM losses provided for in the books in respect of open contracts in compliance with AS-30.

However, in a very recent order in the case DCIT v. Bank of Bahrain and Kuwait, (ITA Nos. 4404 & 1883/ Mum./2004 reported in www.itatonline.org) the Special Bench of Mumbai ITAT, while holding that MTM losses in respect of forward foreign exchange contracts debited to profit and loss account is allowable, has made the following observations?:

    i) A binding obligation accrued against the assessee the minute it entered into forward foreign exchange contracts.

    ii) A consistent method of accounting followed by the assessee cannot be disregarded only on the ground that a better method could be adopted.

    iii) The assessee has consistently followed the same method of accounting in regard to recognition of profit or loss both, in respect of forward foreign exchange contract as per the rate prevailing on March 31.

    iv) A liability is said to have crystallised when a pending obligation on the balance sheet date is determinable with reasonable certainty. The considerations for accounting the income are entirely on different footing.

    v) As per AS-11, when the transaction is not settled in the same accounting period as that in which it occurred, the exchange difference arises over more than one accounting period.

    vi) The forward foreign exchange contracts have all the trappings of stock-in-trade.

    vii) In view of the decision of the Supreme Court in the case of Woodward Governor India (I) P. Ltd., the assessee’s claim is allowable.

    viii) In the ultimate analysis, there is no revenue effect and it is only the timing of taxation of loss/profit.

This creates an interesting situation whereby there is a Special Bench decision which allows MTM losses, whereas CBDT Instruction mandates disallowance. It appears that the instruction from CBDT was not pointed out to the ITAT. Also, the question in the said case was whether MTM loss was a real loss or notional loss and the issue of speculation under 43(5) was not an issue before the ITAT.

On this background, whether we can take the benefit of this Special Bench order for claiming allowability of MTM losses despite the instruction to the contrary by the CBDT remains to be seen.

Allowability of crystallised losses u/s.28:

There is no clear-cut instruction in the above CBDT Instruction dated 23-3-2010 to disallow the crystallised loss on account of currency derivatives. If it is accepted that currency is not a commodity and the loss in question is only a business loss and not a business expenditure, there is ample scope for getting deduction for the actual crystallised loss on account of currency derivatives.

In the case of Ramachandar Shivnarayan v. CIT, (111ITR 263), the Supreme Court observed that:

“there is no specific provision to be found in either of the two acts for allowing deduction of a trading loss….but it has been uniformly laid down that a trading loss not being a capital loss has got to be taken into account while arriving at the true figures of the assessee’s income in the commercial sense. The lists of permissible deductions in either acts is not exhaustive. If there is a direct and proximate nexus between the business operation and the loss or it is inci-dental to it, then the loss is deductible, as without the business operation and doing all that is incidental to it, no profit can be earned. It is in that sense that from a com-mercial standard, such a loss is considered to be a trading one and becomes deductible from the total income, although, in terms of neither the 1922 Act nor in the 1961 Act, there is a provision.”

Also, in the case of Sutlej Cotton Mills Ltd. v. CIT, (116 ITR 1) the Supreme Court has held that loss on account of revaluation of foreign currency is a trading loss to the extent it does not relate to any capital asset and accordingly allowable.

Similar view was expressed by the Supreme Court in the case of Badridas Daga v. CIT, (34 ITR 10), wherein it was held the embezzlement by an agent is incidental to the carrying on of business and accordingly allowable.

To sum up, a loss will be allowable u/s.28 if the following conditions are satisfied:

    a) It should arise or spring directly from or be incidental to the carrying on of a business operation;

    b) There should be direct or proximate nexus between the business operation and the loss;

    c) It should be a real loss and not notional or fictitious;

    d) It should be a loss on revenue account and not on capital account;

    e) It must have actually arisen and been incurred, not merely anticipated as certain to occur in future; and

    f) There should be no prohibition in the Act, express or implied, against the deductibility thereof.

Whether forex derivative loss satisfies the above conditions?
Losses on account of forex derivatives satisfy the above conditions and are squarely covered by the judgments referred above because of the following reasons?:

    a) Forward and option contracts are used to hedge currency exposure.

    b) Most of these forward contracts are settled by delivery of currency.

    c) Forex derivative contracts are entered into with a view to make good the loss incurred on account of rupee appreciation by earning some profits.

    d)  Loss on account of forex derivative contracts springs directly from and is incidental to the carrying on of business.

    e) The loss is not incurred on a capital account or fixed assets so as to make it a capital loss.

    f) There exists a direct and proximate nexus between export business and the loss on account of forex derivatives.

Applicability of S. 43(5):

S. 43(5) defines ‘speculative transaction’. One view could be that that the term ‘commodity’ as used in S. 43(5) includes foreign currency also and hence the forex derivative contracts settled otherwise than by delivery of currency are nothing but speculation on currency movement.

The above argument is not tenable in law because of the following reasons:

a) The term ‘commodity’ is defined neither in the Income-tax Act nor in the General Clauses Act.

b) Dictionary meaning of the term ‘commodity’ is ‘raw material or agricultural product that can be bought and sold — something useful or valuable’.

c) Another definition for the term ‘commodity’ is ‘any product that can be used for commerce or an article of commerce which is traded on an authorised commodity exchange is known as commodity’. The article should be movable of value, something which is bought or sold and which is produced or used as the subject of barter or sale.

d) In short, commodity includes all kinds of goods. The Forward Contracts (Regulation) Act, 1952 (FCRA) defines ‘goods’ as ‘every kind of movable property other than actionable claims, money and securities’.

e) The Delhi Bench of ITAT in the case of Munjal Showa Ltd. v. DCIT, (94 TTJ 227) has held as under:

“Foreign currency or any currency is neither commodity nor shares. The Sale of Goods Act specifically excludes cash from the definition of goods. Besides, no person other than authorised dealers and money changers are allowed in India to trade in foreign currency, much less speculate. S. 8 of the Foreign Exchange Regulations Act, 1973, provides that except with prior general or special permission of the RBI, no person other than an authorised dealer shall purchase, acquire, borrow or sell foreign currency. In fact, prior to the LERMS, residents in India were not even permitted to cancel forward contracts. The presumption of any speculative transaction is, therefore, directly rebutted in view of the legal impossibility and in view of the fact that foreign currency was neither commodity nor shares.”

    f) The Special Bench of ITAT Kolkata in the case of Shree Capital Services Ltd. v. ACIT, (121 ITD 498) has held that derivatives with underlying as shares and securities should be also considered as commodities as the underlying shares and securities as specifically included within the term commodities. Accordingly transactions in security derivatives are subject to the provisions of S. 43(5). However, a currency cannot be termed as a commodity so as to attract the provisions of S. 43(5).

    g) The Mumbai Bench of ITAT in the case of DCIT v. Intergold (I) Ltd., (124 TTJ 337) has held that profits from cancellation of forward exchange contracts are business profits and not speculative profits.

    h) The Calcutta High Court in the case of CIT v. Soorajmull Nagarmull, (129 ITR 169) has held that where in the normal course of business of import and export of jute, the assessee entered into foreign exchange contract to cover up the losses and differences in exchange valuation, the transaction is not a speculative transaction.

Wager v. Speculation:
Some assessees, after incurring and paying the losses, have proceeded to challenge the validity of the contract under the Contract Act. There is a view that that since the assessees themselves are claiming the contracts as wager, the loss on account of the same is nothing but a speculation loss and accordingly subject to S. 43(5). This ground will not hold water because of the Supreme Court judgment in the case of Davenport & Co. P. Ltd. v. CIT, reported in (100 ITR 715) wherein the Apex Court has held as under:

“For income-tax purposes speculative transaction means what the definition of that expression in Expln. 2 says. Whether a transaction is speculative in the general sense or under the Contract Act is not relevant for the purpose of this Explanation. The definition of ‘delivery’ in S. 2(2) of the Sale of Goods Act which has been held to include both actual and constructive or symbolical delivery has no bearing on the definition of ‘speculative transaction’ in the Explanation. A transaction which is otherwise speculative would not be a speculative transaction within the meaning of Expln. 2 if actual delivery of the commodity or the scrips has taken place; on the other hand, a transaction which is not otherwise speculative in nature may yet be speculative according to Expln. 2 if there is no actual delivery of the commodity or the scrips. The Explanation does not invalidate speculative transactions which are otherwise legal but gives a special meaning to that expression for purposes of income-tax only.”

Applicability of explanation to S. 37(1):

Explanation to S. 37(1) inserted by the Finance Act 1998 with retrospective effect from 1-4-1962 reads as under:

“Explanation — For the removal of doubts, it is hereby declared that any expenditure incurred by an assessee for any purpose which is an offence or which is prohibited by law shall not be deemed to have been incurred for the purpose of business or profession and no deduction or allowance shall be made in respect of such expenditure.”

There is a view that the forex derivative contracts entered into in excess of the underlying foreign exchange exposure of the assessee are in violation of the guidelines of RBI and FEMA and therefore are hit by Explanation to S. 37(1).

The Supreme Court in Dr. T. A. Quereshi v. CIT, (287 ITR 547) has categorically held as under:

“Explanation to S. 37 has really nothing to do with the present case as it is not a case of a business expenditure, but of business loss. Business losses are allowable on ordinary commercial principles in computing profits. Once it is found that the heroin seized formed part of the stock-in-trade of the assessee, it follows that the seizure and confiscation of such stock-in- trade has to be allowed as a business loss. Loss of stock -in-trade has to be considered as a trading loss vide CIT v. S.N.A.S.A. Annamalai Chettiar, 1973 CTR (SC) 233: AIR 1973 SC 1032.”

Hence, the provisions of explanation to S. 37(1) are not applicable to the facts of our case as loss from forex derivatives is not business expenditure but a business loss.

To sum up:

    a) Loss from forex derivatives is a business loss and not a business expenditure and accordingly allowable u/s.28;

    b) MTM losses provided for in the books in compliance with AS-30 may be disallowed pursuant to specific instruction from the CBDT. However, the Special Bench of ITAT in the case of DCIT v. Bank of Bahrain and Kuwait, has held that these losses are allowable.

    c) Crystallised losses on account of forex derivative contracts are not speculative in nature within the meaning of S. 43(5) as the definition for speculative transaction is an exhaustive one and the term ‘commodity’ does not include currency;

    d) They cannot be termed as speculative simply because few assessees have challenged the validity of these contracts on the ground that they are wager in nature.

    e) Explanation to S. 37(1) is not applicable in view of the categorical finding of the Supreme Court in the case of Dr. T. A. Quereshi (supra) that the said Explanation is applicable only to business expenditure and not for business loss.

Registration — Gift deed in respect of immovable property requires registration — Registration Act S. 17

New Page 5

  1. Registration — Gift deed in respect of immovable property
    requires registration — Registration Act S. 17

[ Naranji Bhimji Family Trust v. Sub-divisional Officer,
Ramtek & Ors.,
AIR 2009 (NOC) 1934 (Bom.)]

The petitioner claimed to be owner and landlord of the suit
premises. The property originally belonged to one Shamji Naranji and in the
year 1962, by order of the Charity Commissioner, the said property was
included in Naranji Bhimji Family Trust and accordingly entry was also taken
in the city survey record in the year 1969. The petitioner-trust allowed
respondent No. 2 & 3 in the year 1980-81 to occupy the suit premises
consisting of five rooms and two verandahs, etc. as licensee. Respondent no. 3
had filed Regular Civil Suit seeking declaration that he was owner of the
property on the basis of oral gift. That suit came to be dismissed on
8-2-2005. According to the petitioner, they had repeatedly asked the
respondent nos. 2 and 3 to vacate the premises but they avoided.

The petitioner filed application u/s.43 of the Maharashtra
Rent Control Act, 1999 for eviction. The competent authority granted the
respondent leave to appear and contest the above application. The said order
was challenged, wherein the Court held that S. 123 of the Transfer of Property
Act clearly provides that for the purpose of making gift of immovable
property, the transfer must be effected by registered instrument signed by or
on behalf of the donor and attested by at least two witnesses. A gift of
movable property may be made either by registered instrument or by delivery.
Thus immovable property cannot be transferred unless a gift of the same was
made by a registered instrument. Oral gift of immovable property is not
permitted u/s.123 of the Transfer of Property Act. Similarly, S. 17 of the
Registration Act, 1908 makes registration of an instrument of gift of any
immovable property compulsory, irrespective of value of the property. Other
non-testamentary instruments, which purport or operate to create, declare,
assign, limit or extinguish any right, title or interest in immovable
property, the value of which is Rs.100 or upwards are required to be
registered compulsorily. It means that if the value of the property is less
than Rs.100, in case of such documents, they are not compulsorily required to
be registered. However, exception on the basis of the value of the immovable
property is not made in respect of instrument of gift of immovable property.
Thus, it was clear that S. 123 of the Transfer Property Act as well as S. 17
of the Regis-tration Act make registration of the instrument of gift deed of
an immovable property, irrespective of the value, to be compulsory. In view of
this, the ground taken by the respondents in defence of the application for
eviction was not permitted to be raised and proved. In view of this, the order
of competent authority granting leave to defend was set aside.

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Registration — Registration of sale deed pending — Purchaser cannot project himself as owner — Registration Act S. 17 and S. 49.

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  1. Registration — Registration of sale deed pending —
    Purchaser cannot project himself as owner — Registration Act S. 17 and S. 49.

[ Arun Bhusan Guha & Ors v. Amal Roy & Anr., AIR
2009 Calcutta 182]

The plaintiff executed the deed of conveyance for conveying
his right, title and interest in the suit property in favour of the opposite
party No. 2 on 14-11-2002. The registration of the said deed of conveyance was
kept in abeyance till March, 2006 due to non-payment of deficit stamp duty.
The registration of the said deed was completed in March, 2006 on payment of
deficit stamp duty. The question that arose for consideration was what is the
position in law about the title of the property during the interregnum period
between the date of execution of the deed and the date of completion of
Registration of the said deed as per the Registration Act ? Can the purchaser
project himself as owner of the said property during this interregnum.

The Court held that S. 17 read with S. 49 of the
Registration Act provides that title of the property was conveyed only on
registration of the said deed where registration was compulsory; therefore it
was difficult to hold that the purchaser can project himself as the owner of
the said property prior to the completion of registration of the deed of sale
as per the Registration Act.

So long as the registration was not completed, the
purchaser cannot project himself as the owner of the property in question,
though it was true that all trappings of ownership were traceable from the
date of execution of the deed after its registration was completed. So long as
the sale deed was not registered or in other words the registration of the
sale deed was not completed, it was not a valid document. Therefore, no one
could claim title on the basis of such invalid document before completion of
its registration. However, once the invalid documents gain validity on
completion of registration upon fulfilment of the requirement required for
registration thereof, the title of the purchaser would relate back to the date
of execution of the document by operation of law, but during this interregnum
period i.e., between the date of execution of the document and the
completion of registration thereof, the purchaser cannot project himself as
the owner of the said property though his title will relate back to the date
of execution of the said deed immediately on completion of registration of the
said document.

Since the vendor executed the said deed of transfer with an
expressed intention to convey his title in the property in favour of its
purchaser from the very date of its execution, either upon receipt of the
consideration money for such sale or upon receipt of the consideration money
in part with a promise made by the purchaser to pay the balance amount in
future, the vendor has a legal and moral obligation to protect the title and
possession of the property in question until registration of the deed of
transfer was completed, so that on completion of such registration, the
purchaser can enjoy the fruits of such transfer with retrospective effect from
the date of execution of the deed of sale.

Sureties — Co-sureties are liable to pay each an equal share of whole debt — Contract Act S. 146.

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  1. Sureties — Co-sureties are liable to pay each an equal
    share of whole debt — Contract Act S. 146.

[ Krushna Chandra Mallick v. Chief General Manager, SBI
and Ors.,
AIR 2009 Orissa 99]

The petitioner had filed a petition challenging the
impugned notice wherein the petitioner has been shown as one of three
guarantors for one principal borrower. The notice was issued pursuant to the
decree of the DRT providing for the joint and several liability of all the
three guarantors. The petitioner apprehended that his property would be put to
auction without touching the properties of other two guarantors who are family
members of the borrowers.

The Court held that liability u/s.128 of the Contract Act
is co-extensive to that of the borrower. S. 146 of the Contract Act provides
that co-sureties are liable to pay each an equal share of the whole debt. The
Court directed the Tribunal to dispose of the petitioner application after
hearing the legal and factual issues regarding application of the provision of
S. 146 of Contract Act and Rule 8(5) of the Security Interest (Enforcement)
Rule, 2002.

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